Transcript Recession

“The Economic Way of Thinking”
12th Edition
Chapter 15: Economic Performance
and Real-world Politics
1
Chapter Outline
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The Great Depression
What Happens in a Recession?
A Cluster of Errors
Monetary Mismanagement, Monetary
Miscalculation
Monetary Equilibrium
When is Monetary Policy Effective?
2
Chapter Outline
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The Case for Fiscal Policy
The Necessity of Good Timing
The government Budget as a Policy Tool
The Horizons and the Sequence of Effects
Deficits Unlimited
Why Not Government at All Levels?
Discretion and Rules
Who is at the Controls?
3
Introduction
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What difference does it make whetheer the
quantity of money in the hands of the public
grows rapidly or slowly?
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A comon view
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An excessive rate of growth in a society’s stock of
money will cause inflation
4
Introduction
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Questions
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What constitutes an excessive rate of growth?
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Is there such a thing as an insufficient rate of
growth?
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Does too little growth cause deflation（通货紧
缩）, or recession?
5
Introduction
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Even if we know the appropriate rate to prevent
these undesireable outcomes, does anyone have
the ability to bring it about?
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Are there other (perhaps better) ways to prevent
undesirable fluctations in the aggregate level of
economic activity?
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The Great Depression
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GDP fall:
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1930 - 9 %
1931 - 8%
1932 - 14%
1933 - 2%
Since WWII output declined in 2 consecutive
years only once:
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1974 - 0.6%
1975 - 0.4%
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The Great Depression
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In 1939 output reached 1929 level.
Per capita after tax income fell by:
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30% - 1929 to 1933
7% - 1929 to 1939
Unemployment rate= 19% average in 1930’s
Unemployment rate= 25% in 1933
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The Great Depression
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Marx and Engels (Communist Manifesto)
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Predicted calamity due to epidemic of
overproduction（源于生产过剩瘟疫的灾难）
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Claimed the epidemic would bring an end to
capitalism.
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What Happens in a Recession?
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Recession – to recede (retreat)
Recession
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Entail unintended and, thus, disruptive slowdowns
The result of frustrated expectations（预期落空）
Occurs when, for some reason, the number and
depth of the disappointments increase without any
compensating increase in the quantity and quality
of delightful surprises
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What Happens in a Recession?
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Production – undertaken in anticipation of a
demand for the product or service
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Recessions occur when demand falls short of
expectations
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When recession occurs, production and
employment are reduced.
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A Cluster of Errors（错误的集群）
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Recessions – accumulated mistakes
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A cluster of errors among participants throuthout
the economy
Thousands of entrepreneurs misread price signals
provided by the market process
Recessions – correction to prior period
accumulation of mistakes
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Production curtailed
Workers laid off
Capital liquidated at a loss
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A Cluster of Errors
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Questions
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Why would mistakes accumulate in an economic
system?
Why wouldn’t overly pessimistic decisions roughly
cancel out overly optimistic decisions?
How could so many people be mistaken?
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A Cluster of Errors
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Great Depression
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Worldwide in scope
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US – deeper and longer
Great Depression questions:
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Cause of the cluster of errors
Length and severity
14
A Cluster of Errors
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Authors contend the cause of errors
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Expansionary monetary policy of 1920’s
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Credit expansion
Boom to Bust
15
A Cluster of Errors
Milton Friedman
Murray N. Rothbard
(1912-2006)
(1926-1995)
University of Chicago
University of Nevada
Nobel Prize Winner 1976
Dean of the Austrian School economics
16
A Cluster of Errors
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Rothbard’s America’s Great Depression and
Friedman’s A Monetary History of the US
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Chanllenge the popular perspective
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That the Great Depression was caused by the collaplw
of the self-organizing properties of the market system
Provide arguments and evidence
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That the cause, and length and severity of the Great
Depression was a consequence of government policy
17
Monetary Mismanagement,
Monetary Miscalculation
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Credit expansion fueled by money expansion
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lowers interest rates
Over-investment
Unsustainable boom
If savings increase generated - sustainable
Recessionary bust
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Investment projects revealed as mistakes
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Monetary Mismanagement,
Monetary Miscalculation
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Credit expansion by central bank
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Lowers market rate of interest
Investors engage in projects previously
unprofitable (at higher cost of capital)
The investment bite is bigger than the
economy’s chew, so the system chokes
19
Monetary Mismanagement,
Monetary Miscalculation
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There is no logic reason why the bust need be
lengthy and severe
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The adjustment process, while painful, can be relatively
quick
During the Great Depression, this process of
adjustment was thwarted by government policies
that
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slowed down the process of adjustment
or actually set in motion new disturbances
20
Monetary Mismanagement,
Monetary Miscalculation
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The Great Depression should be viewed
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Not as an indictment（控诉） of the market
economy
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But as the major lesson in history on how
monetary policy disturb the coordination process
in economic life, both through expansion and
contraction of the money supply
21
Monetary Equilibrium
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Coordination central to the economic system
Although there may be macroeconomic questions,
there are in the end only microeconomic answers
What matters is the incentives and information that
individuals face
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That will lead them to successfully coordinate their actions
with others in the market
Or direct them to activities which result in coordination
failures
22
Monetary Equilibrium
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The monetary system is at the center of any
advanced economy
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Money by its nature cannot be “neutral” （中立）
because
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It provides the link to all exchange relationships throughout
the economy
Imbalance of the monetary system
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Have an impact on the pattern of exchange and production
in an economy
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Monetary Equilibrium
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From a monetary equilibrium perspective
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Goal of monetary policy should be to strive for:
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Monetary neutrality by keeping Quantity supplied =
quantity demanded
Then
Price stability, or stability of the purchasing power of
money
No seriously relative price distortions
24
When Is Monetary Policy Effective?
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The dominant opinion among economicsts
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Monetary policy might be effective in preventing
inflation
But it is largely ineffectively in countering
recession
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When Is Monetary Policy Effective?
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Monetary authorities can increase excess
reserves,but cannot compel banks to extend
loans
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Larger money stock may not produce
increase in spending
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Recession can create a confidence crisis
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Central Bank efforts may be for naught
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The Case for Fiscal Policy（财政政策）
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How can the the central bank or some other
agency of government persuade people to
borrow and spend?
One way would be
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to enhance confidence of households and
business decision makers
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The Case for Fiscal Policy
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How can the government help stimulate
spending at a time when fear and timidity rule?
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Public policy designed to enhance public
confidence
Increase spending directly with fiscal policy
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The Case for Fiscal Policy
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Fiscal Policy
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Using government budget to bring about desired
levels of spending.
The Keynesian Revolution
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The General Theory of Employment, Interest and Money
(1936)
Proposed controlling aggregate demand for fiscal policy
to counteract recessions
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The Case for Fiscal Policy
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Fiscal Policy options
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Changing government spending
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Changing taxes
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The Case for Fiscal Policy
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Questions:
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Did WWII confirm the power of fiscal policy?
How?
Why?
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The Necessity of Good Timing
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Effective fiscal policy requires knowledge
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Status of the economy
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Where the economy is headed
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Recognition time lag（认识上的时滞）
Diagnostic time lag （诊断上的时滞）
When policy will impact the economy
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Implementation time lag （实施方面的时滞）
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The Necessity of Good Timing
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Effective fiscal policy requires knowledge of
the future, but…
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Predicting the future changes the future, because
people read the predictions and act accordingly
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This is the paradox with which sciences of human
behavior must live
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The government Budget as a Policy Tool
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Congress has little control over the budget
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Fiscal Policy requires agreement
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Congress
President
Haste makes for increased risk of mistakes
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The government Budget as a Policy Tool
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Question
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Why not give the President and Council of
Economic Advisors the authority to implement
fiscal policy?
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Time Horizons and Politics（任期与政治）
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The time horizons of those who are entrusted
to construct and implement public policy is
important for the selection of the economic
policies that will in fact be pursued by the
government
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Time Horizons and Politics
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Changes in Aggregate Demand
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Affects output and employment before affecting
prices
Politically
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Expansionary policy is preferred over
contractionary policy because…
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Time Horizons and Politics
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Politically
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Favor policies yielding benefits on
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Well organized and well informed interest groups
In the short run
At the expense of costs borne by unorganized and illinformed mass of voters
The standard pattern in democratically
governed societies
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More frequent and severe recessions along with a
rising rate of inflation
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Time Horizons and Politics
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Milton Friedman (Nobel Prize winner in 1976)
and James Buchanan (Nobel Prize winner in
1986)
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Both suport “tying the government’s hands”
Both argued that rules would outperform
discretion in generating good economic policy
Friedman argued for a monetary rule
Buchanan argued for constitutional rules that
called for a balanced budget
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Deficits Unlimited（无限赤字）
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Why do budget deficits persist when there is
a majority support for a balanced budget?
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Answer
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There is no way to reduce the total budget while
expanding each individual item in it.
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Why Not Government at All Levels?
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Why don’t local governments do not produce
chronic（长期的） deficits?
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Answer
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Local governments do not have control over the
medium of exchange
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Why Not Government at All Levels?
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Why did national governments not produce
such chronic deficits within peacetime before
1970?
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Why has it only been within recent years that
other industrialized democracies started to
make deficits the rule rather than the
exception?
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Why Not Government at All Levels?
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Answer
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The demise of the once-strong prejudice against
government deficits (i.e., regarded as immoral)
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Strong majority convictions influence public policy
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Why Not Government at All Levels?
How did Keynesian economics impact our
willingness to accept federal budget
deficits?
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Why Not Government at All Levels?
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Keynesian（凯恩斯主义） analysis
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budgets don’t have to be balanced from year to year
they need noly to be balanced over the course of the
business cycle, with surpluses in periods of prosperity making
up for deficits in periods of recession
Popular belief among economists in 1960s and 1970s
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Anyone insisting on a balanced government budget just did
not understand “modern economics”
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Why Not Government at All Levels?
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The trouble with the new doctrine
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Its effect is to permit perennial（持久的） deficits
There is no fiscal period that can be identified with
“the course of the business cycle”
The surplus that is supposed to balance the deficit
never has to be balanced, it can always be
promised for the next year or the year after
The bias of the democratic political process takes
over and makes deficits the rule rather than the
exception
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Why Not Government at All Levels?
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Milton Friedman
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Inflation is everywhere and always a monetary
phenomenon
We can modify Friedman’s dictum（名言）
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Hyperinflationa are everywhere and always the
consequences of fiscal imbalances
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Discretion and Rules（自行决定和规则）
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Evidence from US in the 1970s suggest that
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The use of discretionary fiscal and monetary policy to
stabilize the economy actually increased its instability
But many people still believe that
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We do posses the knowledge and skills required to achieve
milder recessions and greater price stability through
aggregate-demand management
It failed only cecause the right people won’t in charge
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Discretion and Rules
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However, institutions should be evaluated
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Not on the assumption that angels（天使，品行高
尚的人） will run them
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Rather on the assumption that
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Government policies wil be controlled by politicians
Monetary and especially fiscal policies will be formulated
in the same political context that produces decisions on
import tariffs, highway construction
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Discretion and Rules
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An Alternative to Discretionary Fiscal and
Monetary Policy
1.
Government expenditures without reference to a
stabilization goal
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Discretion and Rules
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An Alternative to Discretionary Fiscal and
Monetary Policy
2.
Tax rates set to balance the budget over a
normal period
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Discretion and Rules
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An Alternative to Discretionary Fiscal and
Monetary Policy
3.
The Fed should maintain a steady hand on the
stock of money, either holding it constant or
allowing it to increase by some definite, known,
uniform, and moderate rate
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Who Is at the Controls?
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Would a balanced budget amendment
eliminate deficit spending and help stabilize
the economy?
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Answer
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A difficult task
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Who Is at the Controls?
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A budget is a prediction
Also, it wouldn’t prevent politicians from
timing and allocating transfer payments,
government purchases, or tax-law changes in
ways that destabilize the economy but
improve the reelection prospects of
incumbents
54
Who Is at the Controls?
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The functioning of the economy, along with
the functioning of government and every
other social institution, depends finally on
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Our mutual ability to secure cooperation
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Who Is at the Controls?
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Some instability seems to be an inherent
characteristic of a free enterprise system in
which
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Decisions are decentralized
No one knows what everyone else is doing or will
do
Most transactions occur throuth the medium of
money
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Who Is at the Controls?
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Big-picture questions:
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How smoothly and quickly do prices adjust to changing
conditions of demand or supply?
How smoothly and quickly do resources move about in
response to the new information that changing prices
present?
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These kinds of questions are notoriously hard to
answer to everyone’s satisfication
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Our judgements about what is possible are subtly
colored by our visions of what is desirable
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Once Over Lightly
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The Great Depression (1930) and changes in
economic theory.
Uncertainty
Economic collapse – recession
Changes in the volume of money
Cluster of errors – miscalculations
Policy of monetary equilibrium
58
Once Over Lightly
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Post WWII recessions and government
policies.
Federal Funds Rate
Fiscal Policy and Monetary Policy
Time Lags and Fiscal Policy
Economic forecasting and people behavior
Political delays cause timing problems
59
Once Over Lightly
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Policymakers controlled by political
processes
Stabilization policies affected by short time
horizons
Unanticipated change in rate of growth of
demand will affect output and employment
before costs and prices
60
Once Over Lightly
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Political process tends to produce chronic
budget deficits
Government contribution to economic stability
might be to do “less”
Discretion stabilization policy vs. fixed rules
Economic failures in late 1990’s renewed
debate over roles of governments and
markets
61