An Evaluation of the Macro Policy Response to COVID

Chris Murphy

Departmental Working Papers from The Australian National University, Arndt-Corden Department of Economics

Abstract: The health policies the government introduced in March 2020 to contain the COVID-19 pandemic led to recession in the restricted industries. This recession was treated with a very large expansion of fiscal policy and the monetary policy interest rate was reduced to its assessed effective lower bound (ELB). This paper evaluates this macro policy response from the three related perspectives of pandemic macro policy principles, scenario analysis and optimal control of unemployment and inflation. Using scenario analysis, we find that the macro policy response was successful initially, reducing the peak rate of unemployment in mid-2020 by 2.0% points. However, the stimulus lingered for too long, in the end providing $2 of compensation for every $1 of private income lost to COVID. Under the macro policy principles for a pandemic, a shorter stimulus scenario is developed in which fiscal stimulus provides $1 for $1 compensation for income lost to COVID and the policy interest rate begins rising a year earlier, in May 2021. This reduces the peak inflation rate during 2022 by a simulated 2.1% points. Using optimal control, we find that the macro policy stimulus continued for too long irrespective of whether we place a high or low weight on controlling unemployment relative to inflation. In future pandemics, fiscal policy should compensate, but not over-compensate, economic agents for income losses due to restrictions and should not stimulate aggregate demand.The monetary authorities should focus on inflation in the industries not subject to restrictions.

JEL-codes: E37 E52 E62 E63 (search for similar items in EconPapers)
Pages: 111 pages
Date: 2024
New Economics Papers: this item is included in nep-cba and nep-mac
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Persistent link: https://EconPapers.repec.org/RePEc:pas:papers:2024-9

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