Barry Haworth
University of Louisville
Department of Economics
Economics 202

Macroeconomic Policymaking:

So Who's Right?

There are two general approaches to macroeconomic policymaking. We'll call them the passive approach and the active approach. Naturally, there are various shades of gray between these two extremes, but let's assume for a moment that we're faced with a choice between following one of these two approaches. To do so, we need to generalize the foundational beliefs of each approach.

Passive Active
Economy: Stable Unstable
Investment: Sensitive to Dr
(less to business conditions)
Sensitive to business
conditions (less to Dr)
Self-correcting mechanism: works fairly quickly works fairly slowly
Prices/wages: very flexible not too flexible
(rigid downwards)
Unemployment: voluntary
(any involuntary is brief)
voluntary + involuntary
SR AS (& PC): vertical
(or nearly vertical)
positive slope
(mostly horizontal)
LR AS (& PC): vertical probably vertical
Policy prescription: rules (prefer monetary) discretion (prefer fiscal)

Our list above leads to a variety of questions, including the following:

  1. How does each approach view the possible problem of crowding out?

  2. Why does each approach prefer different policy options?

  3. How long a time period might each approach prefer when attempting to balance the budget (e.g. balance annually vs. balance over the business cycle)?

  4. In which approach would we place the various groups mentioned in the text (Monetarists, Keynesians, Supply-Siders, etc.)?

[Note: remember that Dr means "change in interest rates"]