Long-Run Consequences of Stabilization Policies

3 Key excerpts on "Long-Run Consequences of Stabilization Policies"

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  Macroeconomics for Business

  The Manager's Way of Understanding the Global Economy

  • Lawrence S. Davidson, Andreas Hauskrecht, Jürgen von Hagen(Authors)
  • 2020(Publication Date)
  • Cambridge University Press

    (Publisher)

  More generally, long-run considerations constrain the extent to which AD policies should be used. With regard to fiscal policy, another long-run consideration arises from the fact that using government budget deficits to stimulate aggregate demand over an extended period of time results in the accumulation of large amounts of public debt. On the one hand, this may call into question the ability of the government to service its debt and undermine the government’s ability to raise further debt. The dire consequences of government debt crises have become visible recently in some European countries such as Greece, Portugal, and Spain. On the other hand, excessive government debt has been regarded as a cause of slow economic growth, implying that it impoverishes a nation in the long run. Business leaders should keep the long run in mind to know what to expect from the government’s monetary and fiscal policies. In this chapter, you will first see how macroeconomic equilibrium is different in the long run compared to the short run. Next, you will understand the long-run effects and consequences of monetary and fiscal policies. Finally, you will learn about certain institutional arrangements aiming at keeping monetary and fiscal policies in line with long-run exigencies. 6.1 Macroeconomic Equilibrium in the Long Run The crucial difference between the short and the long run lies in the behavior of the supply side of the economy and, in particular, in the behavior of wage setters and how they respond to changes in the general price level. The short run is defined by the assumption that wages do not respond fully to changes in the price level. Wages are rigid (or sticky) because of contractual agreements, transaction costs, imperfect information, and other causes. This implies that a change in the price level beyond the expected change causes real wages to fall, making it profitable for firms to employ more labor and produce more output.

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  Economic Events, Ideas, and Policies

  The 1960s and After

  • George L. Perry, James Tobin, George L. Perry, James Tobin(Authors)
  • 2010(Publication Date)
  • Brookings Institution Press

    (Publisher)

  The inflationary consequences of these attempts might be explained by orthodox economists as the result of overambitious unemployment targets; but it was all too natural for policymakers to reach the simpler conclusion that expansionary monetary policy always leads to inflation rather than growth—period. It might, incidentally, be worth mentioning a related problem: in an economy where the natural rate of unemployment shifts over time, how does one even know whether there is economic slack, or how big that slack actually is? Official estimates of output gaps now typically rely on some kind of smoothing procedure, like the Hodrick-Prescott filter. In effect, they estimate the economy's potential growth from a weighted average of past growth rates, and also assume that over the sample period, the average output gap has been zero. As a number of people have pointed out, this sort of procedure automatically interprets any sustained economic slump as structural; in a 1998 paper, following a suggestion by Robert Gordon, I applied Hodrick-Prescott to the Great Depression and discovered that the estimated U.S. output gap had been eliminated by 1935. 2 In other words, the effect of the uncertainty over where potential growth lies is to bias policymakers of depressed economies toward making low estimates of the amount of economic slack, suggesting that the payoff to Keynesian poli-cies, even if successful, would be small. The legacy of stagflation and its cousin Eurosclerosis, then, has been to instill skepticism among policymakers about the possibility of achieving much from stabilization policies. This skepticism has interacted with a new 2. Krugman (1998b). THE END OF STABILIZATION POLICY? 89 set of reasons not to stabilize, arising from increasing integration of goods and especially capital markets.

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  Econometric Model Performance

  Comparative Simulation Studies of the U.S. Economy

  • Lawrence R. Klein, Edwin Burmeister, Lawrence R. Klein, Edwin Burmeister(Authors)
  • 2016(Publication Date)
  • University of Pennsylvania Press Anniversary Collection

    (Publisher)

  We therefore suggest that, when analyzing the impacts of stabilization policies, we should be concerned with the time path of the effects of a policy change over some specific length of time, say one to three years, and should not be overly concerned with such abstract a question as whether the effects are first round or ultimate. Such distinctions are unlikely to be well defined in any case. Once this is admitted, however, we are no longer entitled to ignore detailed time response characteristics of each behavioral equation in our model. Stability characteristics of some truncated system, in which some critical variables are taken as exogenous and distributed lag structures of some important behavioral equations are omitted, are irrelevant for our purposes. 20 We shall now turn our attention to an outline of channels through which fiscal and monetary policies work in the Model of Table 1, and a discussion of some aspects of monetarists controversy. 3.3. Fiscal and monetary policies in the MPS Model and some aspects of monetarists controversy. Let us now look at the consequences of an exogenous increase in government expenditure, G, in the model in Table 1. We shall specify the monetary side of the policy a little later. Conceptually, as the initial condition for our experiment, we visualize the situation in which the economy has been moving along a golden age path, with all extensive variables growing at a constant rate and intensive variables remaining constant. Thus, whenever we speak of an increase or decrease in any variable, we mean an increase or decrease relative to the base path. An increase in G will increase X by the same amount through identity (1). In addition, it will increase Y but by less than the increase in G since Twill also respond to a change in X. These increases will induce increases in C and I, since equations (2) and (3) contain Y and X respectively.

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