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Name: Jeetal Shyam

ID: S11065101

Tutorial: Thursday 2-3pm

1. The role of macroeconomic policy makers is very challenging because they have to meet the macroeconomic goals of an economy by maintaining equilibrium in the monetary sector through a combination of fiscal, monetary and exchange rate policies. The difficult part of their roles lies in where the policy makers are expected to devise an optimal policy mix and to choose correct policy instruments. They attempt to specify the desirable level of unemployment so that inflation is anticipated at a sustainable level, however, its challenging because if unemployment is kept low then inflation tends to rise and so policy makers have to identify the sustainable levels of both issues. They also ensure that policies are effective in strengthening banking systems with reasonable interest rates, sustainable fiscal deficits that can be financed without difficulty, secured and adequate levels of foreign exchange reserves and equal income distribution along with positive economic growth. Not only should the policy makers know what effects any changes in a policy instrument will have on a target objective, but also they must know to what extent the target variables will respond to the changes in the instruments. There are possible conflicts between the macroeconomic goals which make it difficult for policy makers to simultaneously achieve all goals using one policy instrument and so they are confronted to allocate priorities as to which goal must be met first before making decisions. They play very crucial roles because if they fail to make effective or appropriate policies then the economy may breakdown into a crisis worsening the situations. 2. Keynesians are more focused on short-term problems that need immediate attention while classical economists focus on longterm results. Classical economists believed in a Laissez-faire economy where invisible hands are self-correctable and stable, no need for fiscal and monetary policies, and that the economy is at full employment and full production equilibrium. However, the Keynesians gave high emphasis to government intervention to correct instability using strong fiscal and monetary policies to improve efficiency and that economy is in disequilibrium in short run, hence, free markets are unstable. While the classical economist assumed flexible wages and prices, the Keynesians argued rigid wages and sticky prices. Keynesians aggregate supply curve is known to be perfectly elastic (horizontal) and so any increase in the aggregate demand will have a complete multiplier effect of increasing the output leaving the equilibrium price level unchanged and so they say that demand creates its own supply, but on the other hand in the classical case the aggregate supply is perfectly inelastic (vertical) where an increase in aggregate demand has a complete effect of raising the equilibrium price level but no change to the output. For the classical economist, inflation is a bigger threat in long-run but a Keynesian economist believes unemployment is more concerning than inflation. 3. Fiji employs a mix of fiscal, monetary and exchange rate policies supplemented by government revenue and expenditure policies. The major fiscal policies employed in Fiji aim to promote sustainable growth in investment levels and to achieve fiscal stability. This involves reduction in marginal tax rates and increase in alcoholic and tobacco excise duties. These tax reductions had positive impacts which increased consumption and investment levels in Fiji. RBF uses market based monetary policy to maintain adequate foreign reserves and to keep inflation minimal at 2-3% of GDP. RBF had set an Overnight Policy Rate (OPR) at 3%, currently at 0.5%, to indicate an easing monetary policy. Since the Fiji dollar devaluation of 20% by RBF, Fiji maintains a pegged exchange rate system. This devaluation helped to stabilize current account balances because demands for exports had increased since it became cheaper while the demands for imports fell as it became more expensive. In this, more local production was encouraged, thus, improving export levels and strengthening foreign reserves in Fiji. The governments revenue policies are aimed at revitalizing investment levels in Fiji through tax rate reduction, while the expenditure policies that involve increasing government expenditures by increasing allocations to all Ministries so that there is better growth, more employment, and better income generation. 4. Money neutrality is an important macroeconomic proposition to economists which means that in the long-run, any changes in the money supply has no real effects on the equilibrium in the real economy (real output, employment, real wages, real interest rates), rather it raises the prices only. Hence, money is neutral no real effects in the long run. During the short and medium terms, since wages and prices are sticky due to wages slow adjustment to changes in employment, the burden of adjustment falls on the real output and so money is non-neutral and this concept revolves around the Keynesians AS model. However, in the long-run, the concept revolves around Classical AS model where money becomes neutral, even though the difference is that Classical AS model assumes immediate proportionate price increases from money expansion with no effects on real output. 5. In the augmented Phillips curve, shifts in the tradeoff between unemployment and inflation are allowed as the core-inflation rate changes. As per this model, while assuming that supply shock effects are not present, unemployment rate can be below the natural rate of unemployment, provided the actual rate of inflation is above the core-inflation rate. However, such an attempt is not sustainable because the core-inflation rate is based on expected future inflation by people which they face in their daily lives and so after few months when the actual inflation rates starts rising and exceeds the core inflation rates, the core-inflation rates will also start to ratchet upwards along with the peoples rising expectations of inflation. Therefore, this implies as per the Phillips model, that lower unemployment rates will be achieved and traded-off with a higher core-inflation rate than before.