First, it must stay in power—a need that is likely to limit the open to stabilization policy, particularly in periods of prosperity immediately before elections. In the monetary field, for example, an increase in commodity prices tends to reduce the real value of financial assets, and if the government does nothing to offset this by increasing the volume of financial assets in the system, private spending will tend to decline. Some economists have argued that this effect of fiscal policy on future taxes will lead consumers to change their saving. There is a recognition lag of at least two months because no policymaker pays much attention to reversals in data that occur for only one month. Many of these jobs may never come back. Another example is the postponement of certain military expenditures in the United States as an anti-inflationary measure during the boom of the mid-1950s, and, most notably, the tax cuts passed by Congress in 1964 and 1981 as a stimulus to economic expansion.
So, in essence the government will be 6 months behind the curve, when it comes to trying to jump-start the economy Action Time Lag: This is the time required between recognizing an economic problem and putting policy into effect. Government economic policy, measures by which a government attempts to influence the economy. Although a desire to control inflation has been at the heart of the recent rise to prominence of monetary policies in many countries, monetary policy can be used to affect a number of different facets of economic behaviour. It examines the use of fiscal policy during contractionary and expansionary gaps through aggregate demand and aggregate supply model. Moreover, increased involvement of the government in economic activity at the onset of recession strengthens the pessimistic expectations of the private entrepreneurs.
For a general introduction to monetary policy issues, let me recommend the Federal Reserve Bank of San Francisco's publication,. If economists forecast well, then the lag would not matter because they could tell Congress the appropriate fiscal policy in advance. This attempts to do for government programs what the forces of the marketplace do for business programs: to measure, and compare in terms of money, the discounted streams of future benefits and future costs associated with a proposed project. In this way, it influences employment, output, and the general level of prices. As quantitative easing has shown, it can take years before monetary policy has any real effect on the economy — as is the case when central banks and tax cuts can take years to have a verifiable impact.
On the basis of this experience, some economists have argued that a policy that did not attempt to counter the short-run swings in the economy would have been more successful in achieving stabilization. Instead, the internal structure of the economy evolves and changes and this process can take time. A third explanation, which applies perhaps to the years after 1948, was the between the United States and the , which raised defense spending in many countries. . If the discount rate is reduced, banks become more willing to extend credit to private borrowers because they can obtain funds themselves on easier terms. These problems are, of course, not confined to cost-benefit analysis.
Friedman is not rigid about any exact rate of increase in the money supply. In the 19th century, was primarily concerned with the allocative function. With the increase in asset prices, people will consume more services such as renting a house instead of purchasing it. Government also affects allocations by setting the legal and administrative framework within which the economy functions. Incomes policies have sometimes succeeded for short periods. German railways, for example, are entirely state-owned, and the law not only prevents competing railroads but severely restricts coach services and limits competitive trucking. Attempts to shorten the effect lag of fiscal policy have produced new policy tools.
In Belgium and the governments also have some discretionary powers to change tax rates without first asking the legislature. In addition, the benefits from expansionary policy are felt immediately, whereas its costs—higher future taxes and lower —are postponed until a later date. People with petrol cars still needed to get to work. In some, such as the United States, the emphasis has been, as suggested above, on changes in the interest rate and in the supply of money and ; in others, such as France, Italy, and Japan, the emphasis has been on the rationing of credit by the central bank. In time of unemployment the central bank may stimulate private investment expenditure, and possibly also household spending on consumer goods, by reducing interest rates and taking measures to increase the supply of credit, liquid assets, and.
In the very-long run, this may encourage more people to train as a nurse. When the government runs an expansionary fiscal policy, it adds to its stock of debt. Fiscal policy also changes the composition of aggregate demand. In the short-term demand is inelastic, therefore, we get a fall in the value of exports and the current account deteriorates. During a boom, when inflation is perceived to be a greater problem than , the government can run a budget surplus, helping to slow down the economy.
Similarly, because taxes are roughly proportional to wages and , the amount of taxes collected is higher during a boom than during a recession. Time lags and elasticity micro If price rises, then in the short-term, demand is often price inelastic. They found that on the average of 18 cycles, peaks in the rate of change in the money stock precede peaks in economic activity by about 16 months; and troughs in the rate of change in the money stock precede troughs in economic activity by about 12 months. However, over time, the higher interest rates may prevent future investment projects from being undertaken. Visit this to read about how the recovery is being affected by fiscal policies. Friedman, therefore, calls for an end to discretion in monetary policy. The problem of time lags There has been much discussion over the merits of discretionary policies as against automatic stabilizers.