Macroeconomic Policy, Inflation, Unemployment, and Growth - Statistics Project Example

MACROECONOMIC POLICY, INFLATION, UNEMPLOYMENT AND GROWTH Introduction The maintenance of stable economic conditions has confirmed to be a challenging undertaking not only in Australia, but also in other countries around the globe. This has resulted to the emergence of external current account pressures and unwanted inflation. Studies have indicated that, policy action put forth to address these pressures has often caused short-term downturn, and certainly, inhibitedthe justifiablespeed of economic growth (Bernanke, 2007). Nevertheless, these pressures have been influenced by the failure of the policy. These sudden modifications in the economic outlook usually impact businesses and investments at a large extent. Uncertainty regarding inflation forecasts and fiscal imbalances can result to higher real interest rates and this primarily discourages investment (Bartolotti, 2006). For more than a decade, Australian macroeconomic policy has been directed principallyat controlling inflation in the certainty that success in accomplishing this target would be linked with macroeconomic stability and growth. Following the Global Financial Crisis the main emphasis of macroeconomic policy has been on trying to avoid a recession. This paper will contrast these two phases of policy and explain how macroeconomic policy objectives, targets and instruments have differed. The experience of the Australian economy over the last 10-15 years In the globe, Australia has one of the strongest economies with nearly two consecutives decades of the levels of unemployment and growthfalling to generational lows (Anderson and University of Adelaide, 2009). Consequently, with almost two decades of policy and structural reforms, Australian economy is resilient, flexible and highly incorporated with world markets (Anderson and University of Adelaide, 2009). Contemporarily, the strength of the Australian economy has been emphasized by its capability to withstand numerous external and internal events among them a housing boom, a major drought, and the Asian economic and financial crises (Nieuwenhuysen et al., 2001).Studies have indicated that, since the year 1991, real economy in Australia has grown 3.3 percent every year (OECD, 2010). In 2007, the country’s Gross Domestic Product was about one trillion dollars. Furthermore, there has been a decrease in unemployment rates, from around 11 percent fifteen years ago to less than five percent in the year 2008 (OECD, 2010). This is deemed to be the lowest unemployment level since 1970s. The country’s strong fiscal position has been influenced by its continued budget surpluses. Between the years 2002-2003 and 2006-2007, the budget surpluses in Australia were between one percent and 1.6 percent of the gross domestic product (OECD. 2008). Predominantly, these surpluses have been employed in retiring government debt. Between the years 2005 to 2006, Australia was able to eliminate net government debt. In 2008, Australia was a debt creditor corresponding to a projected 2.7 percent of the gross domestic product. An Economic survey carried out by the Organization for Economic Co-operation and Development (OECD) in Australia in 2007 revealed that, the country’s macroeconomic performance is remarkable (OECD. 2008). The growth in gross domestic product since the year 2000 averaged beyond three percent each year whilst the real gross domestic income grew by four percent (OECD. 2009). The OECD also revealed that the standard of living in Australia has also considerably risen and currently, it exceeds the living standards of major nations with the exception of the United States. The Australian economy is a developed economy with a gross domestic product of about 1.23 trillion US dollars. In this year 2011, Australia was ranked 13 in terms of nominal gross domestic product, and 19th largest importer and exporter (Trading Economics, 2011). The country’s economic success however depends on abundance of mineral resources and agriculture. The chart below shows the growth rate of Australian Gross Domestic Product between the years 2007 to 2011. It is apparent from the above that there has been positive and negative growth in the country’s GDP. This has been influenced by collapse in resources exports as the Australia economy primarily depends on agriculture and mineral resources. This is major challenge to policy makers as they are not in a position to control the depreciation of mineral resources in order to improve the economy positively. In September 2011, the unemployment level in Australia was 5.2 percent. Between the years 1978 and 2010, the unemployment rate in Australia averaged 7.2 percent with 10.9 percent in1992 and 4 percent in 2008. The graph below shows Australia unemployment rate between the years 1999 and 2010. Unemployment rates in percentages (CIA World Factbook, 2011) Year Unemployment rate Percent Change 1997 8.45 -0.97 % 1998 7.733 -8.49 % 1999 6.925 -10.45 % 2000 6.267 -9.50 % 2001 6.767 7.98 % 2002 6.375 -5.79 % 2003 5.942 -6.79 % 2004 5.392 -9.26 % 2005 5.058 -6.19 % 2006 4.783 -5.44 % 2007 4.367 -8.70 % 2008 4.258 -2.50 % 2009 5.592 31.33 % 2010 5.233 -6.42 % (International Monetary Fund, 2011) It is true from the above that, the rates of unemployment decreased considerable between the years 2003 and 2008. However, the years 2009 and 2010 registered an increase in the levels of unemployment. It is clear that the employment levels have risen considerably since the early 1990s when the Australian economy was hit by an economic downturn (OECD, 2010). The 2008-2009 economicdownturns which were caused by the global financial crises resulted to rising unemployment, falling employment and a decline in the levels of participation (OECD, 2010). Although policy makers try to influence economic growth positively by formulating policies deemed favourable, some factors which trigger economic downturns are beyond their control as they are affecting the whole world. As indicated in the table below, the Australian export levels have also significantly reduced since 1999. This is a major problem in Australia as the country depends entirely on export for the success of its economy. This is also a major challenge to policy makers. Although measures are put in place to influence the economy positively, reduction in export levels may result to decrease in foreign exchange earning and this has major implications for the economy. For instance, it may result to inflation and increased unemployment levels. Export rates in percentages Country 1999 2000 2002 2003 2004 2005 2006 2007 2008 2009 2010 Australia 7.5 6.4 6.3 6 5.1 5.1 4.9 4.4 4.2 5.6 5.1 (CIA World Factbook, 2011) Concepts of instruments and targets in macroeconomic policy In an attempt of avoiding economic shocks, governments in many countries make adjustments by the use of policy modifications which they believe can stabilize the economy (Dornbusch, 2006). The attainment of these adjustments is deemed vital in maintaining a stable economy and continued growth. Monetary policy and fiscal policy are the two macroeconomic instruments employed by policy makers in stabilizing the economy (Viney, 2009). Fiscal policy involves the use of taxation and government expenditures to sway a country’s financial system. According to Suescún (2007), typically most governments employ fiscal policies with an aim of endorsing substantial and sustainable economic growth and lessen poverty. In the modern society, the aim and function of fiscal policy has attained importance as governments have gotten involved in markets with an objective of shoring up the economy, boosting growth and lessening the effects of global financial crises. Indirectly and unswervingly, governments usually control the manner in which possessions are used in the economy (Suescún, 2007). Monetary policy on the other hand is the process through which money supply is controlled by a country’s monetary authority. This frequently targets interest rates with the aim of stimulating economic growth and stability (Kenyon, 1995). The monetary policy objectives encompassstabilizing prices and reducing the levels of unemployment. Monetary policy is either expansionary or contractionary. An expansionary monetary policy typically amplifies money supply in the economy whereas a contractionary policy shrinks the supply of money or increases it more slowly than normal. Expansionary policy is used in an attempt of reducing unemployment during a recession whilst a contractionary policy is aimed at slowing inflation in order to prevent the resultant deterioration and distortions of asset values. Some examples of monetary policy include the following: Monetary policy Target market variable Price level targeting Interest rate on overnight debt Inflation targeting Interest rate on overnight debt Fixed exchange rates Spot price of the currency Monetary aggregates Growth in the supply of money Mixed policy Interest rates Gold standard Spot price of gold Like many other nations including Brazil, Canada, United Kingdom and New Zealand amongst others, the Australian policy is inflation targeting. This means that, these countries will target on interest rates on overnight debt. In order to control the supply of money in the economy, the monetary authority employs various tools including open market operations whereby the government either buys or sells financial assets, increasing or decreasing the reserve requirements, controlling interest rates and discount window lending (Macfarlane, 1998). All these tools are modified as required to either increase or decrease the levels of money supply in the economy. Evidently, these instruments and targets can be applied in the Australian policy framework. It is obvious that the country typically aims at controlling inflation and avoiding a recession. These as a result assist in stabilizing the economy and boosting economic growth. Studies have proven that, a proper mixture of these instruments helps in attaining the aforementioned objectives. How the economic theory can be used to explain current macroeconomic policy Economic theory offers an outlet for study in all fields of economics founded on rigorous theoretical reasoning. One example of economic theory is Keynesian economics founded by John Maynard Keynes. Keynesian economics is a theory of total spending in the economy referred to as aggregate demand and its impacts on inflation and output (Gordon, 1990). The theory is based on various principles some of which assist in describing how the economy functions. According to Keynesian, a country’s aggregate demand is swayed by a number of economic decisions, which include both private and public and at times behaves unpredictably (Mankiw, 1993). Most significantly, the public decisions encompass those on fiscal and monetary policies, that is, taxation and spending. Although in some decade’s back debates were held regarding the infectiveness of monetary and fiscal policy, almost all monetarists and Keynesians currently are certain ofthe fact that both monetary and fiscal policies influence aggregate demand (Mankiw, 1993). Nevertheless, some economists believe that taxation and government spending have no impacts on aggregate demand. According to Keynesian theory, modifications in total demandwhether unanticipated or anticipated have their largest short-run impact on employment and real out but on prices. This is evidenced by the fact that when there is decrease in unemployment, as depicted in the Phillips curve, inflation only rises slowly (Gordon, 1990). The Keynesian theory illustrates that monetary policy can only produce real impacts in employment and output when some prices such as wages are rigid (Mankiw, 1993). If not, injection of money into the economy such as increase in government spending would only modify such prices by an equal percentage. According to this it is true that Keynesian theory usually make assumption that wages or prices are rigid. In relation to standard microeconomic theory, real demands and supplies must not adjust if nominal prices either decrease or increaseproportionately. As stated by Keynesians, the usual unemployment level is not ideal. This is based on the fact that, unemployment is subject to the whim of total demand, and that prices only change slowly(Blinder, 2008). Indeed, Keynesians normallyview unemployment as too high and too variable. Furthermore, Keynesians feel confident that periods of depression and recession are economic problems. One of the major economic problem as viewed by Keynesians is the business cycle- the periods of boom, recession and depression (Blinder, 2008). For this case, the Keynesians advocate for an activist stabilization policy aimed at lessening the largeness of business cycle. Nevertheless, a few conservative Keynesians doubt the efficiency of the stabilization policy. The Keynesian economic theory can be used to explain current microeconomic policy in Australia. Over the recent decades, the Australian government has aimed at achieving three main goals of external balance, internal balance and economic growth. These objectives are directed towards sustaining economic growth whilst upholding low inflation in addition to controlling the amount of foreign liabilities and debts. It is obvious that an economy’s economic growth is never constant and this is influenced by changes in global business cycle. As a result, Australian macroeconomic policies are aimed at minimizing these fluctuations by influencing demand in order to ensure sustained growth with low unemployment and low inflation(Blinder, 2008. To ensure efficiency, government combines both the supply-side and demand-side in influencing the economic reforms by applying monetary and fiscal policies. As explained by the Keynesian theory, the current Australian macroeconomic policieswhich include the fiscal and monetary policies are aimed at ensuring economic growth. The government uses taxation and government spending to influence the country’s financial system with an aim of enhancing sustainable economic growth and lessen poverty (Parham, 2002).On the other hand, monetary policies are aimed at stabilizing the currency, reducing unemployment, ensuring economic prosperity and citizens wellbeing (Kenyon, 1995). It is true that the macroeconomic policies used by the government and the central bank of Australia have proved to be successfulin controlling negative sways of demand. The recent fiscal and monetary policies have also managed to achieve various objectives which may be influenced by international business cycles. References Anderson, K., and University of Adelaide, 2009. Australia's Economy in Its International Context: The Joseph Fisher Lectures I, Canberra: The University of Adelaide. Bartolotti, L. N. 2006. Inflation, fiscal policy and central banks. New York: Nova Publishers. Bernanke, B. 2007. Principles of macroeconomics. McGraw-Hill/Irwin. Blinder, A. S. 2008. Macroeconomics: Principles and Policy. New York: Cengage Learning. Blinder, A. S., 2008. Keynesian Economics http://www.econlib.org/library/Enc/KeynesianEconomics.html. [Accessed September 3, 2011]. CIA World Factbook, 2011. Economy: unemployment rate in Australia. Dornbusch, R. 2006. Macroeconomics. Melbourne: McGraw-Hill. Gordon, R J. 1990. What Is New-Keynesian Economics? Journal of Economic Literature vol.28, no. 3, pp. 1115–1171. International Monetary Fund - 2011 World Economic Outlook. Kenyon, P. D. 1995. Monetary policy in Australia: an introduction. Department of Economics Murdoch University. Macfarlane, I. J. 1998. Australian Monetary Policy in the Last Quarter of the Twentieth Century. Reserve Bank of Australia Bulletin. Mankiw, N. G, 1993. A Symposium on Keynesian Economics Today. Journal of Economic Perspectives vol.7, pp. 3–82. Nieuwenhuysen, J. P., Lloyd, P, and Committee for Economic Development of Australia, 2001. Reshaping Australia's economy: growth with equity and sustainability, Cambridge: Cambridge University Press. OECD. 2008. OECD Economic Surveys: Australia 2008. Issue 18. OECD Publishing. OECD, 2010,OECD Economic Surveys: Australia 2010 – OECD Publishing. OECD. 2009. Economic Policy Reforms: Going for Growth 2009. OECD Publishing. Parham, D. 2002, Microeconomic reforms and the revival in Australia’s growth in productivity and living standards. Assistant Commissioner - Productivity Commission, Canberra Conference of Economists Adelaide. Suescún, R. 2007, Fiscal policy, stabilization, and growth: prudence or abstinence?World Bank Publications. Trading economics, 2011, Australia GDP growth rate.http://www.tradingeconomics.com/australia/gdp-growth. Accessed September 3, 2011. Viney, C. 2009.Mcgrath's financial institutions, instruments and markets.Melbourne, McGraw-Hill. Read More