Macroeconomics Chapter 36

Chapter 36: Six Debates over
Macroeconomic Policy

1. Should monetary and fiscal policymakers try to stabilize the economy?
2. Should the government fight recessions with spending hikes or tax cuts?
3. Should monetary policy be made by rule rather than by discretion?
4. Should the central bank aim for zero inflation?
5. Should the government balance its budget?
6. Should the tax laws be reformed to encourage saving? Debate #1
1. Should monetary and fiscal policymakers try to stabilize the economy?
• Changes in aggregate demand and aggregate supply can lead to short-run fluctuations in production and employment. • Monetary and fiscal policy can shift aggregate demand, and thereby, influence these fluctuations.
• But even if policymakers can influence short-run economic fluctuations, does that mean they should?

Debate #1
Pro: policymakers should try to stabilize the economy  When households and firms become pessimistic, for instance, they cut back on spending, and this reduces the AD for goods and services.
 This fall in AD, in turn, reduces the production of goods and services.
 Firms lay off workers, and the unemployment rises.
 Real GDP and other measures of income fall.
• Thus, when aggregate demand is inadequate to ensure full employment, policymakers should boost government spending, cut taxes, and expand the money supply.

Debate #1
• When aggregate demand is excessive, risking high inflation, policymakers should cut government spending, raise taxes, and reduce the money supply.
• Such policy actions put macroeconomic theory to its best use by leading to a more stable economy, which benefits everyone.

Debate #1

Con: policymakers should not try to stabilize the economy  Monetary and fiscal policy can be used to stabilize the economy in theory, but there are substantial obstacles to the use of such policies in practice.
 One problem is that monetary and fiscal policy do not affect the economy immediately but instead work with a long lag.
 Monetary