Exam 18: Alternative Perspectives on Stabilization Policy

Explain why each of the following statements is a rationale for conducting active or passive policy: a. Economic circumstances can change dramatically between the time that an economic downturn begins and the time when policy actions have an effect on the economy. b. Economists are not very accurate forecasters. c. Increases in government spending generate increases in economic output. d. Fluctuations in economic output have been less severe since World War II.

Passive economic policy seeks to:

Policymakers may be better able to achieve their goals using a fixed policy rule rather than using discretion if they face the problem of:

Many times a monetary policy does not have the effect on the economy that is desired by the regulator. Why does this happen?

A central bank operating with discretion can achieve the same outcome as the central bank committed to a fixed rule of zero inflation if:

Conducting fiscal policy so that G = T, where G is government expenditures and T is tax revenue, is an example of a(n):

What are two types of tools that economists use to forecast future economic developments?

Although real variables such as unemployment and real GDP are the best measures of economic performance, most economists do not advocate manipulating money supply directly to hit a real target because:

Arguments in favor of active economic policy include all of the following except:

Active economic policy seeks to do all of the following except:

The differing interpretations of the historical record of the Great Depression provide support for using:

According to Christina Romer, the reduction in real economic volatility in the period since World War II compared to the period before World War I is the result of improved economic:

All of the following could be considered automatic stabilizers except:

Automatic stabilizers start stabilizing the economy as soon as it deviates from its normal course. Explain with an example how this works in a recession.

According to advocates of rational expectations, traditional estimates of the sacrifice ratio are unreliable because they:

A situation where policymakers have the incentive to deviate from their initial course of action once other agents in the economy have acted is called a(n):

The following notice appeared on a full page of the Wall Street Journal on February 9, 2009: "There is no disagreement that we need action by our government, a recovery plan that will help to jumpstart the economy." -President-Elect Barack Obama, January 9, 2009 With all due respect Mr. President, that is not true. Notwithstanding reports that all economists are now Keynesians and that we all support a big increase in the burden of government, we the undersigned do not believe that more government spending is a way to improve economic performance. More government spending by Hoover and Roosevelt did not pull the United States out of the Great Depression in the 1930s. More government spending did not solve Japan's "lost decade" in the 1990s. As such, it is a triumph of hope over experience to believe that more government spending will help the United States today. To improve the economy, policymakers should focus on reforms that remove impediments to work, saving, investment and production. Lower tax rates and a reduction in the burden of government are the best ways of using fiscal policy to boost growth. The statement was signed by over 200 economists, including 3 Nobel Laureates. a. Comment on the extent to which the disagreement between the President and the economists involves a disagreement about whether policy should be passive or active. b. Identify the rationale(s) used to support the economists' position.

An argument in favor of allowing discretionary macroeconomic policy is that:

The fact that traditional methods of policy evaluation do not take into account the impact of policy on expectations is known as:

The Phillips curve describing an economy takes the form u = uⁿ - $\alpha$ ( $\pi$ - E $\pi$ ). The central bank directly sets the inflation rate to minimize the following loss function, L(u, $\pi$ ) = u + $\gamma$ $\pi$ ². The symbol u denotes the unemployment rates, uⁿ is the natural rate of unemployment, $\pi$ is the inflation rate, E $\pi$ is the expected inflation rate, and $\alpha$ and $\gamma$ are behavioral response parameters of the economy. Private agents form their expectations rationally before the central bank sets the inflation rate. The optimal inflation rate when the central bank operates using a fixed rule will be ______. The optimal inflation rate when the central bank operates with discretion will be ______.