Within the past few decades we have become a global economy, which adds great opportunity but also risk. Our global economy is affected by many more factors today and is connected deeply with other countries. How does this affect the United Sates?
It can affect us in many ways. Before analyzing our global economy it’s important to understand the basics of economics and apply them today in a global perspective. Even though, government and other country’s policies differ, it is still important to understand the basic concepts.
Some of the key economic concepts to be familiar with are: supply and demand, fiscal policy, monetary policy, economic indicators, business cycles, inflation, deflation and stagflation.
Supply and demand
In regards to supply and demand, the supply is the amount available of a particular good or service, and the demand is what buyers are willing to pay for that particular good or service.
The price of the good or service is the primary element that can control the supply or demand of the good or service. Typically if a business lowers the price of a good or service the demand will increase. Whereas, by raising the price of a good or service, the demand will decrease.
Fiscal and monetary policy
Fiscal policy is another major influence in our economy. This is when the government, under the direction of congress, influences our economic activity by taxing, borrowing or spending. Monetary policy on the other hand, controlled by the Federal Reserve, can increase or decrease the U.S. money supply. The Federal Reserve has many tools to assist with monetary policy:
1) Reserve requirement for banks
2) Increase or decrease the discount rate
3) Open-Market Operation (the purchase and sale of U.S. Treasury securities)
4) Margin requirements
With these tools the FED can act immediately to tighten credit or encourage it. Many times both fiscal and monetary policy are used together to control inflation in the hopes of having real economic growth.
Our economic activity can be measured by several factors and by using some leading indicators we can get a better feel on its activity. Some indicators that are important to track are: the average weekly hours of manufacturing production workers, average weekly new claims for unemployment, building permits for new housing, stock prices and our nation’s money supply. These allow us to see trends in our economic activity.
For many years economist have used business cycles to learn about trends in the market place. Typically, they can track expansion and contraction activity. Through research and historical market studies we have been able to provide an estimate on the time frame that our economy is in an expansion period or how long it has been in a contraction period. This may help investors to understand what stage we are at in the business cycle (Peak or Trough).
Inflation, deflation and stagflation
Next is understanding how our economy may react to an inflationary, deflationary or stagflation period. Each of these is very different and will cause our government, consumers and investors to treat their money differently.
During an inflationary period, we will experience a general increase of prices. This process will decrease the purchasing power of our U.S. dollar, hence, will slow spending. Whereas, in a deflationary period we will experience the opposite and see a decrease in the general level of prices. Usually consumers will spend more during these times. Stagnation is another concern and occurs when the production of a good has become stagnant and the price continues to rise. This can be very dangerous and cause an economic recession or even a depression. All of these must be in balance. If they get out of hand they can cause major shifts in our economy.
Having a general understanding of economic concepts can help investors learn about why our economy shifts and some of the important factors that need to be considered when investing in our evolving global economy.