Question

Post a policy-action that you believe the government should do in the next six months (in terms of fiscal or monetary policy). Just focus on one policy action, but you must provide a good logical reasoning for why you think the government should take this action.

Answer 1

Three reasons why government should take a fiscal policy in next six months to fight with Covid 19-

The first task, above all others, is to slow the spread of COVID-19, the disease spread by the new coronavirus. In the short run, fiscal policy can only play a limited role, as the binding constraints are mostly on the technological side. The challenge is to give the right incentives to firms, as well as funding for federal agencies, to produce tests, explore drugs, and develop vaccines. All this spending is essential, existential, and expensive, but still small in macroeconomic and budgetary terms—less than 1 percent of Gross Domestic Product.

The second task is disaster relief—aiding the people and businesses affected by the economic shutdown. The economic losses are tremendous. A large proportion of households had no cash reserves even before this disaster. Already more than 16 million new unemployment claims have been filed, and many millions more Americans are out of work. On the business side, many small and medium-size enterprises, whose value represents 45 percent of American business, don’t have enough cash to survive more than a few months without assistance. The challenge here is to achieve the best trade-off between speed and targeting.

The third task is support of aggregate demand. In a normal recession, support of aggregate demand would be the priority for fiscal policy. But this is not a normal recession. In the short run, so long as confinement and lockdown constraints are on, potential output will remain much lower. The decrease in potential output under full lockdown and closing of nonessential businesses probably ranges between 25 percent and 40 percent. As long as lockdown is in effect, demand must also be permitted to decline by around that amount. Sustaining demand above output—say, through tax cuts for firms or households—may lead to rationing and inflation rather than an increase in activity.