Week 3 Discussion Questions - Essay Example

Week 3 Discussion Questions Full March 19, 2009 Week 3 Discussion Questions Identify the conditions that should exist that make adjustable and fixed rate mortgages favourable to lenders and borrowers. Which would you suggest for a homebuyer at this time?Fixed rate mortgages are usually more expensive for borrowers (home buyers) than adjustable rate mortgages, because of the inherent interest rate risk. If interest rates increase, the adjustable rate mortgage cost will be higher while the fixed rate mortgage will be constant.

Effectively, the lender has agreed to shoulder the interest rate risk on a fixed rate loan by charging a higher interest rate. A fixed mortgage rate benefits the borrower (home buyer) by allowing him to anticipate the exact payments for the life of the loan. However, if interest rates are high, it is wise for the home buyer to consider an adjustable rate mortgage to avoid locking in to a high rate for the life of the loan. For lenders, an adjustable rate mortgage is more beneficial if the current interest rates are high, because interest rates are likely to return to lower rates in the future.

On the other hand, when interest rates are low, fixed mortgages are particularly advisable for home buyers as they have been in the past year. For example, the United States Federal Reserve in December 2008 slashed interest rates to their lowest level on record in an unprecedented attempt to combat a prolonged recession (Pykett, 2008). Hence, it is favourable for home buyers at this time to consider a fixed rate mortgage, as they are able to lock in to a favourable rate. 2. Some people say that Federal Reserve Bank is a strange institution.

What is your opinion? Do you see anything special for this institution?I consider the Federal Reserve Bank an institution in a dilemma, because its goals frequently conflict. For example, should the monetary policy implemented by the Federal Reserve Bank give priority to price stability or to full employment? Although price stability can help achieve optimal sustainable output growth and employment over the longer term, a move to restrain inflation would further aggravate slowdown in the economy (Mankiw, 2003).

On the other hand, a bid to combat unemployment would aggravate inflation. In such situations, the Federal Reserve Bank is in a dilemma and must determine whether to concentrate on battling increasing prices or on supporting the loss of employment and output. 3. Explain the impact current Federal Reserve Banks policy is having on your 1) personal decisions and 2) the decisions of your organization. Provide at least one example. (I work in the meat processing industry)The Federal Reserve Bank determines the federal funds rate at a level it believes will promote financial and monetary conditions consistent with attaining its monetary policy objectives, and it adjusts that goal in line with evolving economic conditions.

An alteration in the federal funds rate, or even a difference in expectations about the future level of the federal funds rate, can stimulate a chain of events that will influence other short-term interest rates, longer-term interest rates, the foreign exchange value of the dollar, and stock prices (Mankiw, 2003). As a consequence, changes in these factors will affect households’ and businesses’ spending decisions. The United States Federal Reserve in December 2008 slashed interest rates to their lowest level on record in an unprecedented bid to combat a prolonged recession.

The central bank aggressively decreased the federal funds rate to a range of between zero and 0.25 per cent. Its decision resulted in a decrease in the prime lending rates from 4 per cent to 3.25 per cent (Pykett, 2008).A decrease in interest rates, a lower exchange value of the dollar, and higher stock prices will encourage different types of spend­ing. The meat processing business I work in may reconsider investment projects previously believed to be minimally profitable because of lower financing costs.

Lower consumer loan rates will motivate me to purchase a car loan. Likewise, lower mortgage rates will make housing more affordable for me. Furthermore, decisions in monetary policy influence the exchange value of the dollar on currency markets. For example, the decrease in the value of the dollar connected to the decrease in interest rates (e.g. lower interest rates will make dollar assets look more unattractive) will improve U.S. exports by decreasing the cost of U.S. goods and services in foreign markets.

For the meat processing industry, this will make imported equipment and ingredients more expensive, which will encourage the purchase of domestically produced equipments instead. ReferencesMankiw, G. (2003). Macroeconomics. New York: Worth Publishers.Pykett, E. (2008). U.S. interest rates slashed to a record low of zero. News.scotsman. Retrieved 18 March 2009, from http://news.scotsman.com/world/US-interest-rates-slashed-to.4799202.jp