Lec 9 Macroeconomic policy debates.ppt

Lec 9 Macroeconomic policy debates.ppt - Macroeconomic...

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Lecture 9 Mentor: Pham Xuan Truong [email protected] Macroeconomic policy debates
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Content I Should policy be active or passive II Should policy be conducted by rule or discretion
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I Should policy be active or passive Thought 1: Macroeconomic policies should be active Some economists, such as William McChesney Martin, view the economy as inherently unstable. They argue that the economy experiences frequent shocks to aggregate demand and aggregate supply. Unless policymakers use monetary and fiscal policy to stabilize the economy, these shocks will lead to unnecessary and inefficient fluctuations in output, unemployment, and inflation. According to the popular saying, macroeconomic policy should “lean against the wind,’’ stimulating the economy when it is depressed and slowing the economy when it is overheated. To many economists the case for active government policy is clear and simple. Recessions are periods of high unemployment, low incomes, and increased economic hardship. The model of aggregate demand and aggregate supply shows how shocks to the economy can cause recessions. It also shows how monetary and fiscal policy can prevent (or at least soften) recessions by responding to these shocks. These economists consider it wasteful not to use these policy instruments to stabilize the economy.
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I Should policy be active or passive Thought 2: Macroeconomic policies should be passive Other economists, such as Milton Friedman, view the economy as naturally stable. They blame bad economic policies for the large and inefficient fluctuations we have sometimes experienced. They argue that economic policy should not try to fine-tune the economy. Instead, economic policymakers should admit their limited abilities and be satisfied if they do no harm. These critics argue that the government should take a hands-off approach to macroeconomic policy. At first, this view might seem surprising. If our model shows how to prevent or reduce the severity of recessions, why do these critics want the government to refrain from using monetary and fiscal policy for economic stabilization? To find out, let’s consider some of their arguments.
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I Should policy be active or passive Why macroeconomic policies should be passive Argument 1 Lags in the Implementation and Effects of Policies Economists distinguish between two lags that are relevant for the conduct of stabilization policy: the inside lag and the outside lag. The inside lag is the time between a shock to the economy and the policy action responding to that shock. This lag arises because it takes time for policymakers first to recognize that a shock has occurred and then to put appropriate policies into effect. The outside lag is the time between a policy action and its influence on the economy. This lag arises because policies do not immediately influence spending, income, and employment.
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