policymakers have important decisions to make about whether and how to take acti
ID: 1112450 • Letter: P
Question
policymakers have important decisions to make about whether and how to take actions designed to change conditions in the macroeconomy. This is not an easy task! There are many considerations - Is the economy doing well on its own? If not, would policy help? What kind of policy - monetary, fiscal, both? Is the economy in an expansion or a recession? Should we engage in expansionary policy or contractionary policy? What particular type of action should we take? If monetary, do we buy bonds or sell bonds? If fiscal - should we change taxes or government spending? And should the change be an increase or a decrease? For all policy actions, remember how important timing is to taking the appropriate action in a way that will accomplish the intended outcome (to the extent that policymakers can influence it).
write to either the President (on fiscal policy) or to the Chair of the Federal Reserve (on monetary policy) describing a specific policy action that you believe should be taken at this moment in time (e.g., lower taxes or buy bonds) and explain why you would take the action (what is currently happening in the economy and what will this action accomplish?).
Explanation / Answer
For any country, policymakers need to study various aspects of the macroeconomy and bring in suitable policy.
1). Whether boom or recession- if the output and employment rates are declining then we have recession and if the rates are growing very fast then that can lead to speculation bubbles , inflation etc, so even boom needs to be controlled.
2).Expansionary or contractionary-to curb recession we take expansionary policies( fiscal or monetary ) and contractionary during boom. Expansionary means reducing taxes or increasing govt expenditure under FP, or increasing money supply ( through bond sale) under MP. Vice versa for contractionary.
3). Monetary(MP) vs fiscal(FP) - FP is mainly to boost consumption led growth while MP is majorly to drive Investment led growth. For example, young and developing countries like south asia with high poverty, FP is more affective to affect growth while MP is relatively less affective because financial institutions are not that developed and have low financial literacy.
Also FP can lead to inflation, crowding out of pvt investment, high fiscal deficit. So if any of these are already at problematic levels then FP should be avoided.
4). Taxes or govt expenditure- while using FP there is need to decide between these two. Lower taxes can boost pvt consumption while govt exp can help in boosting production by increasing govt demand, more infrastructural development to bring inclusion and lower logistical costs etc. Therefore, there is a need to see the position of the country on these parameters to find the best solution.
We can apply these and many other cost- benefit analysis to any country and according to its parameters can choose the tools.
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