Macroeconomic Objectives of the UK Govenment Economic Policy - Assignment Example

? Macroeconomic Objectives. Introduction Macroeconomics is related to the big issues of the economy. It is the study of aggregate supply and aggregate demand. Aggregate demand is the total demand of good and services in an economy at some given price-level. And, aggregate supply is the total output of goods and services in an economy at a given price-level (Ball 1999). The major objectives of macroeconomic policies are full employment, relatively stable prices, maintaining a satisfactory balance of payment position and high, but sustainable economic growth and development in the economy (Bryant 2004). . In order to achieve equilibrium in the economy or to achieve certain macroeconomic objectives, the UK government formulates certain macroeconomic policies. The policies designed by the UK government are primarily to improve the working of the economy. Body Unemployment fluctuates with the business cycles. High employment has a number of significant advantages. Most people receive higher incomes from employment than from state benefits. Indeed when the employment is high, output and hence living standard are usually high. Work also provides status and an opportunity to keep up with the developments in technology and work practices. In contrast, unemployment imposes costs on the unemployed in particular and on the wider society. Those who are unemployed are likely to have lower incomes, are more prone to mental illness and missed out on training and promotion (Mody & Pattilo 2006). . The whole economy suffers a loss of potential output and hence actual living standards are below potential living standards. There is also evidence of a direct link between the unemployment of young men and crime. So, high employment and low unemployment are generally considered to be desirable. However, economist differs as to what level of employment they believe is possible and what measures may be taken to achieve it. Keynesians traditionally have discussed full employment. By this they do not mean zero unemployment since some people will always be in between jobs. Full employment has usually been defined as between two percent and three percent unemployment and occurs when the number of vacancies matches the number of unemployed (Bourguignon, Bussolo, & Silva 2008). New classical economist refers to the non-accelerating rate of unemployment ( NAIRU). It can also be called the natural rate of unemployment. It is the rate of unemployment which exists when all those who want to work at the going wage rate and who have the appropriate skills can find a job (Storm & Naastepad 2012). . Whether it is example four percent or 8 percent will depend on a number of factors. These include the gap between paid employment and state benefit, attitudes towards living on benefits, labor market information and skill levels. A government basing its policies on new classical theory would seek to reduce NAIRU by improving the working of the labor market ( Top of Form Fabiani 1998).  Bottom of Form . Furthermore, Governments usually not aim for complete price stability but for a low and stable rate of inflation. Complete price stability or zero inflation would mean that the general price level is not changing. In practice, in a dynamic, growing economy the general price the general price level is likely to rise by between 1% and 2% per year. This rise will reflect the buoyancy level of demand and the fact that the quality of goods tends to rise. For example, a television purchased in the year 2013 may be 5% more expensive than one purchased in 2012 but it may also, for instance, have extra channels and give better reception. If the rate of inflation is equal to or below rival countries, the countries can at least maintain its international price competitiveness. If it is stable then firms do not have to guess what wage claims they need to make to maintain their real wages. However, high and accelerating inflation is clearly undesirable. It can reduce a country’s international competitiveness, reduce the real income of some groups, create uncertainty, make it difficult for firms to plan and thereby may discourage investment. Very high levels of inflation i.e. hyperinflation can cause the economic and political system of a country to break down. Another major macroeconomic objective of the government is to ensure balance of payment equilibrium. The balance of payment records a country’s transactions with other countries. It includes money which enters and leaves the country i.e. inflows and outflows. Money can come into the country from abroad for a variety of reasons. These include selling goods abroad, providing services for foreigners, money being placed in UK financial institutions. By people and companies from abroad, foreigners lending money to the country’s citizens and companies, foreigners buying the country’s share and government bonds and foreign companies setting up in the country. Money leaves the country when imports and services are purchased from abroad and when the country’s citizens and companies undertake financial and capital investment abroad. A government will seek, over time, to earn as much from its sale of exports of goods and services abroad as it spends on imports of goods and foreign services. This will mean that its trade in goods and trade in services will balance. It will not want to spend more than it earns because then the country will get into debt. It will also be unlikely to want a surplus since this will mean that the country is not purchasing all the goods and services it can afford and so living standards are not as high as possible. When citizens and companies of the country invest abroad it involves money leaving the country. However, in the longer run it will generate an inflow of funds as profit, interest and dividends come into the country. So a country may not be concerned about the initial outflow unless domestic companies are setting up abroad when there is high unemployment at home. Inward investment initially involves money coming into the country. It can also be beneficial as capital investment can generate employment in the home country. However, in the long-run money will leave the country in the form of profits, interest and dividends. A UK government may seek to influence its capital account position if the investment flows have adverse effects on employment or the exchange rate. The inhabitants’ living standard is greatly determined by the output of the economy. As a result of rising output in the economy higher level of consumption can be enjoyed by the people living in the country. Economic development means economic growth coupled with structural changes in the economy for obtaining better standard of living. Before examining the causes of economic growth, it is essential to distinguish between actual and potential economic growth. Actual economic growth is the persistent increase in real output over time. A country’s statistics on growth rates is the actual growth rate, whereas, the potential growth is the rate at which the economy grows. It is the annual increase in the capacity of economy’s production in terms of percentage. The factors that determine the growth are an increase in the availability of natural resources, size and productivity of labor forces or availability of capital. Secondly, an increase in the efficiency to produce the output, through technological progress and the amount and quality of human resources determines growth. The unemployment rate will increase if the potential growth rate exceeds the actual growth rate. Moreover, there will be an increase in the spare capacity which means there will be a growing gap between potential and the actual output. To fill this gap, the actual growth rate would temporarily have to pass the potential growth rate. However, the actual growth rate will be restricted to the potential growth rate. Thus, two vital policy issues concerned with economic growth, i.e. the short-run issue of ensuring, that the actual growth is determined when the actual output is as near as possible to potential output and the long-run issue of what determines the rate of potential economic growth. Although, growth in potential output varies to some extent over the years – depending on the rate of advance of technology, the level of investment and the discovery of new raw materials – it nevertheless tends to be much steadier than the growth in actual output. Actual growth tends to fluctuate. For instance, in some years, the UK will experience high rates of economic growth; the country experiences a boom. In other years, economic growth is low or even negative; the country experiences a slow down or recession. This cycle of booms and recessions is known as the business cycle or trade cycle. Countries rarely experience stable economic growth. Instead they experience business cycles. Periods of rapid economic growth are followed by periods of low growth or even a fall in output. Sometimes, these cycles can be the result of government policy of raising taxes in a recession in order to compensate for falling tax revenues caused by lower incomes and expenditures. The higher taxation dampens consumer demand and causes firms to cut back on production to match the fall in sales. Usually, however, economic fluctuations are simply the result of the workings of the market systems. The fluctuations in aggregate demand can be seen as the root problem in short-term economic growth fluctuations. Consumer spending fluctuates; firms’ investment fluctuates; export sales tend to fluctuate. What is more, these various elements interact with each other. Like, a rise in consumer expenditure can stimulate firms to invest in order to build up capacity to meet the extra demand. This, in turn, generates more employment in the capital good industries and extra incomes for their employees. This further stimulates consumer demand. Also, shortages would be created if there would be a rapid rise in the total demand. Hence, the output would be encouraged to increase and so fluctuations in the economy would be reduced. So ultimately, when the total demand would fall, so will the output and the growth in the economy. For growth to be sustained over the long-term there must be an increase in the potential output. The major determinants of potential output are the amount of resources available and their productivity. If supply potential is to grow, then either potential output, the productivity or both must grow (Cobham 2002). . The UK government must increase the growth rate by either focusing on the demand side or the supply side of the economy i.e. they must attempt to create sufficient aggregate demand to ensure that firms wish to invest and that potential output is realized. Alternatively, they may seek to increase aggregate supply by concentrating on measures to increase potential output that is encouraging research and development, innovation and training. Secondly, they may be market-orientated or interventionist policies. Many economists believe that the best environment for encouraging economic growth is one where private enterprise is allowed to flourish; where entrepreneurs are able to reap substantial rewards for investment in new techniques and new products. Such economists, therefore, advocate policies designed to free up the market. Economic growth is measured in terms of GDP and brings a number of advantages, in particular higher standard of living. More goods and services will be available and these may be of a higher standard. However, economic growth may also bring some disadvantages including pollution and the depletion of non-renewable resources. The UK Government is becoming more aware of the need for sustainable development. This means increasing output in a way which does not damage the environment and which enables an increase in output to continue. In addition to these four major economic objectives a government may have other objectives for the economy. These may include a more even distribution income of wealth and a cleaner environment. It is difficult to achieve all four macro economic objectives at a time. Conclusion The UK government must develop a framework of economic policies. The first task is to determine the objectives. Then the target has to be selected. The next task is to choose the instruments of policy to be used in pursuit of the objectives. So, if the government wants to reduce unemployment, it may seek to influence aggregate demand by reduction in income tax and/or increase in public spending. It can use monetary policy to achieve these objectives, such as changes in interest rates and fiscal policy to manipulate taxes and govt. expenditures to control inflation (Mishkin 2007). References Top of Form BALL, L. (1999). Aggregate demand and long-run unemployment. Economic Activity. Top of Form COBHAM, D. P. (2002). The making of monetary policy in the UK, 1975-2000. Chichester, West Sussex, J. Wiley. http://search.ebscohost.com/login.aspx?direct=true&scope=site&db=nlebk&db=nlabk&AN=75437. Bottom of Form Top of Form BRYANT, R. C. (2004). Crisis prevention and prosperity management for the world economy. Washington, D.C., Brookings Institution Press. http://search.ebscohost.com/login.aspx?direct=true&scope=site&db=nlebk&db=nlabk&AN=126079. ORGANISATION FOR ECONOMIC CO-OPERATION AND DEVELOPMENT. (2004).United Kingdom. Paris, Organisation for Economic Co-operation and Development. http://new.sourceoecd.org/926401621X MODY, A., & PATTILO, C. (2006). Macroeconomic policies and poverty reduction. London, Routledge. Top of Form BAUTISTA, R. M., & VALDE?S, A. (1993). The bias against agriculture: trade and macroeconomic policies in developing countries. San Francisco, Calif, International Center for Economic Growth. Top of Form BOURGUIGNON, F., BUSSOLO, M., & SILVA, L. A. P. D. (2008). The impact of macroeconomic policies on poverty and income distribution macro-micro evaluation techniques and tools. Houndmills, Basingstoke, Hampshire, Palgrave Macmillan. http://public.eblib.com/EBLPublic/PublicView.do?ptiID=459411. Top of Form STORM, S., & NAASTEPAD, C. W. M. (2012). Macroeconomics beyond the NAIRU. Cambridge, Mass, Harvard University Press. Top of Form FABIANI, S. (1998). Nairu: incomes policy and inflation. Paris, Organisation for Economic Co-operation and Development. Top of Form MISHKIN, F. S. (2007). Monetary policy strategy. Cambridge, Mass, MIT Press. Bottom of Form Bottom of Form Bottom of Form Bottom of Form Bottom of Form Bottom of Form Bottom of Form Read More