Stabilization Policy and the Phillips Curve: Practice Problems and Solutions

Intermediate Macroeconomics Problems and Solutions - Section 11

See Mr. Stolyarov's complete index of Intermediate Macroeconomics Problems and Solutions here.

Problem 51: Which of these policy lags contribute to the reduced effectiveness of fiscal and monetary policy? More than one correct answer is possible.

(a) Division lags: The government needs to divide the economy into different sectors and interest groups and give each of them a custom-tailored solution to their problems. This takes time and resources.
(b) Supervision lags: There is not enough timely oversight of all branches that implement fiscal and monetary policy, and so there are insufficient guarantees that agreed-upon policy measures will actually be carried out.
(c) Decision lags: Governmental decisions take time to make - especially with regard to fiscal policy.
(d) Inflation lags: It takes time for an increase in the money supply to be reflected in prices.
(e) Information lags: It takes time for past economic data to be compiled and verified.
(f) Litigation lags: Any government agency wishing to implement fiscal or monetary policy changes is likely to get sued by the affected parties. This leads to prolonged legal battles before the policy gets implemented.
(g) Implementation lags: Even after a policy decision has been made, it takes time for it to be actualized and for its effects to be manifest.

Solution 51: The following are the three policy lags that explain why fiscal and monetary policy are "long and variable":

(e): Information lags: It takes time for past economic data to be compiled and verified.
(c): Decision lags: Governmental decisions take time to make - especially with regard to fiscal policy.
(g): Implementation lags: Even after a policy decision has been made, it takes time for it to be actualized and for its effects to be manifest.

Problem 52. Which of these phenomena may reduce the effectiveness of fiscal and monetary policy? More than one correct answer is possible.