192 definitions by Abu Yahya

*noun*; a method of representing the economy as the sum of many identical individuals and firms, each represented by a system of mathematical equations. The Rational Expectations Hypothesis (REH) takes its name from the premise that economic actors, i.e., everyone, do not make consistent errors about the present or future behavior of markets.

REH was devised mainly as a rebuke to Keynesian economics, and in particular, the strategy of fiscal policy or monetary policy.

According to the REH, fiscal policy does not alter aggregate demand because the "average" person recognizes that her lifetime income is not increasing--so she needs to save rather than spend the stimulus money, in anticipation of higher taxes in the future.

At the same time, monetary policy does not work because it relies on lowering interest rates to make more money available; more money means inflation, but people have to be deceived into thinking prices for their product are going up, so they will expand production. According to REH, people or firms will figure this out, and see increased demand as mere inflation. Instead of increasing output and employment, they'll want to raise prices so they can meet their future bills.

According to REH, both monetary and fiscal policy rely on illusions to work; and since people (on average) will make rational estimates o the future, they will defeat these illusions.
The rational expectations hypothesis states that we can break the realization of a return into an expected return that depends on the current information set and an unexpected component that depends only on new information.
by Abu Yahya March 03, 2009
In economics, a monetary policy in which the value of the local currency is determined by the foreign exchange markets, with some intervention by the government (or its allies) in the event of excessive or dangerous movements.

Usually the term is applied when the country ignores long term shifts in value, but intervenes directly to avoid crises.
Most of the nations in the world have neither a hard peg nor floating currency, but something in between--a dirty float, in which trade is under some restrictions.
by abu yahya July 10, 2008
In economics, a policy in which the authorities insist on some permanent, precise guarantee of the value of the local currency to some other thing: a unit measure of gold, the US dollar, the euro, or the pound. Historically, the US dollar had a hard peg to gold from 1946 to 1971, while other currencies in the developed world had a hard peg to the US dollar. Since 1971, most of the world's money is in floating currency (whose relative value is set by the free market).
Nonetheless, advocates of hard pegs frequently downplay the ... difficulties of establishing greater nominal flexibility in fiscal spending and wages...
by abu yahya June 24, 2008
influenced by the economic theory of John M. Keynes (1883-1946); in particular, Keynes' book *The General Theory of Employment, Interest, and Money* (1936). The main point of Keynes' general theory (GT) was that market economies are not usually self-correcting, and occasionally require some sovereign intervention to prevent inflation or depression.

One of the policy prescriptions of the GT for curing recessions was to lower interest rates; another, more potent tool, was to deliberately run a fiscal deficit as a strategy for increasing aggregate demand. The GT was too late to have much of an impact on the Great Depression, but it did have a major impact on the economic policies of the Western Democracies from 1946 to the present.

During the period 1979 to 2001, Keynesianism was supposedly discredited, but national governments continued to use stimulus packages and monetary policy to resolve recessions. The policy has evolved, but remains the cornerstone of actually existing government behavior.

Attacks on Keynesianism: the most famous adversary of the GT was Friedrich von Hayek (1899-1992) of the London School of Economics, who insisted that an authentically free market would be self-correcting if it were only allowed to. Hayek's objections were ideological, but other economists such as John Muth argued that the GT expected people to make irrational, or unreasonable errors.

During the late 1970's, Keynesianism was eclipsed by the Rational Expectations Hypothesis; but REH failed to develop satisfactory policy proposals, while Neo-Keynesian economics evolved to address many of the original REH criticisms.
The treasury secretary wanted to respond to the inflationary spiral with a Keynesian strategy of tax increases, spending cuts, and interest rate hikes.
by Abu Yahya February 14, 2009
*noun*, efforts by the government to intentionally run a deficit in order to stimulate the economy during a recession. Loosely associated with Keynesian economics.

According to basic economic theory, recessions occur because there is a basic mismatch between aggregate demand and potential output. One approach for solving this is for the government to buy more goods and services than it has revenues to cover, thereby creating conditions in which effective demand is greater than the stock of goods currently in business inventory (given recessionary prices).

Under a stimulus, the jolt of extra money in circulation creates inflation, which has the effect of lowering real prices. Customers then respond to the {de facto} price reduction by buying more, which leads to more hiring, thence to more effective demand, thence to economic recovery.

Another reason fiscal policy stimulates the economy is that the private sector is not investing or consuming its own output. Increased taxes would simply reduce private consumption, so those cannot be increased; but spending is increased to fill the breach.
I think it is possible that fiscal policy will have even more 'oomph' in this situation," Christina Romer, who heads the Council of Economic Advisers, told an economics conference.

"When households and businesses are liquidity-constrained by reduced lending, any money put in their pockets is more likely to be spent," she said.

--Reuters, "White House's Romer: Stimulus may pack more punch" (3 March 2009)
by Abu Yahya March 03, 2009
Organization founded in 1943 by Lewis H. Brown (the asbestos tycoon).

(Brown's company, Johns-Manville, was the largest asbestos manufacturer in the US during the 1930s, and was involved in a massive, 40-year cover-up of the severe health risks posed by asbestos.)

The American Enterprise Association (AEA) was created to design and promote policies that strengthen the political power of large corporations. In 1970, William Baroody, Sr. became its head and changed the name from "Association" to "Institute" (AEI); he had earlier learned how to (a) launder oversized campaign contributions from corporate boards, and (b) how to present the AEI as an earnest, high-minded, non-partisan research group (or "thinktank"). Baroody's sons, William Jr. and Michael, both became important Conservative Movement figures.

The AEI was, until the 1990's, mainly a very well-heeled devil's advocate against any progressive cause: it opposed regulating cigarettes, municipal water systems, environmental protections of all kinds, and the Endangered Species Act. Its budget grew enormously and it spawned subsidiary organizations such as NGOWatch, the Center for Strategic and International Studies, the Project for a New American Century (PNAC), and many more besides.

During the period 1997-present, the AEI became much more intensively focused on armed confrontation. In the name of "security," especially "energy security," the AEI appears to have spent an increased share of its already-burgeoning budget on promoting war or sanctions against many countries with a majority Muslim population. It argued against democratic review of US foreign policy, and in favor of criminalizing dissent. Position papers ceased to have any research content at all, and became pure polemics.

After the 2008 elections, which provided a clear repudiation of AEI policies *en masse*, the AEI focused on promoting itself as the guardian of national security; it did this by arguing that torture and extraordinary renditions were vital to keeping the USA safe from foreign terrorists. This made the organization valuable to former administration officials subject to prosecution for violations of Hague Conventions & Geneva Conventions
In February 2007, *The Guardian* (UK) reported that the American Enterprise Institute was offering scientists and economists $10,000 each, "to undermine a major climate change report" from the United Nations Intergovernmental Panel on Climate Change (IPCC). AEI asked for "articles that emphasise the shortcomings" of the IPCC report, which "is widely regarded as the most comprehensive review yet of climate change science."
by Abu Yahya May 29, 2009
title of book by John Maynard Keynes (1883-1946) outlining the general concept of Keynesian economics. The book was published in 1936.

Prior to the Great Depression, opinions about how to properly manage the economy were dominated by Neoclassical economics, which advocated little government intervention. In particular, unemployment was regarded as the consequence of workers failing to accept wages sufficiently low to permit full employment.

During the Great Depression, unemployment soared to 25% in the USA and Germany. Economics had no advice to give to leaders anxious to do something, and none of the neoclassical predictions were coming true. The government of the UK commissioned J.M. Keynes to lead a commission of top British economists in a general review of economic theory; their finding were summarized by Keynes in *The General Theory*.

*The Findings*

The Cambridge team did not have access to statistics of national income and product accounting (NIPA). They did have some data on unemployment and prices, especially from the USA.

Keynes also identified several inherent logical problems with neoclassical economic theory about saving and investment. The theory said that all economic output of an economy would tend to be consumed; all saving would be invested; and all workers would be employed, *provided wages fell low enough*.

Keynes noted the economic mechanism by which investment occurs has little to do with the existing rate of saving; both are influenced by interest rates, but other forces come into play (e.g., liquidity preference for saving, business opportunities and user cost for investment). Hence, aggregate demand can drift very far out of alignment with output (or potential output).

Another finding was that employment rates actually did not respond in a predictable way to the fall in wages. The US economy suffered periods when a reduction in the wage level lead to increases in employment, despite the assumption that workers would have withdrawn from the labor market.

Finally, Keynes proposed the use of monetary policy and fiscal policy for regulating business cycles.
The *The General Theory of Employment, Interest, and Money* completely shook up the world of economic policy. Hereafter, governments took responsibility for economic conditions or they lost power.
by Abu Yahya March 03, 2009
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