Four main Domestic Macroeconomic Policy goals are:

1
Four main Domestic Macroeconomic Policy goals are

• Achieve the highest sustainable rate of potential
  GDP growth.
• Prevent avoidable business cycle fluctuations.
• Maintain low unemployment.
• Maintain low inflation.

2
Potential GDP Growth

• Small difference in growth rates have a large
  effect on our future standard of living.
• The rule of 72
• 2 - 36
• 5 - 14.4
• 7.2 -10

3
Growth-Limiting Factors

• The limits to sustainable growth are determined
  by
• natural resources,
• environmental considerations,
• the willingness to save rather than consume.

4
Unemployment

• Too Much Productive labor is wasted and there
  is less accumulation of human capital.
• Too Little Expanding industries are slowed by
  the difficulty in hiring more workers.

5
Macroeconomic PerformanceReal GDP and Inflation
6
The Natural Rateof Unemployment

• What is the natural rate of unemployment?
• Estimates range as high as 6 to below 4.

7
Inflation

• When inflation fluctuates unpredictably, money
  becomes less useful.
• The rate of inflation may not matter as long as
  it is predictable.
• Inflation rates up to 3 could be stable prices.

8
Policy Indicators

• Long-term growth, the business cycle, and
  unemployment are linked.
• Inflation is mostly independent of real GDP
  growth over the long term.

9
Real GDP and Inflation
10
Determinants of Long-Term Growth

• National saving.
• Investment in human capital.
• Investment in new technologies.

11
Saving

• Private Saving.
• Government Saving (A negative Deficit).
• National Saving Private Saving plus Government
  Saving.
• Net Saving National Saving minus Depreciation.

12
Saving Rates in the US 19601999
13
How do we Increasing National Saving?

• Increase the Government Surplus.
• Increase private saving by tax policy.
• (The problems of incentives.)

14
Investment inHuman Capital

• Why dont people invest more in their own human
  capital?
• What is the social return to investment in human
  capital?

15
Investment inNew Technology

• It appears not to have diminishing returns.
• New technologies may have spill over effects.

16
Fiscal Policy Since 1960

• The 60s From mildly expansionary to strongly
  expansionary.
• The 70s Government spending soared after the
  first OPEC oil shock.
• The 80s Tax cut and large deficits followed by
  some spending cuts.
• The 90s Declining deficits from record high.

17
Fiscal Policy Record
18
Monetary Policy Trends

• The 60s M2 growth averaged 7 per year.
• The 70s M2 grew at over 10 per year.
• The 80s 90s M2 growth fell sharply after
  1983, to less than 1 today.

19
The Monetary Policy Record
20
To act or not to act?

• Should policy makers act, react or let the
  economy alone?

21
The Policy "Horse Race."

• How fast until policies have an impact?
• Automatic Stabilizers
• Monetary Policy
• Fiscal Policy

22
Policy Lags and the Economy

• From 5 months to 2 years.
• Can be counter productive.

23
Three Policy Rules

• Fixed-rule policies
• Feedback-rule policies
• Discretionary policies

24
Fixed-Rule Policies

• A fixed-rule policy specifies an action to be
  pursued independently of the state of the economy.

25
Feedback-Rule Policies

• A feedback-rule policy specifies how policy
  actions respond to changes in the state of the
  economy.

26
Discretionary Policies

• A discretionary policy responds to each change of
  the economy in a possibly unique way that changes
  as we learn.

27
Recession Starts
28
Reaction Under

• Fixed-rule policies
• Feedback-rule policies
• Discretionary policies

29
Are Feedback Rules Better?

• Feedback rules can reduce the damage from demand
  shocks.
• But
• Potential GDP is not always known.
• Policy lags are longer than the forecast horizon.
• Feedback-rule policies are less predictable.

30
What About Supply Shocks?

• Fixed-rule policies
• Feedback-rule policies
• Discretionary policies

31
Other Goals

• 1. Nominal GDP targeting is an attempt to keep
  the growth rate of nominal GDP steady.
• 2. Reducing the Natural Rate of Unemployment.
  How? The stick or the carrot?

32
Inflation Policy

• Avoiding demand-pull inflation.
• Avoiding cost-push inflation.

33
Did You Learn?

• What are the five macroeconomic policy goals?
• What are the factors that limit, and what are the
  determinates of sustainable growth?
• Why it is hard to decide on how much unemployment
  is desirable?
• What are the issues between having an active
  (feedback or discretionary) and having a "fixed
  rule" macroeconomic policy?
• Why "credibility" in announcing an inflation goal
  is important?