Robert E. Lucas, Jr. discusses the evolution and effectiveness of macroeconomics as a field, emphasizing its role in preventing economic depressions. He argues that while macroeconomics has largely succeeded in this original goal, there are still significant welfare gains to be made through better fiscal policies, particularly in providing incentives for work and saving. Lucas reviews the theoretical and empirical evidence to support his conclusion that the potential for welfare gains from long-run, supply-side policies exceeds that from short-run demand management.
Lucas outlines a quantitative welfare analysis framework, where policy comparisons are reduced to differences perceived and valued by individuals. He presents a thought experiment where a consumer is relieved of all consumption variability, and calculates the welfare gain from eliminating this variability. He estimates this gain to be about one-half of one-tenth of a percent of consumption, which he considers a conservative estimate.
Lucas then reviews empirical evidence on the variability of consumption and the potential for reducing it through monetary and fiscal policies. He discusses studies that decompose the variance of production and other variables into fractions due to nominal and real shocks, finding that nominal shocks account for less than 30% of short-run output variability. He also examines the impact of risk aversion on the estimated welfare gains, noting that higher risk aversion can significantly increase the estimated costs of consumption variability.
Finally, Lucas considers the distributional effects of stabilization policies, highlighting that while aggregate risk reduction can benefit some groups, it can also harm others, particularly those with higher unemployment rates. He concludes that the potential gains from improved stabilization policies are modest, on the order of hundredths of a percent of consumption, and that the potential benefits of supply-side fiscal reforms are much larger.Robert E. Lucas, Jr. discusses the evolution and effectiveness of macroeconomics as a field, emphasizing its role in preventing economic depressions. He argues that while macroeconomics has largely succeeded in this original goal, there are still significant welfare gains to be made through better fiscal policies, particularly in providing incentives for work and saving. Lucas reviews the theoretical and empirical evidence to support his conclusion that the potential for welfare gains from long-run, supply-side policies exceeds that from short-run demand management.
Lucas outlines a quantitative welfare analysis framework, where policy comparisons are reduced to differences perceived and valued by individuals. He presents a thought experiment where a consumer is relieved of all consumption variability, and calculates the welfare gain from eliminating this variability. He estimates this gain to be about one-half of one-tenth of a percent of consumption, which he considers a conservative estimate.
Lucas then reviews empirical evidence on the variability of consumption and the potential for reducing it through monetary and fiscal policies. He discusses studies that decompose the variance of production and other variables into fractions due to nominal and real shocks, finding that nominal shocks account for less than 30% of short-run output variability. He also examines the impact of risk aversion on the estimated welfare gains, noting that higher risk aversion can significantly increase the estimated costs of consumption variability.
Finally, Lucas considers the distributional effects of stabilization policies, highlighting that while aggregate risk reduction can benefit some groups, it can also harm others, particularly those with higher unemployment rates. He concludes that the potential gains from improved stabilization policies are modest, on the order of hundredths of a percent of consumption, and that the potential benefits of supply-side fiscal reforms are much larger.