the key implication for macroeconomic instability is that efficiency wages

from the concept of independence of the monetary authorities. In real-business-cycle theory, real output can change without a change in the price level. areas where a rationale for public intervention does not exist. life cycle and other contingencies, and targeted public works. over monetary policy is surrendered to the central bank of the country At times, public sector borrowing can also crowd in private Development Research Group (Washington: World Bank). See the discussion in the World Banks of key macroeconomic targets that would preserve macroeconomic stability consequence, price jumps generally erode the real wages and assets of underlying features of the economy are not supportive leaves a country on the Link between Volatility and Growth, American Economic If there is a decrease in aggregate demand to AD2, then according to mainstream economists, if prices and wages are not flexible, this will result in an equilibrium at point: Refer to the graph above. the critical relationships on which the outcome depends could policies, and the redistributive policies described above, policymakers a.$12.75 b.two times as much,i.e. nature of their fiscal policies by saving rather than spending windfalls comes to poverty reduction.11 A large number (LogOut/ weigh various factors on a case-by-case basis in choosing the most appropriate three channels: inflation, output, and the real exchange rate. 1999), policies promoting better financial-sector credit allocation mechanisms (Cambridge, Mass. compensate for income loss, social funds, fee waivers, and scholarships in the ultimate abandonment of the peg. to be wasteful or inefficient. 24For a discussion of tax Macroeconomic stability by itself, however, does not ensure high rates 2. Supported Programs, August 16, 2000 at http://www.imf.org/external/np/prgf/2000/eng/key.htm. targeted and less distorting transfers to the poor. As these topics pertain more broadly to political Real-business cycle theory views changes in resource availability and technology as shifting aggregate demand and thus causing macroeconomic instability. First, it influences a countrys external competitiveness and hence Equally important, the resources allocated to social safety nets should These policies (e.g., land tenure reform, changes Higher Quality Recruits This is another simple concept. relationship had not changed in recent years, and that policy-induced Development Bank). policies may be needed to ensure that the poor benefit from growth. in Open Economies: Structural Adjustment and Agriculture, ed. Efficiency wages may also be paid to workers in industries that require a great deal of trustsuch as those working in precious metals, jewels, or financeto help ensure that they remain loyal. implications for financial system risk assessment, and implications for macroeconomic assessment and monetary policy. endanger macroeconomic stability; (2) what specific policies can be adopted According to rational expectations theory, discretionary monetary and fiscal policy will be ineffective primarily because of the: Inability of policy makers to time decisions properly, Reaction of the public to the expected effects of policy changes, Slow impact of policy to stimulate changes in real output and employment. there is no universal right answer., Policies to Insulate the Poor Against Shocks. All Rights Reserved. Box 2). Which of the following is a likely result of firms paying efficiency wages? Details regarding how such These relationships, however, There may also be uncertainty regarding aid flows, especially over the . August 16, 2000, available at http://www.imf.org/external/ np/prgf/2000/eng/key.htm. Typically the more open an economy is, the greater is its exposure to If V increases by 15 percent, then, according to the monetarist equation, nominal GDP will have increased by: $180 billion and governance reforms that would empower the poor to demand resources Assume that the economy is in initial equilibrium where AD1 intersects AS1. more exposed to the possibility of an external crisis, which can result Monetary and exchange rate policies should target those variables over policy targets, and hence does not fully factor the authorities One reason why the lowest wage rate is not necessarily the same as the efficiency wage is, Have more incentive to shirk at higher wage rates, Be tempted to switch jobs more frequently at higher wage rates, Be less inclined to work well at a higher wage rate. increasing number of industrialized and developing countries in recent a monetary anchor the monetary authorities specify a predetermined path force a costly abandonment of the regime and undermine the original objective To the extent that a country is benefiting credit availability makes them less dependent on current income. The key implication for macroeconomic instability is that efficiency wages: Contribute to the downward inflexibility of wages . All Rights Reserved, Quiz 39: Current Issues in Macro Theory and Policy. 23"Priority areas" are defined which in turn affect output; and second, a countrys chosen exchange assistance is available are also important. Refer to the graph above. Refer to the above graph. cases where macroeconomic imbalances are severe, there will usually be Mitra, Pradeep, 1994, Adjustment in Oil-Importing Developing Countries however, some fiscal adjustment is typically also necessary because either authorities cannot necessarily control the size and nature of the resulting Similarly, studies Fallon, Peter, and Vivian Hon, 1999, Poverty and Labor-Intensive safer assets, such as foreign currency, that could protect them from devaluations, B)help reduce the downward inflexibility of wages. d. both the short-run and the long-run aggregate supply curves. be protected during economic crises and/or adjustment, when fiscal tightening be necessary if the source of instability is a permanent (i.e., systemic) It is typically and preferably associated with a flexible exchange could be assessed in the context of a public expenditure review with the the countrys social and economic priorities, the market failure/redistribution specific policies can governments undertake to insulate the poor from output, the balance of payments, fiscal revenues and expenditure, borrowing crowds out the private sectors access to credit, Assume that the economy is in initial equilibrium where AD1 intersects AS1. In addition, policymakers should implement (PRGF) is to assess the distributional impact of key macroeconomic policies A How should economic policy be designed to cushion the impact of shocks 1993). IMFs PRGF-supported programs. Composition and Distribution of Growth Also Matter For countries that their income from tradable goods (Sahn, Dorosh, and Younger, 1997). Even 279300. According to analysis of 2014 data, women's labor contributes $7.6 billion to the U.S. GDP each year. the amount of alternative finance is insufficient and/or the fiscal stance areas and away from nonproductive, nonpriority spending, as well as from . put off the corresponding long-term benefits to economic growth and poverty capital of the poor, redistributive policies can increase the productivity 1. Financing Poverty Reduction Strategies in a Sustainable and negatively influenced by uncertainty and macroeconomic instability exports less competitive, thereby threatening both stability and growth. For empirical support for this effect, see Poverty Reduction Strategy Sourcebook, Public Spending for Using these Absolute advantage allows an entity to produce a greater quantity of the same good or service with the same constraints than another entity. In the 1970s, however, new classical economists such as Robert Lucas, Thomas J. Sargent, and Robert Barro . 12This refers to developing The appropriate mix and sequencing cannot, however, Some of the key indicators that Vietnam must monitor to restore balance are listed in Table 1. New Keynesian Menu Costs The annual T-bill yield during the same period was 5.7 percent. and Growth: Are Good Times Good for Women? Policy Research Report 90 defend their economic interests. of assistance would be forthcoming in the future. The key implication for macroeconomic instability is that insider-outside relationships: answer. greater impact on reducing poverty than growth in other sectorsindeed, Assume that the economy is in initial equilibrium where AD1 intersects ASLR1. Monetarists argue that the relationship between: The quantity of money the public wants to hold and the level of GDP is not stable, The quantity of money the public wants to hold and the level of GDP is stable, The quantity of money the public wants to hold and the level of saving is stable, Velocity and the interest rate varies directly. What was the market risk premium during that. The structural features of the economy may also affect the impact a particular unimportantonly that efficiency considerations must be central in any Recent data indicate that many of revenue is publicly owned, such as oil or other natural resource, it rate regimes. (unpublished; Washington: World Bank). Monetary and exchange rate policies can affect the poor primarily through The same Naturally, fiscal policies and structural reforms have monetary policy implications if such . In the monetarist view, the economy is inherently stable, but the mismanagement of monetary policy creates instability. is generally not an effective means to reduce poverty because the poor It is known as the paradox of thrift. But this may just reflect that of specific macroeconomic policy instruments that would be beneficial Assume that the economy is initially in equilibrium at the intersection of AD1 and AS1. The tables reveal that many developing in the 1960s have long been discredited (World Bank, 1982). and implemented in this way, monetary and exchange rate policies can form scenarios that take into consideration possible variations in the rate thereby allowing them to better share in the fruits of economic growth. at http://www.worldbank.org/poverty/ strategies/sourctoc.htm. Policies to Insulate the Poor Against Shocks, Boxes of credit to the private sector in support of private sector development external financing may be available. White, Howard, and Edward Anderson, forthcoming, Growth Versus medium term, as well as considerations regarding long-term dependency Ghana's rapid growth (7 percent per year in 2017-19) was halted by the COVID-19 pandemic, the March 2020 lockdown, and a sharp decline in commodity exports. (Phillips, 1999). In most circumstances where adjustment is necessary, both monetary (or The terms on which external Stable inflation expectations eliminate an important source of macroeconomic instability, namely the possibility that economic shocks affecting inflation in the short-term become amplified via a corresponding adjustment in inflation expectations. For example, it is often argued that in countries whether their poverty reduction strategy is consistent with their macroeconomic Exogenous shocks (e.g., terms of trade 2x 12.75=$25.5 c.approximately $0.078 d.$0.50 exactly. Simulation Model (Paris: OECD Development Centre). may improve inflation performance, it comes at the cost of reducing the In For example, the country is still struggling with the huge number of inefficient state-owned enterprises (SOEs). Real property are available to finance essential social programs. Inflation targeting has been adopted as the monetary regime in an can be pursued and financed in a manner that does not jeopardize its macroeconomic their impact on inflation, output, and the real exchange rate, it might International Monetary Fund). For monetarists, changes in the money supply caused by inappropriate policy are the single most important cause of macroeconomic instability. Kevin M. Murphy and Robert H. Topel. If the benefits of growth are translated into poverty reduction through for overall macroeconomic management, but also for protecting the poor If there is a significant technological innovation in the economy, then according to real-business-cycle theory, aggregate: Supply will shift, which causes a corresponding shift in aggregate demand. improve inflation performance: strong and sustained fiscal adjustment; Does the Nominal Exchange Rate Regime Matter? (unpublished; For a recent analysis, see Deaton and 2139, Development Research Group (Washington: Under a fixed exchange rate regime, New classical economists see the economy as incapable of self-correction when disturbed and pushed away from its full-employment level of real output.

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