Three Economic Decisions
Gabriel Litke
During the Great Depression of the 1930s, existing economic theory was unable either to explain the causes of the severe worldwide economic collapse or to provide an adequate public policy solution to jump-start production and employment.
In The Economic Consequences of the Peace in 1919, Keynes predicted that the crushing conditions the Versailles peace treaty placed on Germany to end World War I would lead to another European war.
No policy prescriptions follow from these three tenets alone. What distinguishes Keynesians from other economists is their belief in activist policies to reduce the amplitude of the business cycle, which they rank among the most important of all economic problems.
Even though his ideas were widely accepted while Keynes was alive, they were also scrutinized and contested by several contemporary thinkers. Particularly noteworthy were his arguments with the Austrian School of Economics, whose adherents believed that recessions and booms are a part of the natural order and that government intervention only worsens the recovery process.
Both Keynesians and monetarists came under scrutiny with the rise of the new classical school during the mid-1970s. The new classical school asserted that policymakers are ineffective because individual market participants can anticipate the changes from a policy and act in advance to counteract them. A new generation of Keynesians that arose in the 1970s and 1980s argued that even though individuals can anticipate correctly, aggregate markets may not clear instantaneously; therefore, fiscal policy can still be effective in the short run.
While intuition can provide a hunch or spark that starts you down a particular path, it's through data that you verify, understand, and quantify. According to a survey of more than 1,000 senior executives conducted by PwC, highly data-driven organizations are three times more likely to report significant improvements in decision-making compared to those who rely less on data.
Are you interested in learning how data-driven decision-making can enable you to be a more effective entrepreneur or member of your organization? Below is information about the benefits of becoming more data-driven, as well as a number of steps you can take to become more analytical in your processes.
Data-driven decision-making (sometimes abbreviated as DDDM) is the process of using data to inform your decision-making process and validate a course of action before committing to it.
Starbucks now partners with a location-analytics company to pinpoint ideal store locations using data like demographics and traffic patterns. The organization also considers input from its regional teams before making decisions. Starbucks uses this data to determine the likelihood of success for a particular location before taking on a new investment.
There are many reasons a business might choose to invest in a big data initiative and aim to become more data-driven in its processes. According to a recent survey of Fortune 1,000 executives conducted by NewVantage Partners for the Harvard Business Review, these initiatives vary in their rates of success.
One of the most impactful initiatives, according to the survey, is using data to decrease expenses. Of the organizations which began projects designed to decrease expenses, more than 49 percent have seen value from their projects. Other initiatives have shown more mixed results.
If you have a goal of becoming more data-driven in your approach to business, there are many steps you can take to reach that goal. Here's a look at some of the ways you can approach your daily tasks with an analytical mindset.
Identify what data you have available that can be used to inform your decision. If no data exists, consider ways in which you could collect it on your own. Once you have the data, analyze it, and use any insights to help you make your decision. As with the pattern-spotting exercise, the idea is to give yourself enough practice that analysis becomes a natural part of your decision-making process.
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What are the goals of monetary policy?
The Federal Reserve Act mandates that the Federal Reserve conduct monetary policy "so as to promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates."1 Even though the act lists three distinct goals of monetary policy, the Fed's mandate for monetary policy is commonly known as the dual mandate. The reason is that an economy in which people who want to work either have a job or are likely to find one fairly quickly and in which the price level (meaning a broad measure of the price of goods and services purchased by consumers) is stable creates the conditions needed for interest rates to settle at moderate levels.2
Decisions about monetary policy are made at meetings of the Federal Open Market Committee (FOMC). The FOMC comprises the members of the Board of Governors; the president of the Federal Reserve Bank of New York; and 4 of the remaining 11 Reserve Bank presidents, who serve one-year terms on a rotating basis. All 12 of the Reserve Bank presidents attend FOMC meetings and participate in FOMC discussions, but only the presidents who are Committee members at the time may vote on policy decisions.
Each year, the FOMC explains in a public statement how it interprets its monetary policy goals and the principles that guide its strategy for achieving them.3 The FOMC judges that low and stable inflation at the rate of 2 percent per year, as measured by the annual change in the price index for personal consumption expenditures, is most consistent with achievement of both parts of the dual mandate.4 To assess the maximum-employment level that can be sustained, the FOMC considers a broad range of labor market indicators, including how many workers are unemployed, underemployed, or discouraged and have stopped looking for a job. The Fed also looks at how hard or easy it is for people to find jobs and for employers to find qualified workers. The FOMC does not specify a fixed goal for employment because the maximum level of employment is largely determined by nonmonetary factors that affect the structure and dynamics of the labor market; these factors may change over time and may not be directly measurable. However, Fed policymakers release their estimates of the unemployment rate that they expect will prevail once the economy has recovered from past shocks and if it is not hit by new shocks.
How does monetary policy work?
Figure 1 provides an illustration of the transmission of monetary policy. In the broadest terms, monetary policy works by spurring or restraining growth of overall demand for goods and services in the economy. When overall demand slows relative to the economy's capacity to produce goods and services, unemployment tends to rise and inflation tends to decline. The FOMC can help stabilize the economy in the face of these developments by stimulating overall demand through an easing of monetary policy that lowers interest rates. Conversely, when overall demand for goods and services is too strong, unemployment can fall to unsustainably low levels and inflation can rise. In such a situation, the Fed can guide economic activity back to more sustainable levels and keep inflation in check by tightening monetary policy to raise interest rates. The process by which the FOMC eases and tightens monetary policy to achieve its goals is summarized as follows.