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1. 2. 3. 4. 5. Shouldmonetaryandfiscal policymakerstry to stabilizethe economy? Shouldmonetarypolicybe madeby rule ratherthanby discretion? Shouldthe central bankaimfor zero inflation? Shouldthe governmentbalanceits budget? Shouldthe tax lawsbe reformedto encouragesaving?
1. Shouldmonetaryandfiscal policymakerstry to stabilizethe economy? Pro: Policymakers should try to stabilize the economy
The economyis inherentlyunstable,and left on its ownwill fluctuate. Policycan manageaggregatedemandin orderto offset this inherentinstabilityand reducethe severityof economicfluctuations. Thereis no reasonfor societyto sufferthroughthe boomsand bustsof the businesscycle. Monetaryand fiscal policycan stabilizeaggregatedemandand, thereby,productionand employment.
2. Shouldmonetarypolicybe madeby rule ratherthanby discretion? Pro: Monetary policy should be made by rule
Discretionarymonetarypolicycan sufferfromincompetenceand abuseof power.
To the extentthat central bankersally themselveswith politicians,discretionarypolicycan lead to economicfluctuationsthat reflectthe electoralcalendarthe political businesscycle. Theremaybe a discrepancybetweenwhatpolicymakerssay theywill do and whattheyactuallydo calledtimeinconsistencyof policy. Becausepolicymakersare so oftentimeinconsistent,peopleare skepticalwhencentral bankers announcetheir intentionsto reducethe rate of inflation. Committingthe Fed to a moderateand steadygrowthof the moneysupplywouldlimit incompetence,abuseof power,and timeinconsistency.
Reducinginflationis a policywith temporarycostsand permanentbenefits. Oncethe disinflationaryrecessionis over, the benefitsof zero inflationwouldpersist.
Con: The central bank should not aim for zero inflation
Zeroinflationis probablyunattainable,and to get thereinvolvesoutput, unemployment,and social coststhat are too high. Policymakerscan reducemanyof the costsof inflationwithoutactuallyreducinginflation.
4.
By shiftingthe cost of currentgovernmentbenefitsto futuregenerations,thereis a bias against futuretaxpayers. Deficitsreducenationalsaving,leadingto a smallerstockof capital, whichreducesproductivity andgrowth.
Reducingthe tax burdenon the wealthywouldleadto a less egalitariansociety. This wouldalso forcethe governmentto raisethe tax burdenon the poor. Raisingpublicsavingby eliminatingthe government s budgetdeficit wouldprovidea moredirect andequitablewayto increasenationalsaving.
Summary
Advocatesof activemonetaryandfiscal policyviewthe economyas inherentlyunstableand believepolicycan be usedto offsetthis inherentinstability. Criticsof activepolicyemphasizethat policyaffectsthe economywith a lag and our ability to forecastfutureeconomicconditionsis poor, both of whichcan leadto policybeing destabilizing. Advocatesof rulesfor monetarypolicyarguethat discretionarypolicycan suffer from incompetence,abuseof power,and timeinconsistency. Criticsof rulesfor monetarypolicyarguethat discretionarypolicyis moreflexiblein respondingto economiccircumstances. Advocatesof a zero-inflationtargetemphasizethat inflationhas manycostsand few if any benefits. Criticsof a zero-inflationtarget claimthat moderateinflationimposesonlysmall costson society, whereasthe recessionnecessaryto reduceinflationis quite costly. Advocatesof reducingthe governmentdebt arguethat the debt imposesa burdenon future generationsby raisingtheir taxesand loweringtheir incomes. Criticsof reducingthe governmentdebt arguethat the debt is only onesmall pieceof fiscal policy. Advocatesof tax incentivesfor savingpoint out that our societydiscouragessavingin manyways suchas taxingincomefromcapital andreducingbenefitsfor thosewhohaveaccumulated wealth. Criticsof tax incentivesarguethat manyproposedchangesto stimulatesavingwouldprimarily benefit the wealthyand alsomighthaveonly a small effect on privatesaving.