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Economics explained


The macroeconomy

Macroeconomic policy objectives

Macroeconomic policy objectives

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We can identify four macroeconomic policy objectives that governments typically pursue:

High and stable economic growth.

Low unemployment.

Low inflation.

The avoidance of balance of payments deficits and excessive exchange rate fluctuations

1. Inflation vs. economic growth
Economic growth and inflation can be a cause of macroeconomic conflict (which leads to a similar conflict between unemployment and inflation). Inflationary pressures are more likely to increase when the economy grows rapidly. When growth exceeds the long-run trend rate and AD increases faster than AS, inflation is more likely to occur.

When the economy expands rapidly, businesses may find it difficult to hire enough skilled labour; this can lead to wage inflation, and higher wages lead to higher prices. In addition, if demand outpaces supply, businesses will respond to shortages by raising prices.

2. Balance of payments vs. economic growth
As consumer spending drives economic growth, the current account tends to be in deficit. This is due to the fact that when consumer spending rises, so will import spending. This is particularly true in the United Kingdom, where we have a high marginal proclivity to import (MPM). Furthermore, rapid economic expansion may raise inflation and reduce the competitiveness of exports.

3. Budget deficit vs. economic growth
A government can decide it has to cut its budget deficit. This will necessitate a combination of higher taxes and reduced spending. This tightening of fiscal policy, on the other hand, will result in a drop in AD and reduced economic growth.

4. The environment vs. economic growth
Between economic expansion and environmental goals, there can be a significant conflict. Increased GDP leads to increased pollution and non-renewable resource consumption.

Economic growth can, however, be achieved without causing environmental damage. Solar panels, for example, have helped enhance energy productivity while also being better for the environment than burning coal.

5. Unemployment and inflation are at odds.
There is often a trade off (at least in the short run) between unemployment and inflation. Jobs are created during periods of economic growth, resulting in a decrease in unemployment. However, when unemployment decreases, wage pressures rise, resulting in inflation.

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