Question

(a) what difficulties do policy makers face when they are formulating fiscal and monetary policy?

(b) with reference to the business cycle, explain why " fine-tuning" the economy by using fiscal and monetary policies, might sometimes be counterproductive?

Answer 1

When they formulate fiscal or monetary policies the authorities do not have enough information when to act. Such knowledge is not accurately available. This is called forecasting lag. They may act with delay or when it is unnecessary to act. This is called implementation lag. They may also not be knowing whether their policies are working properly. They can't have accurate intermediate targets to see whether policy is working or needs some modifications

B it might be sometimes be counterproductive. E. G during apparent boom monetary authority may increase interest rates and govt increase taxes and reduce expenditure whereas in reality depression has begun but it can't be forecasted beforehand.