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Managing the Economy 1.Policy objectives 2.Policy instruments 3.Theoretical issues.

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Presentation on theme: "Managing the Economy 1.Policy objectives 2.Policy instruments 3.Theoretical issues."— Presentation transcript:

1 Managing the Economy 1.Policy objectives 2.Policy instruments 3.Theoretical issues

2 Objectives 1. Stable prices

3 2. Full employment

4 Full employment is related to output growth via a relationship known as Okuns law. Arthur Okun statistically estimated the equationOkuns law Δu = 0.3 – 0.3ΔY where u is unemployment, Y is GDP and Δ is quarterly change. Hence growth of 4% per annum is needed to keep unemployment constant (this might have fallen to 2½% since Okuns work).

5 Following Okun, unemployment rises when growth dips

6 3. External balance Deficits emerge during booms as imports get sucked in

7 Policy instruments 1. Fiscal stance Appropriate to have an expansionary fiscal stance when economy is in recession. Note this did not happen in early 1980s – Thatcher policies.

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9 2. Supply side policies These include benefit payments, labour relations legislation, education policies, welfare to work, New Deal, tax reforms etc. Aim to reduce the natural rate of unemployment

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11 3. Monetary policies monetary targetting and the corset shadowing the Deutschmark European Exchange Rate Mechanism inflation targetting inflation targetting with central bank independence

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13 Theory of policy Jan Tinbergen argued that there should be as many policy instruments as there are targets. But note that some targets cannot be set independently of one another. Meade and Weale (1995 Scan J Econ) argue in favour of making each target the responsibility of one authority – on grounds of simplicity. Hence UK monetary policy targets inflation, supply-side policy targets unemployment, exchange rate policy targets external balance.


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