Further constraints on stabilization policy

I. Read and memorize the following words, word-combinations and word-groups:

stabilization policy – політика стабілізації економічної кон'юнктури

E.g. It is important to remember that the crucial issue for stabilization policy is whether an economy moves towards full employment quite rapidly or quite slowly.

interest rate – ставка відсотка

E.g. Appropriate fiscal policy will be relatively more effective if stimulative policies do not affect interest rates by much or interest rates do not affect investment by much.

elasticity – еластичність; гнучкість

E.g. Long-term monetary policies will be affected by the income elasticity of demand for real money balances and the price-level elasticity of demand for nominal money balances.

monetary policy – грошово-кредитна політика

E.g. A stimulative monetary policy requires an increase in the money supply.

automatic stabilizer – автоматичний стабілізатор економіки

E.g. An automatic stabilizer is an expenditure law or tax law that automatically increases expenditures (or decreases taxes)when an economy enters a recession.

government transfer payments – урядові трансфертні виплати

E.g. Since more people are becoming unemployed during a recession, government transfer payments increase.

predictability – можливість прогнозування

E.g. Predictability is important in efficiently organizing economic activity and the inconsistency of expectations creates a less predictable economic environment.

II. Give English equivalents of the following:

відносна ефективність ставка відсотка

фінансово-бюджетної та довгострокова політика

грошово-кредитної політики можливість прогнозування

тимчасові зміни в доходах економічне середовище

урядові трансфертні виплати стимуляційні заходи

спад виробництва податкова політика

III. Fill in the blanks with appropriate words:

tax change recovery increase does not respond a boom

temporary demand increases expenditures output

1. The relative effectiveness of fiscal and monetary policies depends on the interest elasticities of investment demand and money _______.

2. The response of the demand for money to a change in the level of real _______ is also important to stabilization policy.

3. With a _______ tax cut, individuals should expect lower disposable income in the future because taxes will _______ after that.

4. To offset changes in desired investment requires a relatively large _______.

5. Consumption _______ fully to changes in income.

6. An automatic stabilizer is an expenditure law or tax law that automatically increases _______ when an economy enters a recession.

7. Government transfer payments automatically increase during a recession and automatically decrease during _______ or _______.

IV. Read and translate the text:

It is important to remember that the crucial issue for stabilization policy is whether an economy moves toward full employment quite rapidly or quite slowly. In short, the important question for much of macroeconomics is: How long is the long run?

Even if stabilization policies were useful because they could move the economy toward full employment or stabilize prices more quickly than the economy would of its own accord, there remains an important policy issue: What is the best way to stabilize the economy – with activist, countercyclical monetary and fiscal policies or with nonactivist, rules-directed monetary and fiscal policies?

The relative effectiveness of fiscal and monetary policies depends in part on how sensitive desired investment and the demand for money are to interest-rate changes or, in the jargon of economics, on the interest elasticities of investment demand and money demand.

Obviously appropriate fiscal policy will be relatively more effective if stimulative policies do not affect interest rates by much or if interest rates do not affect investment by much (that is, if crowding out does not occur).

Monetary policy will be less effective if either the demand for money is inelastic with respect to the interest rate or if desired investment is inelastic with respect to the interest rate.

The response of the demand for money to a change in the level of real output is also important to stabilization policy. Long-term monetary policies will be affected by the income elasticity of demand for real money balances and price-level elasticity of demand for nominal money balances. Because individuals use saving as a way of smoothing consumption relative to changes in income, temporary changes in income will not necessarily result in consumption changes of equal size. This poses a serious problem for fiscal policy. If a tax change, say a tax cut designed to stimulate aggregate demand, is perceived as temporary, individuals might increase consumption somewhat but are more likely increase their saving in order to smooth consumption. Why? With a temporary tax cut, individuals should expect lower disposable income in the future because taxes will increase after the temporary tax cut. Consumption does not respond fully to changes in income. To offset changes in desired investment which would otherwise lead to a change in aggregate demand, then, requires a relatively large tax change. In addition if the tax change is viewed as temporary, consumption may not change.

Temporary change in tax policy will not affect consumption much since consumption is determined by expectations about income over a long period of time.

An automatic stabilizer is an expenditure law or tax law that automatically increases expenditures (or decreases taxes) when an economy enters a recession, and automatically decreases expenditures (or increases taxes) when an economy enters a period of inflation.

A second source of macroeconomic stability is the relative stability of government expenditures through economic cycles. While investment and, to some degree, consumption expenditures rise and fall with the economic cycle, the relative stability of government expenditures means that these expenditures become relatively more important during recessions and relatively less important during booms.

A third source of macroeconomic stability is the government's transfer system. During a recession, individuals automatically qualify for welfare and unemployment compensation should they become unemployed. Since more people are becoming unemployed during a recession, government's transfer payments increase. Conversely, during a recovery or a boom when the unemployment rate decreases, so do unemployment and some transfer payments.

Government transfer payments automatically increase during a recession and automatically decrease during a recovery or boom, thereby automatically stabilizing the economy.

An important reason for rule-governed policy is that expectations about policy responses can influence how a policy affects an economy. Predictability is important in efficiently organizing economic activity and the inconsistency of expectations with the actual policies pursued will create a less predictable economic environment.

V. Answer the following questions:

1. Why will permanent tax cuts lead to larger increases in consumption than temporary tax cuts?

2. When will fiscal policy be more effective?

3. What are the main sources of economic stability?

4. What is an important component of aggregate demand?

5. What does the relative effectiveness of fiscal and monetary policies depend on?

6. When will appropriate fiscal policy be relatively more effective?

7. What will temporary changes in income result in?

8. What is an important reason for rule-governed policy?

VI. Define the following terms:

recession monetary and fiscal policies

automatic stabilizer predictability

interest rate to create a predictable economic

temporary tax cut environment

VII. Translate into English:

1. Тимчасові зміни в податковій політиці не впливають на рівень споживання. 2. У 1964 р. Конгрес знизив податки на 18 %, що зумовило підвищення рівня споживання. 3. Високий рівень податків автоматично стабілізує економіку. 4. За фінансовий 1980 рік зовнішній національний борг США стано­вив $121 мільярд. 5. Уряд США виплатив $12 мільярдів за відсотками. 6. Уряд повинен керувати грошово-кредитною та фінансово-бюджетною політикою. 7. Економісти не одностайні щодо стабільності сукупного попиту. 8. Трансфертні виплати уряду автоматично збільшуються під час спаду виробництва і зменшуються в період економічної стабільності.

VIII. Read and dramatize the following dialogue:

A.: The effectiveness of active stabilization policies, either fiscal or monetary, depends in part on the expectations of individual consumers and firms.

В.: І see, but this is an area of considerable dispute since it is difficult to know precisely how individuals form expectations and how expectations, once formed, change. What do expectations depend upon?

A.: Expectations depend upon the availability and costs of gathering information. For example, how rapidly the labor market returns to equilibrium depends upon how sticky nominal wages are.

B.: And what are nominal wages adjusted to?

A.: Adjustments in nominal wages depend very much upon the expectations that individuals have about the effect of changes in aggregate demand and policy responses on the price level.

B.: Even if everyone knew that the price level would decline (or increase), by how much it would decline may be a much more difficult issue.

A.: Yes, if the price level will decline a lot, nominal wages will also have to decline a lot in order to move the labor market back to full employment. If some people believe that the price level will only decline a little or perhaps not at all, unemployment will persist until these expectations change.

B.: This is a particularly interesting area because there is a considerable disagreement among economists.

A.: As you know economists are notorious for disagreeing about policy matters.

B.: And what is the source of policy disagreements?

A.: Some economists believe that the best way to maintain a steady growth in aggregate demand is for the government to pursue steady fiscal and monetary policies. These economists believe that aggregate demand is stable and they are in favor of no activist policies.

B.: What are they called?

A.: These economists are called «Monetarists» or more recently «The New Classical Economists». Other economists (so-called «Keynesians») believe that aggregate demand is quite unstable. These economists are in favor of active stabilization policies.

B.: And what can you say to summarize our discussion?

A.: Despite these disagreements there is an agreement that optimal stabilization policy tends to stabilize nominal GNP.

IX. Make up your own dialogue using the following expressions:

to maintain steady growth aggregate demand

to favor activist/nonactivist policies full employment

stabilization policies long-term policies

temporary changes income elasticity

to smooth consumption to offset changes

X. Change the following sentences into simple ones using the Subjective Infinitive Complex:

1. It is believed that optimal stabilization policy tends to stabilize nominal GNP. 2. It is reported that aggregate demand is stable. 3. It is expected that nominal wages will also decline a lot. 4. It was supposed that the effectiveness of active stabilization policies depended on the expectations of individual consumers and firms. 5. It is said that unemployment will persist.

XI. Change the sentences according to the model:

Model: It proved that you were right.

You proved to be right.

1. It seems that the circumstances have become strange indeed. 2. It seems that this is not the right key. 3. It turned out that the expectations of individual consumers and firms changed. 4. It chanced that he understood how hard it was.

5.It appeared that this was an area of considerable dispute.

6.It seems that they don't understand how rapidly the labor

7.market returns to equilibrium.

XII. Translate into English:

1. Кажуть, що експедиція зібрала дуже цікавий матеріал про природні ресурси цього району. 2. Вважають, що економісти дійшли згоди щодо ефективності грошово-кредитної політики. 3. Як повідомляють, податки зростуть. 4. Як відомо, можливість прогнозування є дуже важливою для організації економічної діяльності. 5. Здається, дедалі більше людей цікавляться економічними питаннями. 6. Сталося так, що тимчасові зміни в оподаткуванні вплинули на прибуток.

XIII. Communicative situations:

1.Speak about macroeconomic coordination problems.

2.Why do economists disagree on appropriate stabilization policies? Discuss it.