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How Should Macroeconomic Policy Respond to Foreign Financial Crises?

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  • Anthony J. Makin

Abstract

This paper examines the impact of global financial crises on the Australian economy and how monetary and fiscal policy may be used to manage economic downturns that result. To do so, it presents a straightforward analytical framework incorporating financial wealth, exchange rate expectations, foreign demand and interest rate risk to analyse the key role played by the nominal exchange rate in insulating national income from the worst effects of foreign financial crises. In the event the economy is not fully insulated by exchange rate depreciation, it shows that, in principle, monetary policy is a superior instrument to fiscal stimulus for restoring aggregate demand to the full employment level. Since monetary policy is not handicapped by numerous problems that render fiscal stimulus less effective, it should normally be considered a sufficient instrument on its own. Copyright (c) 2010 The Economic Society of Australia.
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Suggested Citation

  • Anthony J. Makin, 2010. "How Should Macroeconomic Policy Respond to Foreign Financial Crises?," Discussion Papers in Economics economics:201006, Griffith University, Department of Accounting, Finance and Economics.
  • Handle: RePEc:gri:epaper:economics:201006
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    File URL: https://www120.secure.griffith.edu.au/research/items/ae76cf16-7aa0-bc30-663b-1df32a2276d4/1/2010-06-how-should-macroeconomic-policy-respond-to-foreign-financial-crises.pdf
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    References listed on IDEAS

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    1. Barro, Robert J, 1974. "Are Government Bonds Net Wealth?," Journal of Political Economy, University of Chicago Press, vol. 82(6), pages 1095-1117, Nov.-Dec..
    2. Milton Friedman, 1957. "Introduction to "A Theory of the Consumption Function"," NBER Chapters,in: A Theory of the Consumption Function, pages 1-6 National Bureau of Economic Research, Inc.
    3. John B. Taylor, 2009. "The Lack of an Empirical Rationale for a Revival of Discretionary Fiscal Policy," American Economic Review, American Economic Association, vol. 99(2), pages 550-555, May.
    4. Seater, John J, 1993. "Ricardian Equivalence," Journal of Economic Literature, American Economic Association, vol. 31(1), pages 142-190, March.
    5. Selma Mahfouz & Richard Hemming & Michael Kell, 2002. "The Effectiveness of Fiscal Policy in Stimulating Economic Activity; A Review of the Literature," IMF Working Papers 02/208, International Monetary Fund.
    6. Norman Loayza & Klaus Schmidt-Hebbel & Luis Servén, 2000. "What Drives Private Saving Across the World?," The Review of Economics and Statistics, MIT Press, vol. 82(2), pages 165-181, May.
    7. Loayza, Norman & Schmidt-Hebbel, Klaus & Serven, Luis, 2000. "What drives private saving around the world?," Policy Research Working Paper Series 2309, The World Bank.
    8. Milton Friedman, 1957. "A Theory of the Consumption Function," NBER Books, National Bureau of Economic Research, Inc, number frie57-1, April.
    9. Anthony J. Makin, 2009. "Fiscal ‘stimulus’: A loanable funds critique," Agenda - A Journal of Policy Analysis and Reform, Australian National University, College of Business and Economics, School of Economics, vol. 16(4), pages 25-36.
    10. Masson, Paul R & Bayoumi, Tamim & Samiei, Hossein, 1998. "International Evidence on the Determinants of Private Saving," World Bank Economic Review, World Bank Group, vol. 12(3), pages 483-501, September.
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    Citations

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    Cited by:

    1. Tony McDonald & Steven Morling, 2011. "The Australian economy and the global downturn, Part 1: Reasons for resilience," Economic Roundup, The Treasury, Australian Government, issue 2, pages 1-31, September.
    2. repec:ejw:journl:v:12:y:2015:i:2:p:192-220 is not listed on IDEAS
    3. Anthony J. Makin, 2010. "Did Australia's Fiscal Stimulus Counter Recession?: Evidence from the National Accounts," Agenda - A Journal of Policy Analysis and Reform, Australian National University, College of Business and Economics, School of Economics, vol. 17(2), pages 5-16.
    4. Makin, Anthony J. & Ratnasiri, Shyama, 2015. "Competitiveness and government expenditure: The Australian example," Economic Modelling, Elsevier, vol. 49(C), pages 154-161.
    5. Jason Nassios & James A. Giesecke & Peter B. Dixon & Maureen T. Rimmer, 2016. "Superannuation and Macroeconomic Growth and Stability," Centre of Policy Studies/IMPACT Centre Working Papers g-267, Victoria University, Centre of Policy Studies/IMPACT Centre.
    6. Chowdhury, Khorshed, 2012. "Modelling the dynamics, structural breaks and the determinants of the real exchange rate of Australia," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 22(2), pages 343-358.
    7. Khorshed Chowdhury, 2011. "Dynamics, Structural Breaks and the Determinants of the Real Exchange Rate of Australia," Economics Working Papers wp11-11, School of Economics, University of Wollongong, NSW, Australia.

    More about this item

    Keywords

    Global financial crisis; National income; Exchange rate; Monetary policy; Fiscal stimulus;

    JEL classification:

    • F33 - International Economics - - International Finance - - - International Monetary Arrangements and Institutions
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

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