Suppose the economy is taking a turn for the worse. The latest employment figures show a sharp increase in lay-offs. Industrial output is down and inventories are up. The financial world is getting nervous. Pensions are being erased by large companies on the verge of bankruptcy. You are the President of the United States and you're up for reelection. What are you going to do? First you consult your introductory economics textbook (just suppose). Then what?
Maria: If the economy is down, the solution is easy: increase government spending.
Rodney: A President can't do that on his own. He needs the cooperation of the Congress. But by the time he gets Congress to increase government spending the economy may have gotten better on its own.
Paul: Price incentives are the name of the game. I say, get the Federal Reserve to lower interest rates. Investment spending would go up and that would push out aggregate demand.
Rodney: The President can't order the Fed to lower interest rates either! The Fed is politically independent.
Bayla: I'd take the idea of price incentives more radically than Paul would. I'd say "do nothing" besides maintain harmonious relations among private property owners. Better yet, forbid the politicians from fiddling at all with the economy. Whenever they do they end up listening to rich lobbyists and their bribes for special interests and making things worse. Let markets, not pressure groups, take care of the problems.
Maria: But Bayla, the government has to do something when unemployment gets too high. A President can't just sit on his hands.
Paul: And if you were President, Bayla, how do you think you'd stay in office if you did nothing?! My poly-sci prof says that people voted for Clinton in 1992 because they thought George Bush, Sr. hadn't done anything about the recession.
Bayla: Fine. If the majority wants Big Government, I'd leave office. They're not getting it from me.
Rodney: I think as President I should do something activist. In a rich country like ours it's immoral to allow unnecessary suffering. I'm starting to think that institutional policies such as the negative income tax and free labor market zones are good for countries like the U.S. and Europe. But Paul your poly-sci prof is mistaken if he thinks there is a general relationship between policy, outcomes, and reelection. In the 2000 election people voted to reelect George Bush, Jr. despite the downturn in the economy and the lack of popular support for the war. That wasn't an anomaly.
Maria proposes a fiscal response to the downturn, Paul a monetary response, and Rodney an institutional one, whereas Bayla prefers not to do anything. Surprisingly, Rodney expresses reservations about the political process. Though typically radical in his beliefs, Rodney has come to appreciate the Smithian argument for "unintended negative consequences." Dreaming up economic policy is one thing, but implementing it is, he knows, quite another.