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).
Following Okun, unemployment rises when growth dips
3. External balance Deficits emerge during booms as imports get sucked in
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.
3. Monetary policies 1976-85 monetary targetting and the corset 1985-90 shadowing the Deutschmark 1990-92 European Exchange Rate Mechanism 1992-97 inflation targetting 1997- inflation targetting with central bank independence
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.