2. A Fiscal Policy Rule for Stabilization
The title of this chapter is the same as the title of a paper that can be read or downloaded from this site: A Fiscal Policy Rule for Stabilization. If you are interested in this subject, you should read this paper before reading this chapter. The paper uses the MC2 model to analyze a proposed U.S. tax rate rule. Although the stochastic simulation results in the paper cannot be duplicated on this site, the multiplier experiment in the paper can be. The following are the steps necessary to duplicate the first multiplier experiment, which is a decrease in RS of one percentage point.
  1. Click "MC2 Model" in the left menu and copy MC2BASE to a dataset you have named.
  2. Click "Set prediction period" and set the period to be 1989 through 1994.
  3. Click "Use historical errors" and set the option to use the historical errors.
  4. Click "Drop or add equations" and drop the RS equation for the United States (equation 30).
  5. Click "Change exogenous variables" and ask to change RS for the United States. Then add -1.0. Be sure to save the changes once you are done.
  6. Click "Solve the model and examine the results".

Once the model is solved you can examine the results. If you have set th experiment up correctly, your comparisons (between your dataset and MC2BASE) will match the comparisons in the paper, subject to slight rounding error. You can, of course, examine many more variables and periods than are presented in the paper. The output variable used in the paper is Y, and the price variable is PF.

This experiment is useful for seeing the effects of monetary policy in the model.

The use of the historical errors is important. This allows the perfect tracking solution to be the base path, from which changes can then be made. If you did not use the historical errors, you would have to first create a base path of predicted values, which the new predicted path (after the interest rate changes) would be compared. See Section 2.6 of The US Model Workbook for more discussion of this.

The second multiplier experiment in the paper can also be duplicated, which is a decrease in the tax rate D3G by 10 percent. The steps are:

  1. Click "MC2 Model" in the left menu and copy MC2BASE to a dataset you have named.
  2. Click "Set prediction period" and set the period to be 1989 through 1994.
  3. Click "Use historical errors" and set the option to use the historical errors.
  4. Click "Drop or add equations" and drop the RS equation for the United States (equation 30).
  5. Click "Change exogenous variables" and ask to change D3G for the United States. Then ask to multiply each value by .9. Be sure to save the changes once you are done.
  6. Click "Solve the model and examine the results".

Once the model is solved you can examine the results. If you have set the experiment up correctly, your comparisons (between your dataset and MC2BASE) will match the comparisons in the paper, subject to slight rounding error. Again, you can examine many more variables and periods than are presented in the paper.