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FIGURE 6 Average Inflation Rate Versus Average Rate of Money Growth for Selected Countries, 1992-2002

Source: International Financial Statistics.

2Milton Friedman, Dollars and Deficits (Upper Saddle River, N.J.: Prentice Hall, 1968), p. 39.

2Milton Friedman, Dollars and Deficits (Upper Saddle River, N.J.: Prentice Hall, 1968), p. 39.

Money and Interest Rates

In addition to other factors, money plays an important role in interest-rate fluctuations, which are of great concern to businesses and consumers. Figure 7 shows the changes in the interest rate on long-term Treasury bonds and the rate of money growth. As the money growth rate rose in the 1960s and 1970s, the long-term bond rate rose with it. However, the relationship between money growth and interest rates has been less clear-cut since 1980. We analyze the relationship between money and interest rates when we examine the behavior of interest rates in Chapter 5.

Conduct of Monetary Policy

Fiscal Policy and Monetary Policy

Because money can affect many economic variables that are important to the well-being of our economy, politicians and policymakers throughout the world care about the conduct of monetary policy, the management of money and interest rates. The organization responsible for the conduct of a nations monetary policy is the central bank. The United States' central bank is the Federal Reserve System (also called simply the Fed). In Chapters 14-18 and 21, we study how central banks like the Federal Reserve System can affect the quantity of money in the economy and then look at how monetary policy is actually conducted in the United States and elsewhere.

Fiscal policy involves decisions about government spending and taxation. A budget deficit is the excess of government expenditures over tax revenues for a particular time period, typically a year, while a budget surplus arises when tax revenues exceed government expenditures. The government must finance any deficit by borrowing, while a budget surplus leads to a lower government debt burden. As Figure 8 shows, the budget deficit, relative to the size of our economy, peaked in 1983 at 6% of national output (as calculated by the gross domestic product, or GDP, a measure of

Interest Rate (%) 16

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