SYLLABUS SECTION: GS III (ECONOMY)
WHY IN NEWS?
Recently, Federal Reserve raised the Federal Funds Rate (FFR) target by another 75 basis points in a bid to cool down inflation in the US at a four-decade high at 9.1% in June.
WHAT IS THE FFR?
- It is the interest rate at which commercial banks in the US borrow from one another overnight
- The US Fed can’t directly specify the FFR, but it tries to target the rate by controlling the money supply.
- When the Fed wants to raise the prevailing interest rates in the economy, it reduces the money supply, thus forcing every lender in the economy to charge higher interest
- The process starts with the commercial banks charging higher to lend to one another for overnight loans.
WHY IS THE FED TIGHTENING THE MONEY SUPPLY?
- to rein in inflation in the economy
- to dent the overall demand in the US economy
- reduced demand for goods and services is expected to bring down inflation.
WHAT IS A RECESSION, AND IS THE US CURRENTLY FACING ONE?
- The most common definition of recession requires the GDP of a country to contract in two successive quarters.
- the GDP has contracted by 0.9% in second quarter of 2022 IN Federal Funds Rate.
- the GDP had already contracted by 1.6% during the first quarter.
- Contracting GDP typically results in job losses, reduced incomes, and reduced consumption.
- In the US, it is the National Bureau of Economic Research (NBER), that typically declares a recession. And it defines recession a little differently.
- The NBER’s traditional definition of a recession is that “it is a significant decline in economic activity that is spread across the economy and that lasts more than a few months”.
- The committee’s view is that while each of the three criteria — depth, diffusion, and duration—needs to be met individually to some degree, extreme conditions revealed by one criterion may partially offset weaker indications from another.
What is the outlook for the US economy?
- The US economy is facing a situation of inflation at a four-decade high and, at the same time, unemployment rate at five decades low
- The monetary tightening has already resulted in GDP contraction in two successive quarters. But the inflation rate is still much higher than the Fed’s target rate of 2%.
Read more: UPSC CURRENT AFFAIRS
SOURCE: INDIAN EXPRESS