Economists are fascinated by the idea of money as a social institution— an agreement among individuals—that, if we keep it, makes our economic lives better and allows our economies to grow more rapidly. This contract is as important to modern society as the invention of the wheel, and in this course, you’ll learn much more about this contract and what it means to keep it.
By way of introduction to our study of money, this lecture explores the intimate connection between Wall Street and Main Street; much attention has been focused on this relationship as the United States has attempted to recover from the subprime mortgage crisis and the Great Recession.
Wall Street versus Main Street
- Our nation’s attempts to recover from the subprime mortgage crisis and the Great Recession were often discussed using the metaphor “Wall Street versus Main Street.”
- On October 3, 2008, as the subprime mortgage crisis was going from bad to worse and the Great Recession was showing itself to be much worse than the typical downturn, Congress enacted the Emergency Economic Stabilization Act of 2008. That act created the Troubled Asset Relief Program (TARP), which provided funds for the bailout of troubled financial firms. Over the coming months, the Federal Reserve and the Treasury used TARP funds aggressively to keep banks and non-bank financial firms from failing.
- At the same time, there was a populist outcry that the federal government should do more for Main Street, that is, for the workers and terms that were suffering because of the Great Recession.
The important lesson for us is that the “Wall Street versus Main Street” idiom is inherently flawed because the success of each of these entities is inextricably bound together. Neither can “win” without the other. Economies require efficient and ever- evolving financial institutions and markets in order to maximize their potential.
The Connection between Wall Street and Main Street
Why is it that the fates of Main Street and Wall Street are so closely intertwined? The reasons for this connection between financial matters and economic well-being can be boiled down to four:
- Stable value money is essential to efficient trade: Adam Smith, in his book the Wealth of Nations, argued that a nation becomes wealthy when it organizes its productive efforts to take advantage of specialization, but specialization is an inherently social activity. Producing an excellent product only makes sense if we can trade it for other things that we want but do not produce. Thus, trade is essential to wealth creation and improvement in the quality of life. Smith also tells us, however, that trade can be accomplished efficiently only in a society that has adopted money.
- Healthy banks are essential to the process of channeling funds from savers to investors: At its core, a bank is an institution that channels funds from savers to investors. This process is fundamental to economic growth. If those with productive ideas had to wait until they accumulated sufficient funds from their own saving before they acted on their ideas, little growth would occur.
- Efficient asset markets are essential to establishing values for debt instruments, currencies, and shares of stock: It’s important to know the value of financial instruments. One of the key reasons for the subprime mortgage crisis that led to TARP and contributed to the depth of the Great Recession was the simple fact that banks held large quantities of mortgage- backed securities.
- A well-designed and well-executed monetary policy is essential for an economy to keep in ation low and steady and keep resources fully employed: Monetary policy as we think of it today began with the creation of the Federal Reserve System in 1914. There is still, however, a great deal of disagreement, even among economists, about what constitutes a well-designed and well-executed monetary policy.