Actions that governments take in the economic field
The
economy
of
governments
covers the systems for setting levels of
taxation
,
government budgets
, the
money supply
and
interest rates
as well as the
labour market
,
national ownership
, and many other areas of government interventions into the economy.
Most factors of
economic policy
can be divided into either
fiscal policy
, which deals with government actions regarding taxation and
spending
, or
monetary policy
, which deals with
central banking
actions regarding the money supply and interest rates.
Such policies are often influenced by international institutions like the
International Monetary Fund
or
World Bank
as well as
political beliefs
and the consequent policies of parties.
Types of economic policy
[
edit
]
Almost every aspect of government has an important economic component. A few examples of the kinds of economic policies that exist include:
[1]
Macroeconomic stabilization policy
[
edit
]
Stabilization policy
attempts to stimulate an economy out of recession or constrain the
money supply
to prevent excessive inflation.
- Fiscal policy
, often tied to
Keynesian economics
, uses government spending and taxes to guide the economy.
- Fiscal stance: The size of the deficit or surplus
- Tax policy
: The taxes used to collect government income.
- Government spending
on just about any area of government
- Monetary policy
controls the value of currency by lowering the supply of money to control inflation and raising it to stimulate economic growth. It is concerned with the amount of
money
in circulation and, consequently,
interest rates
and
inflation
.
Tools and goals
[
edit
]
Policy is generally directed to achieve particular objectives, like targets for
inflation
,
unemployment
, or
economic growth
. Sometimes other objectives, like
military spending
or
nationalization
are important.
These are referred to as the
policy goals
: the outcomes which the economic policy aims to achieve.
To achieve these goals, governments use
policy tools
which are under the control of the government. These generally include the
interest rate
and
money supply
,
tax
and government spending, tariffs,
exchange rates
,
labor market
regulations, and many other aspects of government.
Selecting tools and goals
[
edit
]
Government and central banks are limited in the number of goals they can achieve in the short term. For instance, there may be pressure on the government to reduce inflation, reduce unemployment, and reduce interest rates while maintaining currency stability. If all of these are selected as goals for the short term, then policy is likely to be incoherent, because a normal consequence of reducing inflation and maintaining currency stability is increasing unemployment and increasing interest rates.
Demand-side vs. supply-side tools
[
edit
]
This dilemma can in part be resolved by using microeconomic
supply-side
policy to help adjust markets. For instance, unemployment could potentially be reduced by altering laws relating to
trade unions
or
unemployment insurance
, as well as by macroeconomic (
demand-side
) factors like interest rates.
Discretionary policy vs policy rules
[
edit
]
For much of the 20th century, governments adopted
discretionary policies
like
demand management
designed to correct the
business cycle
. These typically used fiscal and monetary policy to adjust inflation, output and unemployment.
However, following the
stagflation of the 1970s
, policymakers began to be attracted to
policy rules
.
A discretionary policy is supported because it allows policymakers to respond quickly to events. However, discretionary policy can be subject to
dynamic inconsistency
: a government may say it intends to raise interest rates indefinitely to bring inflation under control, but then relax its stance later. This makes policy non-credible and ultimately ineffective.
A rule-based policy can be more credible, because it is more transparent and easier to anticipate. Examples of rule-based policies are fixed
exchange rates
,
interest rate rules
, the
stability and growth pact
and the
Golden Rule
. Some policy rules can be imposed by external bodies, for instance, the
Exchange Rate Mechanism
for currency.
A compromise between strict discretionary and strict rule-based policy is to grant discretionary power to an independent body. For instance, the
Federal Reserve Bank
,
European Central Bank
,
Bank of England
and
Reserve Bank of Australia
all set interest rates without government interference, but do not adopt rules.
Another type of non-discretionary policy is a set of policies that are imposed by an international body. This can occur (for example) as a result of intervention by the
International Monetary Fund
.
Economic policy through history
[
edit
]
The first economic problem was how to gain the
resources
it needed to be able to perform the functions of an early government: the
military
,
roads
and other projects like building the
Pyramids
.
Early governments generally relied on
tax
in kind and
forced labor
for their economic resources. However, with the development of
money
came the first policy choice. A government could raise money through taxing its citizens. However, it could now also
debase the coinage
and so increase the
money supply
.
Early civilizations also made decisions about whether to permit and how to tax
trade
. Some early civilizations, such as
Ptolemaic Egypt
adopted a
closed currency policy
whereby foreign merchants had to exchange their coin for local money. This effectively levied a very high
tariff
on foreign trade.
By the early modern age, more policy choices had been developed. There was considerable debate about
mercantilism
and other restrictive trade practices like the
Navigation Acts
, as trade policy became associated with both national wealth and with foreign and colonial policy.
Throughout the 19th century,
monetary standards
became an important issue.
Gold
and
silver
were in supply in different proportions. Which metal was adopted influenced the wealth of different groups in society.
The first fiscal policy
[
edit
]
With the accumulation of private capital in the Renaissance, states developed methods of financing
deficits
without debasing their coin. The development of
capital markets
meant that a government could borrow money to finance war or expansion while causing less economic hardship.
This was the beginning of modern
fiscal policy
.
The same markets made it easy for private entities to raise
bonds
or sell
stock
to fund private initiatives.
Business cycles
[
edit
]
The
business cycle
became a predominant issue in the 19th century, as it became clear that industrial output, employment, and profit behaved in a
cyclical
manner. One of the first proposed policy solutions to the problem came with the work of
Keynes
, who proposed that fiscal policy could be used actively to ward off depressions, recessions and slumps. The
Austrian School
of economics argues that central banks create the business cycle. After the dominance of
monetarism
[2]
and
neoclassical thought
that advised limiting the role of government in the economy in the second half of the twentieth century, the interventionist view has once more dominated the economic policy debate in response to the 2007-2008 financial crisis,
[3]
Evidence-based policy
[
edit
]
A recent trend originating from medicine is to justify economic policy decisions with best available evidence.
[4]
While the previous approaches have been focused on macroeconomic policymaking aimed at sustaining promoting economic development and counteracting recessions,
EBP
is oriented towards all types of decisions concerned not only with anti-cyclical development but primarily with the growth-promoting policies. To gather evidence for such decisions, economists conduct randomized field experiments. The work of Banerjee, Duflo, and Kremer, the 2019 Nobel Prize laureates
[5]
exemplifies the gold type of evidence. However, the emphasis put on experimental evidence by the movement of evidence-based policy (and
evidence-based medicine
) results from the narrowly construed notion of intervention, which encompasses only policy decisions concerned with policymaking aimed at modifying causes to influence effects. In contrast to this idealized view of evidence-based policy movement, economic policymaking is a broader term that includes also institutional reforms and actions that do not require causal claims to be neutral under interventions. Such policy decisions can be grounded in, respectively, mechanistic evidence and correlational (econometric) studies.
[6]
See also
[
edit
]
References
[
edit
]
- ^
Walter Plosila, "State Science- and Technology-Based Economic Development Policy: History, Trends and Developments, and Future Directions," Economic Development Quarterly, Vol. 18, No. 2, May 2004, pp. 113-126
- ^
Friedman, Milton (1982). "Monetary Policy: Theory and Practice".
Journal of Money, Credit and Banking
.
14
(1): 98?118.
doi
:
10.2307/1991496
.
ISSN
0022-2879
.
JSTOR
1991496
.
- ^
Screpanti, Ernesto; Zamagni, Stefano (2005-05-26).
An Outline of the History of Economic Thought
. OUP Oxford.
ISBN
978-0-19-164776-5
.
- ^
Cartwright, Nancy; Hardie, Jeremy (2012-09-27).
Evidence-Based Policy: A Practical Guide to Doing It Better
. Oxford University Press.
ISBN
978-0-19-984160-8
.
- ^
Wearden, Graeme (2019-10-14).
"Nobel Prize in Economics won by Banerjee, Duflo and Kremer for fighting poverty - live updates"
.
The Guardian
.
ISSN
0261-3077
. Retrieved
2020-04-07
.
- ^
Maziarz, Mariusz (2020).
The Philosophy of Causality in Economics: Causal Inferences and Policy Proposals
. London & New York: Routledge.
Further reading
[
edit
]
- Alan S. Blinder (2018).
Advice and Dissent: Why America Suffers When Economics and Politics Collide
. Basic Books.
ISBN
978-0465094172
.