Stanley Fischer's model - Essay Example

(Taylor) Implicit wage contracts is when workers are risk averse and employers are not, an implicit contract may be made with an understanding over "compromise" basic pay and hours. This may or may not generate nominal wage rigidity. Contracts like this may be non-implementable if there is asymmetric information. The Policy Ineffectiveness Proposition (PIP) is the idea in new classical economics that rational expectations implies that government policy can have no impact on real economic variables.

(Wikipedia) Policy ineffectiveness proposition is a monetary policy which is an output stabilizer. It does not affect the real flow of output but rather, surprises and stabilizes the economy. It implies that in a place where the population has rational expectations, government policies which are made to influence the economy into a level of production will never be effective. Due to the flexibility of the price and wages, changes will be anticipated and adjusted on implemented policies thus it does not affect aggregated policies.

Policy implications during this economic stage are; government should not do any activist policy because government should know the public's expectation and public will also try to anticipate government's expectation about the public.Just before the new Keynesian model was formulated, it was believed that the formulation of government policies does not have any direct effect on wages and prices in the market unless a surprise monetary policy was released and discloses the economic status in a short wile.

It was also believed that wages and prices are completely flexible and would directly adjust to the expected price levels unless otherwise, unanticipated changes occurs which affects cumulative outputs. Arratibel and Thomas states in the consequences of staggered wage setting for the credibility of monetary policy that "In contrast with the New-Keynesian theory, new classical economists argue that credibility problems are central to the disinflationary process, so that disinflation would be costless if the government announced credible commitments.

But, if multi-period contracts lead to more lasting effects of monetary policy surprises, they will enhance the credibility (time consistency) problem of monetary policy." (1) Fischer started to investigate monetary policies focusing the wage and price rigidity of which, it was believed that the formulation of government policies does not have any direct effect on wages and prices in the market unless a surprise monetary policy was released and discloses the economic status in a short wile. It was also believed that wages and prices are completely flexible and would directly adjust to the expected price levels unless otherwise, unanticipated changes occurs which affects cumulative outputs.

Due to the flexibility of the price and wages, changes will be anticipated and adjusted on implemented policies thus it does not affect aggregated policies. Stanley Fischer's model of