AS/AD and government intervention (or not)

The Covid-19 pandemic has caused economic crises all over the world. For economists, the way to combat economic crises brings up a classic and interesting dilemma: the Keynesian approach versus the Classical approach. In other words, should the economic crisis be solved by active government intervention or should the economy self-adjust? answer the following main research question:

What are the arguments in favor and against governmental intervention to battle the economic crisis that has resulted from the Covid-19 pandemic?

You must answer this question by using the Aggregate Demand (AD) and Aggregate Supply (AS) model and use the Dutch economy as the starting point for your analysis. You will answer the following questions:

1) Explain by means of common macro-economic indicators how the Dutch economy was affected as a result of the Covid-19 containment measures. (4p)

2) Describe recent changes in fiscal and monetary policies that are relevant to the Dutch economy. (4p)

3a) Use the AD/AS model to explain how recent fiscal policy changes intend to stabilize the Dutch economy and compare this with a 'do-nothing' approach. (5p)

3b) Use the AD/AS model to explain how recent changes in monetary policy intend to stabilize the Dutch economy and compare this with a 'do-nothing' approach. (5p)

4) Once you have the effects of monetary and fiscal policy on AD and AS worked out, you are able to answer the main research question: What are the arguments in favor and against governmental intervention to battle the economic crisis that has resulted from the Covid-19 pandemic? (12 points)

Your approach

In question 1, answer the question how the Covid-19 outbreak has affected the Dutch economy. by collecting data on the main macro- economic indicators by comparing the state of the Dutch economy at the end of 2019 (31 December 2019) with the latest data you can find (31 December 2020, or otherwise 31 March 2021). Show the results by making a table comparing both moments in time and add this table in your appendix. Make graphs from the available data to show the effects of the pandemic in this period. Use only CBS statistics for your research, and mention the sources. When you are done with the research, draw conclusions on how the Dutch economy has been affected by the pandemic so far.

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To complete question 2, make sure you know what the difference is between fiscal policy and monetary policy. Also read a number of articles on recent fiscal and monetary policy changes. In this article, for example, you read how, in March 2020, the Dutch government announced a "package designed to shield companies from the impact of the coronavirus". In this article, the Dutch government explains in more detail which measures they have taken to battle the economic fall-out of the Covid-19 containment measures. When you read the articles, it is important you recall what transfer payments are and how they differ from other types of government expenditure.

Because the stimulus has 'no cap', it will inevitably impact government debt, another article argues. To determine how the Dutch's government deficit and debt are expected to change as a result of the measures, collect data on the following:

• The originally intended government budget deficit for 2020, in euro and as a % of GDP.
• The expected government budget deficit for 2020, in euro and as a % of GDP.
• The originally intended debt for 2020, in euro and as a % of GDP.
• The expected government debt for 2020, in euro and as a % of GDP.
• Compare your answers above with the main EU rules agreed under the Stability and Growth Pact. For recent monetary policy changes, read up on the Pandemic Emergency Purchase Programme (PEPP) launched by the European Central Bank (ECB).
• In question 3a, you must use the AD/AS model to explain how the expansionary fiscal policy of the Dutch government aims to stabilize the economy and compare this with a 'do- nothing' scenario.
• First, start by graphing the macro-economic situation in the Netherlands just before the Dutch government announced its economic measures in March 2020. Use the AD/AS model as the basis for your graph. Make sure you include the AD curve, the SAS curve and the LAS curve in your graph. Clearly label the curves and the axis. You do not have to use real data.
• Now form a view on how this fiscal policy aims to stabilize the Dutch economy. Consider aggregate demand first. If you conclude the policy does not influence aggregate demand, argue why not. If you conclude the policy does influence aggregate demand, explain which components of aggregate demand are affected and how you expect them to influence aggregate demand. Make sure you describe the intended impact on output/real GDP and the price level and compare this with a situation where the government would not intervene. Show the effects of the policy in your graph by clearly showing how the AD curve might shift, if at all.
• Now consider how the policy influences aggregate supply. Clearly argue why it does, or why not. If you believe the policy affects aggregate supply, make sure you describe the intended impact on output/real GDP and compare this with a situation where there is no intervention. Illustrate your answer by showing how the AS curve might possibly change in your graph.
• Do the same for long-run aggregate supply.

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In question 3b, follow the same steps as under step 3a but now focus on using the AD/AS model to explain how recent monetary policy changes aim to stabilize the economy.

In question 4 you are now able to answer the main question. Now that you have done your research into recent fiscal and monetary policy changes and studied their impact on the Dutch economy, you can reflect by writing a short essay on whether it is best for governmental institutions to intervene to combat the crisis or let the economy to self-adjust. In your essay, clearly list and motivate the advantages and disadvantages of governmental intervention. You can use the examples to support your argument or give other examples of government intervention, or cases where the government didn't intervene and the economy self-adjusted. Finally, also argue which approach you support and why? Clearly motivate your answer by providing examples, articles, blogs etc. in support of your choice