Unit 15: Debates over Macroeconomic Policy
Where economists who agree on the models still disagree on the judgment calls: rules against discretion, a balanced budget, and open trade.
4 topics · 13 questions
Each topic is a path, not a menu: work down it in order and every question builds on the one above. Click any of them to watch the answer draw itself.
Policy Rules Versus Discretion
- How it worksHow does committing to a rule in advance change the way workers and firms form their expectations, compared to case-by-case discretion?
- Common mistakeWhy isn't discretion obviously better just because it lets a central bank respond to whatever actually happens?
- Going furtherWhat happens to a central bank's credibility once it breaks a rule it had publicly committed to?
- Ties togetherHow does the case for rules over discretion grow directly out of the Lucas critique?
Your turn1 of 2
Under a fixed policy rule, expected inflation stays anchored at 2.2 percent. Under discretion, an economy experiences an inflation bias, ending up at 4 percent on average instead. What is the size of this inflation bias?Whether the Central Bank Should Target Inflation
- How it worksHow does anchoring expected inflation at a announced target make the whole economy easier to manage?
- Common mistakeWhy doesn't an inflation target force a central bank to ignore unemployment and output completely?
- Going furtherWhat happens to an inflation-targeting central bank's credibility once inflation overshoots the target for several years running?
Your turn1 of 2
A central bank announces an inflation target of 2.2 percent. Actual inflation comes in at 5.12 percent for the year. By how many percentage points did inflation overshoot the target?Whether the Federal Budget Should Balance Every Year
- How it worksWalk me through a strict balanced-budget rule forcing tax hikes or spending cuts right as a recession is already shrinking tax revenue.
- Common mistakeWhy isn't every year of government borrowing a sign of poor fiscal discipline?
- Going furtherWhat happens to automatic stabilizers once a balanced-budget requirement is written into law?
Your turn1 of 2
A strict balanced-budget rule requires spending cuts or tax hikes of 120 billion dollars the moment a recession shrinks tax revenue by that same amount. Using a spending multiplier of 3, by how much would this forced austerity shrink GDP, worsening the very recession the rule was meant to guard against?The Case for and Against Free Trade
- How it worksHow do the gains to consumers and efficient producers from trade compare in size with the losses to workers in import-competing industries?
- Common mistakeWhy isn't a tariff that saves jobs in one industry a free way to help the economy as a whole?
- Going furtherWhat happens to a country's overall output and prices once it raises tariffs on a wide range of imported goods?
Your turn1 of 2
Free trade offers consumers and efficient producers gains of 129 billion dollars, while workers in import-competing industries lose 46 billion dollars. What is the net gain to society from free trade?