Anatomy of a Liquidity Crisis and Recession: Case Study on the Banking Collapse of 2007-8 and Recession 2007-10

Please find attached the instructions (ONLY ANSWER QUESTION #1) and some supplemental materials. INSTUCTIONS FOR PAPER Your final paper should be at least four full pages excluding reference(s), not to exceed six pages including reference(s). Formatting Instructions: The paper should have a cover page showing the group number and the names of the people in your group. The cover page is not included in the minimum page requirement. You may use 1-inch margins all around, with a header or footer for page numbers. You may use a 12-point font: Times New Roman, Century Schoolbook, Cambria, Palatino, anything in that size range, preferably with serifs. There are five questions you are asked to address (described below). Please answer the questions sequentially. Your answer to one question might be more than one page if you have more to say about that question, and less than one page for another question. So please do not start each question on a new page but have your answers follow one another directly so that the paper in total does not exceed six pages. Sources: I would like you to go to at least one outside source other than the data and graph sets you were given, to obtain a more complete picture of any issue that interests you and to help formulate your opinion. If you use information from the data and graph sets you were given, you do not have to reference these. But any outside sources should be listed at the end of the question. These should be numbered for reference inside the text, i.e. [1], [2], and then numbered as references at the very end of the paper. For any internet references, please give the last update for the page if this appears (usually in lower right-hand corner) and the date you accessed it. Required Questions: 1. In your opinion, could the Federal Reserve Bank have averted the crisis by setting up Special Facilities more quickly to protect the liquidity of the banks? If yes, how early would you have recommended intervention? How would earlier intervention, or a different kind of intervention, have discouraged the banks from hoarding their reserves? 2. In your opinion, was the American Reinvestment and Recovery Act of 2009 successful in averting an even worse recession, or did it have little to no impact? Should the amount of spending have been greater? Should it have been allocated differently? Do you accept the existence of a ‘natural unemployment rate?' 3. What is your opinion about the US public debt? Should we choose a recessionary economy until the debt is reduced? Would government investment in infrastructure allow us to “grow out of the debt” (raise business and tax revenues without raising tax rates)? Should we raise tax rates on the wealthy until the debt is reduced? 4. How serious is our trade deficit and our balance of payments deficit? What steps could the government take to discourage outsourcing, to reduce our consumption of imports, and to discourage foreign take-over of US companies? Your Choice of Questions: Address at least one 5. Would you favor stricter regulation of the Federal Reserve Bank, requiring them to restrict increases in the money supply to the rate of growth in the real economy, perhaps not on a year-to-year basis but over some reasonable period of time? If no, why do you think discretion to intervene is more important than price stability? If yes, how do you think such legislation should be structured, in terms of the time period within which growth rates must be compatible, and the mechanism by which the money supply would shrink? For example, if government debt has to be removed from the balance sheet of the Fed to reduce the amount of cash in banks, should there be a companion restriction on new government debt over that same time period? 6. Would you favor a balanced budget amendment, removing from the Federal Government the power to run a counter-cyclical deficit? (Again, perhaps not on a year-to-year basis but over some reasonable time period.) If yes, offer other mechanism(s) for reducing unemployment and/or avoiding deep recessions and explain how these would avoid the problems of government spending so that a ‘fair' trade-off was being made between the short-run and long-run health of the economy. 7. Would you favor using tax credits to reward companies that keep their jobs in the US and create new jobs here? Conversely, would you favor using taxes to punish companies for taking their jobs abroad? Or is it your view that standard of living simply has to decrease in the United States because we are no longer a globally competitive work force? What are some of the trade-offs involved in losing jobs to countries where the cost of production is lower? Grading Rubric: The final paper is 9% of your final grade - Minimum requirements are met: 5.0 points Three required questions and one choice question are addressed. One outside source beyond data and graph sets is included. Responses are argued from actual data, e.g. growth rate of government debt, inflation rate, savings rate, bank liquidity, balance of payments, etc. and not from generalizations about the government or the Fed. - Responses are structured as Thesis and Arguments: + 3.5 points Thesis and simple statement of two or three arguments is given in first paragraph, followed by one paragraph of development for each argument, followed by summary or closing paragraph. Examples of first paragraphs for first question: - Yes, the Federal Reserve could have averted the crisis by acting sooner because the early failure of Bear-Stearns and Lehman Brothers was a clear indicator of crisis, removing toxic assets immediately would have restored confidence, and it took almost a year before commercial banks began denying credit to the economy at large. - No, the Federal Reserve could not have averted the crisis by acting sooner because accounting rules made bankruptcies inevitable, the Federal Reserve does not control valuation of the housing market, and the unregulated financial instruments were not under the control of the Fed. More than one outside source is referenced: + 0.5 points A Word about Sources and Critical Reasoning: The questions are “opinion” questions in that there is not one right answer, but you should support your opinion with reasoning that can be defended with theory and with reference to the way consumers, investors, and banks actually behaved during the crisis. If you make statements about tax rates, wealth and income distribution, inflation rates, etc., be sure you defend those statements with data and/or references. I will also be looking for a certain amount of neutrality in your sources. If you have doubts about the bias of your source, ask me. I can usually tell you which side of the aisle your source is on. Government data banks, such as those of the Federal Reserve Bank, Bureau of Economic Analysis, National Bureau of Economic Research, or the Economic Report of the President, are neutral insofar as the data is offered without explanatory narrative. The text of the ERP does, naturally, reflect the opinion of the Administration that created it. The Congressional Budget Office makes projections based on the conditions specified by Congress, whether those are realistic or not. So if you refer to CBO reports make sure you read the narrative that precedes the numbers and know what their assumptions are. A Word About the Amount of Discretion You Have in Developing Responses: Probably some aspect of the crisis will interest you more than other aspects of the crisis, for example the housing bubble that preceded the crisis. It is permissible to develop one topic and spend less time on the others, but please do not devote less than one-half page to any question.