Economics Question: Why Raise Interest Rates

[patcox2]

All my life I have been hearing about the fed using interest rates to either prime the economy when its down or slow it down when its going too fast. When the economy is expanding too quickly, I am told that the fed needs to raise rates to slow it down.

This makes sense, raise rates, business and individual costs go up, less spending, okay.

My question is, wouldn't raising taxes do the same thing, with extra benefits?

When you raise interest rates, what happens? Well, people with invested capital make more money. Banks make more money. Poor people who owe money, they owe more. And the government, which owes more than anyone, pays more in interest.

So if the government wanted to slow the economy down, why not just raise taxes, instead of interest rates? The pain, theoretically, would be the same and it would be spread more evenly through society. But better yet, instead of it making the rich get richer and the banks get richer and starving the federal budget by increasing debt service, it would actually increase federal revenues, allow more services for the poor, maybe even do something about healthcare.

So why do we give our money to the moneylenders when we want to slow down the economy, instead of using it for good purposes?

[Worst Username Ever]

1. Raising taxes does do the same thing

but it takes an act of congress.

[Warpy]

2. Raising taxes is the way to go, but you have to be very careful

how you target those raises. Taxing people who are already barely able to keep body and soul together is what Bush wants to do, raising income taxes on working people the rich think don't pay enough, as a way to equalize the rates into a flat tax. This will kill what is left of the consumer economy and throw us into a depression.

Increasing taxes on small businesses employing less than 200 folks will have the same effect, since these businesses are usually marginal, too, and will not be able to meet demand for goods and services if they have to let people go.

That leaves the two GOP sacred cows, the sainted rich and the large corporation, neither of which now pays anything close to a fair share. Sweetheart loopholes have to be closed, no matter how much reelection money they've given Congressmen. Their rates have to be raised. The loophole allowing them to "headquarter" in a Bermuda mail drop has to be closed.

We are heading for a depression, folks, if that nitwit Bush and his merry band of neoclassical economists get back into power. This is what is at stake. Their way DOES NOT WORK. Make sure you say that whenever confronted by a true believer.

[sangh0]

3. That's only half the story

Interest rates are now set on the basis of whether we want to stimulate or slow down the economy. Because of our burgeoning deficit, our government needs to get people to lend the US Government money, and the interest rate we pay them on the loan is a VERY important factor in this. If inflation is running at 10%/year, no one is going to lend the USG money at a rate lower than 10%/year, or else they'd be losing money. In addition, whatever we pay lenders, it has to be compared to what other investments will pay, and what the risk level of those alternative investments might be.

[MajorFlaw]

4. You are missing the extent to which interest rates effect all of us

in very tangible areas. People who are trying to purchase a home, businesses which are deciding whether they can afford to expand, the actual market price of goods--which directly impacts on the ability of consumers to make purchases, are directly effected by debt service. These and many more important components of our capitalist system are hurt badly by higher interest rates.

This is not a decision by the Fed that higher interest rates would be better for us, they simply must do it for obvious and unavoidable financial truths. The bottom line is simple: When the government goes into debt, like right now, it competes against consumers and businesses on the borrowing market, which can and does only raise the price/rates. There is only so much money available to be borrowed, when there are more customers than there is product the price must go up. If you want to look at it from a different direction, I would ask you which you think is worse: Inflation or recession. I welcome your response.

[billyskank]

5. That's right

fiscal policy (taxation) can indeed be used to regulate the economy. This has fallen out of favour since the 1980s, when monetarism became fashionable.

[RollergirlVT]

6. the problem with your theory is...

that taxes are revenue for government. The more money the gov has to spend the more they spend, just like any other consumer. All you do is rearrange the demand (higher Gov. demand lower private demand) Only the private sector has less money to spend so only they demand less and vise versa for the gov. there is no overall reduction in demand. With higher interest rates it costs more to borrow and pays more to save. Thus consumers will choose saving over consumption slowing demand, cool the economy and hedge against inflation pressure.