Macroeconomic Policies

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COURSE AIMS

The aim of this course is to motivate the students with the use of simple analytical tools to discuss complex macroeconomic policy problems. The course is divided in two parts: one addressing economic growth and long term issues; the other addressing stabilization policies and monetary issues. The teaching includes the application of models already introduced in basic macroeconomics and the introduction of new tools, from the theory of economic growth, macroeconomics and monetary economics. This will help to improve the student’ understanding of the main mechanisms driving the behaviour of a small open economy in the short-run and in the long run. The applied nature of this course will materialize with the discussion of non-technical articles addressing real-life examples, mostly concerning emerging market economies.

LEARNING OBJECTIVES

On completion of this course a student should be able to:

A. Knowledge and Understanding:

• Describe the main forces driving per capita incomes in the long run;
• Discuss the role of policy in promoting long run growth;
• Formalize the macroeconomic policy dilemmas of a small open economy facing domestic and external shocks;
• Understand the fiscal aspects of inflation and exchange rate regimes.

B. Subject-Specific Skills:

• The neo-classical growth model; 
• The AK model; 
• Models of endogenous growth with distortions, public goods and government failures;
• A simple model of technological change and adoption;
• The small open economy (TNT) model; 
• Simple models for inflation, exchange rate determination and public debt dynamics.

C. General Skills:

• Read non-technical articles addressing issues of economic growth and international finance.
• Identify the main controversies concerning the role of policies and institutions in promoting macroeconomic stability and long run growth.

TEACHING AND LEARNING METHODS

The course will be delivered through two lectures (1.5 hours each) and one tutorial session (1.5 hours) each week. The theoretical arguments and analytical tools will be presented in the lectures. Exercises will be tackled in the tutorials. Non-technical articles with real life case studies will be addressed, so as to improve the student’ ability to articulate the different theoretical pieces.

COURSE CONTENT

Introduction: The Washington Consensus

I. Economic Growth

· The Neo-classical growth model

· Endogenous growth

· Externalities, public goods, distortions and corruption

· Policies and institutions for technological change

 II. Macroeconomic adjustment in a small open economy

· The dependent economy model

· Fiscal aspects of exchange rate regimes

· Institutions for price stability

· Riding on the storm (case studies, such as the debt crisis, stabilization with high inflation, Dutch disease, capital flow reversals) 

BIBLIOGRAPHY

The main references of the course are:

[E] Easterly, The elusive quest for growth, The MIT Press, Cambridge Massachusets. 

[SL] Sachs, J., Larrain, F., Macroeconomics in the global economy. Prentice Hall, 1993.  

[BW] Burda, M. and C.Wyplosz, Macroeconomics: a European text, Oxford University Press, 3th edition, 2001.

Other relevant readings include:

[PM] Montiel, P. Macroeconomics in Emerging Markets, Cambridge University Press, 2003.

NY.

 [J] Jones, C. , Introduction to Economic Growth, Norton, New York, 1998.

[M] Mankiw, Macroeconomics, 2nd edition, 1992.

[W] Weil, D. , Economic Growth, Pearson Addison-Wesley, 2005.

[KO] Paul Krugman and M. Obstfeld, International Economics: Theory and Policy, Addison-Wesley Longman, 5th edt, 2000,

Resources:

Most articles for discussion will be selected from the IMF publication Finance and Development, available in http://www.imf.org/external/pubs/ft/fandd/fda.htm.

Specifics articles to each topic will be introduced in the detailed course content (follow the links in the Course Content, above). 

ASSESSMENT

Two middle-term tests (25%) each and a final exam (50%).

Scientific calculators are not be allowed in the tests and exams.

Note that there are no alternatives to the middle-term tests!

Schedule :

Final Exam 2: grades.

Messages: Exam revision: MLF: Friday 29, 17h30, SS: Feb 3, 19h.

Previous tests and exams:

Final exam January 14 09

November 08

October 08

Final Exam 27 6 08

Final Exam 7 6 08

May 3 08

5 abril 08

Jan 29 08.  

Jan 14 08.

24 Nov 07

22 October 07.

solutions here

22 Jun 07

11 Jun 07

5 may 07

24 march 07

Detailed course content

Introduction: The Washington Consensus (L1, Sep 15)

Presentation: here

Dani Rodrik on trafic lights: "what's traffic in Hanoi and St. Petersburg got do do with institutional reform?" here.  More images: Hanoi1. Hanoi2. Hanoi 3 Hanoi 3. Hanoi 4. St. Petersburg.  

Readings:

• Roberto Zagha, Gobind Nankani, and Indermit Gill, Rethinking Growth, Finance and Development, March 2006.
• Beyond the Washington Consensus, Jeremy Clift, Finance and Development, Sept 2003.
• From Reform Agenda to Damaged Brand Name, John Williamson, Finance and Development, Sept. 2003.
• Anthony Elson, What Happened?, Why East Asia surged ahead of Latin America and some lessons for economic policy, Finance and Development, June 2006.

I. Economic Growth

Glossary here

The basic Solow model (L2 – Sep 17, L3 – Sep 22):

Diminishing returns and constant returns to scale: from Malthus to Solow. The Solow model. The fundamental dynamic equation. Factor prices and income shares. The steady state. Saving, population growth and per capita incomes in the real world. The productivity of capital in the steady state. Transition dynamics. The golden rule. Endogenous savings. (NA 12). (Exercises 12)

Exogenous growth (L4, Sept 24, L5 Sep 29):

Perfect technological diffusion. Labour augmenting technological progress. Transition dynamics. Interpreting growth patterns using the Solow model. Absolute and Conditional Convergence. Growth accounting The Solow model and international differences in per capita income. (NA 13, Easterly 3) . (Exercises 13)  

Endogenous growth (L6 Oct 1, L7 Oct 6)

The simple AK model (a baby explanation of how the AK model has been linked to policy here). Growth Engineering. The AK model and the convergence question. The Frankel model. Human capital externalities, agglomeration economies and learning by doing. The AK model with endogenous savings. The AK model with human and physical capital.  Levels or changes? NA 21, 22.  Easterly 2, 8. (Exercises 21 and 22)

• Lant Pritchett, The Quest Continues, FD March 2006.

Public Inputs (L8 Oct 8, L9 Oct 13)

Institutions. Property rights and contract enforcement. Public goods and publicly provided goods. The tragedy of the commons. Modelling the public as an externality. Congestion vs non-congestion. The aggregate production function. The after tax income shares. Government failures. The trade-off between public provision and taxation. The benevolent planner solution. NA 23. Exercises 23 24 25

Distortions (L10 Oct 15, L11 Oct 20, L 12 Oct 22, L13 Oct 27)

Distortions in the price of capital. Transport costs. Financial market imperfections. Misallocation in factor markets. Distortionary taxation. Tariffs and import protection. High inflation. Tax cum subsidy schemes. Dual exchange rates. The optimal provision of public goods under tax evasion. Externalities. The Tinbergen framework. The Washington Consensus. NA 24. 

• Ricardo Hausmann, Dani Rodrik, and Andrés Velasco, Getting the Diagnosis Right, March 2006.
• Danny Leipziger and Roberto Zagha, Getting Out of the Rut, March 2006.

Corruption (L14 Oct 29, L15 Nov 3, L16 Nov 5, L17 Nov 10)

What is corruption? Centralized versus decentralized corruption. The Klever Kleptocract. Dynamic considerations. Normative versus positive economics. Rent seeking. Decentralized corruption. A simple model of rent seeking and economic development. Addressing the agency problem. Other costs of corruption. Generalized corruption. Vicious cycles. NA 25. Easterly 12.

Readings for discussion :

• Corruption and Development, Cheryl W. Gray and Daniel Kaufmann Mar 98.
• Political Economy of Stalled Reforms, Oleh Havrylyshyn and John Odling-Smee, Sep 2000.
• Governance Matters: From Measurement to Action, Daniel Kaufmann, Aart Kraay, and Pablo Zoido-Lobatón, June 2000.

Transparency international home page: http://www.transparency.org/

II. Macroeconomic adjustment in a small open economy

The dependent economy model (L18 Nov 12, L19 Nov 17, L20 Nov 19, L21, Nov 24, L22 Nov 27)

Tradable and non-tradable goods. The real exchange rate. The effect of a demand expansion. Possible causes. The general equilibrium model. The Balassa-Samuelson effect. Why rich countries have higher price levels than poor countries? Macroeconomic imbalances and the real exchange rate. Expenditure shifts. Foreign debt and the real exchange rate. Dutch-Disease. The role of the real exchange rate in the adjustment process. Nominal rigidities. Intervention in a small open economy.  (SL 21. BW 7).  (The production side corresponds, with a slightly adaptation, to the Factor Specific Model, explained in KO 3). (Exercises C7)  

Readings for discussion:

• Dealing with Azerbaijan's Oil Boom, Christoph B. Rosenberg and Tapio O. Saavalainen, Set 98.
• Transition Countries' Choice of Exchange Rate Regime in the Run-Up to EMU Membership György Szapáry, June 2001.
• When countries get too much of a good thing, Christine Ebrahim-zadeh explains Dutch disease, March 2003.
• "Gaiola Aberta", Revisão de Provas, Semanário Económico, 2/11/2001.
• "A Taxa de Câmbio Real em Portugal", O Economista, Anuário de Economia Portuguesa Nº 5, 1992.

Money and Inflation (L 23 Dec 3):

The quantity theory. The classical dichotomy. The Fisher effect. The nominal interest rate and the demand for money. Money, inflation and the interest rates in the long run. How to stop a hyperinflation. The Friedman rule. Deflation. The monetary policy of the ECB (M6).  (Exercises C8)

• How did economists get it so wrong? Paul Krugman, NYT 2009.
• Maintaining Price Stability Stanley Fischer, December FD 1996.
• Deflation: the new threath? Manmohan Kumar, FD June 2003.
• The Monetary Policy of the Eurosystem, Otmar Issing, FD March 99.   

Fiscal aspects of inflation (L 24 Dec 10):

The consolidated public debt under fiscal dominance. The public debt dynamics. Debt management and reputation. The required primary surplus. Budgetary consequences of postponing a fiscal adjustment. Unpleasant monetarist arithmetic. The Stability and Growth Pact (SL 11, 22, PM 6, BW 15.4, 15.5). The development countries debt crises. The Debt Laffer Curve. (SL 22, PM 8). 

• How Should the Stability and Growth Pact Be Reformed? , David Walton, Angel Ubide, and Mark Hallerberg, June 2004.
• Europe's Quest for Fiscal Discipline, Anthony Annett and Albert Jaeger, June 2004.
• "Sobre a reforma do Pacto de Estabilidade e de Crescimento" , Revista da Banca 59, Janeiro-Junho 2005, 59-72.