The inflationary process 97
France and Germany did not. This is illustrated in Figure 6.8. Between 1992 and 1999, private sector non-residential investment grew by 95 per cent in the US, 64 per cent in Canada and 58 per cent in the UK, whereas it grew by 3.5 per cent in Germany and 16 per cent in France. On OECD estimates, all five countries had a substantial negative output gap in 1993. However, the growth of investment and of the capital stock meant that the decline in unemploy- ment in Canada, the UK and the USA went alongside only modest rises in the gap between actual output and capacity output.
98
– 15
– 10– 5
0
5 10
15
20
25 199219931994199519961997199819992000 FranceGermanyCanadaUK USA Figure 6.8Growth of investment
The inflationary process 99 approach is in sharp contrast to the one that places monetary policy and
‘reform’ of the labour market at the centre of anti-inflationary policy. This view of inflation views monetary policy as ineffectual (and even damaging), and views investment as central. High levels of demand are required to stimulate investment, and thereby create the future productive capacity which facilitates lower unemployment and lower inflation.
NOTES
1. For example, in their influential book, Layard et al. (1991) portray aggregate demand as yd=σ11x+σ12r*+σ13(m−p)+σ14Dpe+σ15c*,
where x includes fiscal stance, world economic activity and world relative price of imports;
the foreign real rate of interest is r* = I* – Dp*e (nominal rate of interest minus expected foreign inflation), m – p is (log) real money supply, Dpe expected inflation and c* expected long-run competitiveness. It can be readily seen that, if the level of demand (yd) is to adjust to the level of output as set on the supply side, one or more of the variables on the right- hand side of the equation have to adjust. In this formulation, this would involve some combination of the fiscal stance, the real money supply and the expected rate of inflation.
2. Labour market institutions are institutions (like union density) and policies (like employ- ment protection laws).
3. It is important to note that this data series covers the late 1990s, when unemployment rates fell sharply in the 20 countries included in the study’s sample.
4. The employment protection legislation is defined broadly and covers all types of employ- ment protection measures resulting from legislation, court rulings, collective bargaining or customary practices. The OECD (1999) study considered a set of 22 indicators, summa- rized in an overall indicator on the basis of a four-step procedure (pp. 115–18).
5. There are exceptions to this: for example, the minimum wage may differ across regions reflecting perceived differences in the cost of living. In a federal system, such as the US, there can be variations in the employment laws.
6. ‘Tightness in the labor market is measured by the excess of CBO’s estimate of the non- accelerating inflation rate of unemployment (NAIRU) over the actual unemployment rate.
It is an indicator of future wage inflation’ (Congressional Budget Office, 1994, p. 4). The Congressional Budget Office uses an estimate of 6 per cent for the NAIRU.
7. ‘The sustainable rate of unemployment, or NAIRU, is believed to have risen in the UK during the 1970s and 1980s, but there is broad agreement that this increase has been partly reversed since the late 1980s. Although the magnitude of any fall is very difficult to estimate, most estimates of the current level of the NAIRU lie in the range of 6 to 8 per cent on the Labour Force Statistics (LFS) measure of unemployment. However, considerably lower levels should be achievable in the long run through re-integrating the long-term unemployed back into the labour market, upgrading skills, and reforming the tax and benefit systems to promote work incentives’ (Treasury, 1997, p. 82).
8. For a more formal model, see Arestis and Sawyer (2003f).
100
fiscal policy when money is endogenous
1 INTRODUCTION
The concept of endogenous (bank) money is a particularly important one for macroeconomic analysis, especially within Keynesian economics. Bank money provides a more realistic approach to money in comparison with the exog- enous, controllable money approach (in the sense that it is widely recognized that most money in an industrialized economy is bank money). Further, the concept of endogenous money fits well with the current approach to monetary policy based on the setting (or ‘targeting’) of a key interest rate by the central bank. In the case of endogenous money, the causal relationship between the stock of money and prices is reversed as compared with the exogenous money case. Endogenous money plays an important role in the causal relationship between investment and savings: put simply, the availability of loans permits the expansion of investment, which leads to a corresponding expansion of savings and to an (at least temporary) expansion of bank deposits.
There are currently two schools of thought that view money as endog- enous. One is the ‘new consensus’ macroeconomics (NCM) discussed throughout this book, but at length in Chapter 2, and the other is the Keynesian endogenous (bank) money. There are significant differences in the two ap- proaches: the most important, for the purposes of this chapter, is in the way endogeneity of money is viewed. We discuss the view of money in the NCM approach in the next section, and then the Keynesian approach in the follow- ing section. We also discuss the nature and role of monetary policy within these two approaches, before we deal with the effectiveness of both monetary and fiscal policy (see also Arestis and Sawyer, 2003c). The latter issue pre- pares the ground for a more thorough investigation of the effectiveness of fiscal policy in Chapters 8 and 9.
The nature and role of monetary and fiscal policy 101