THE DECLINE OF MONETARISM

It's interesting that when the Fed really began to pay attention to what the monetarists were saying, this may have led to the ultimate decline of the monetarists. In October 1979 Federal Reserve chairman Paul Volcker announced a major policy shift. No longer would the Fed focus only on keeping interest rates on an even keel. From now on the Fed would set monetary growth targets and stick to them.

This new policy was followed for most of the next three years. The double-digit inflation that prevailed in 1979 and 1980 was finally brought under control by late 1982 - but not until we had gone through a period of sky-high interest rates, very high unemployment, and two recessions.

Even though the Fed had finally followed the advice of the monetarists - at least to a large degree - and even though the nagging inflation of the last 15 years had finally been wrung out of the economy, people began to look elsewhere for their economic gurus. They looked to the White House, which had become a stronghold of the latest school of economics, the supply-side school.

17.1Read texts 19, 20 and 21. While reading define and put down the key words of each text.

TEXT 19

SUPPLY-SIDE ECONOMICS

(Part I)

Supply-side economics came into vogue in the early 1980s when Ronald Reagan assumed the presidency. Supply-siders felt that the economic role of the federal government had grown much too large and that high tax rates and onerous government rules and regulations were hurting the incentives of individuals and business firms to produce goods and services. President Reagan suggested a simple solution: get the government off the backs of the American people. How? By cutting taxes and reducing government spending and regulation.

The objective of supply-side economics, then, is to raise aggregate supply, the total amount of goods and services the country produces. The problem, said the supply-siders, is that high tax rates are hurting the incentive to work and to invest. All the government needs to do is cut tax rates, and voila: up goes production.

Many of the undesirable side effects of high marginal tax rates are explained by the work effect, the savings and investment effect, and the elimination of productive market exchanges, which we shall take up in turn.

The Work Effect

People are often confronted with work-leisure decisions. Should I put in that extra couple of hours of overtime? Should I take on a second job? Should I keep my store open longer hours? If you answer yes to any of these, you'll have to give the government a pretty big slice of that extra income.

At what point do you start working for the government? When it takes 20 cents out of each dollar of extra income (a marginal tax rate of 20 percent)? When it takes 30-cents? Or 40 cents? Each of us makes his or her own decision about the cutoff point. If you are a wage-earner, you will have to pay Social Security tax, federal income tax, and, possibly, some state income tax. Back in 1980, before the passage of the Kemp-Roth tax cut and the tax cuts that came under the Tax Reform Act of 1986, people earning more than $30,000 a year often had marginal tax rates of more than 50 percent. If you paid more than half of your overtime earnings in taxes, would you consider yourself to be working for the government?

Facing high marginal tax rates, many people refuse to work more than a certain number of hours of overtime or take on second jobs and other forms of extra work. Instead, they opt for more leisure time. In sum, high marginal tax rates rob people not only of some potential income but of the incentive to work longer hours. People working shorter hours obviously produce less, so total output is lower than it might have been with lower marginal tax rates. This and the saving-investment argument (considered next) are the two key points made by supply-siders for lower marginal tax rates.

TEXT 20

Date: 2015-12-11; view: 766