Growth in the Economy - Coursework Example

?Growth in the Economy Table of Contents Fiscal and Monetary Policies to Improve the GDP Growth and the Employment Rate 3 Difference in the Impact ofPolicies on a Closed Economy versus an Open Economy 7 Concept of Multiplier and its Impact 8 Impact of Growing Federal Budget Deficit on the Economic Growth 9 References 10 Fiscal and Monetary Policies to Improve the GDP Growth and the Employment Rate The government and the Fed’s main goal should be to increase the level of employment in the country and provide a stable economic growth while maintaining low inflation rate. In a scenario, when there is high unemployment, GDP growth is less than 2% per year, interest rate is almost zero and inflation rate is about 2% per year, the first action of the President of the country and the Chairman of the Fed should be to increase the aggregate demand of products in the nation and create more employment opportunities. This is because the high consumption level among the citizens would increase the requirement for production of goods, which would simultaneously increase the national income and the GDP of the country. The Gross Domestic Product (GDP) of a country is the summation of the total goods as well as services created in the country. Thus, in order to improve the GDP value of the country, the level of employment should be increased and in addition to it, the efficiency of the already employed workers should also be enhanced. This is because; increasing the number of workers would help increasing the overall productivity level of the country. Moreover, enhancing the efficiency of the workers by providing them technological assistance and up gradation of skills would help improve the individual performance and productivity of the workers. This rise in the individual productivity of the workers would have a cumulative positive effect on the overall productivity of the country and thus increase its GDP value. Hence, it can be understood that GDP growth can be attained not only by reducing the current rate of unemployment, but also by increasing the efficiency of the workers. Consequently, a percentage decrease in the unemployment level of the country would lead to more than proportionate rise in the GDP growth. This is in line with the Okun’s law, which states that one unit reduction in the rate of unemployment would lead to three unit rise in the real GDP (Neely, 2010). Improving the efficiency of the workers would require lesser number of workers to complete a job in comparison to the situation when the workers’ skills were not upgraded. The money saved by employing lesser number of workers can be utilized to make the payments for the technological and skill up gradation. The enlargement in the production level of the country, both as a result of increasing employment and the efficiency enhancement of the workers, would enable the producers to cut the price levels of the products and the services. This decrease in the price level would in turn augment the consumption level of the general public, which in turn would raise the level of aggregate demand in the country (Arestis & Et. Al., 2002). Fiscal policies can lower the rate of unemployment by assisting to enhance the aggregate demand. Fiscal policies that should be employed are lowering of tax rates and also boosting the government expenditure. The rise in the government spending should complement the national income level that would check unemployment. Low rate of taxes would augment the disposable earnings of the citizens and as a result the consumption level of the public would also rise. This increase in the aggregate demand would have more than proportionate impact on the national income as a result of the multiplier effect. This would subsequently lead to an enhancement in the country’s GDP. The enhancement in the national GDP would lead to an enlargement in the demand for workforce to meet the requirements of the amplified consumption level. Thus, this would lower the level of unemployment that is caused due to the deficiency of demand (Baumol & Blinder, 2010). However, other constituents of the aggregate demand have to be also considered. For instance, lowering the tax rate would not be effective, if the level of confidence is very low amongst the public. This is because; in such cases the public would rather choose to save instead of increasing their consumption level. The policy to raise the government expenditure so as to enhance the aggregate demand could probably take a considerable amount of time to have an impact. Moreover, it should also be considered that in order to raise the government spending, the government might have to take a loan from the private sector. This would result in low fund availability for the private sector to spend and consequently the aggregate demand would not rise (Baumol & Blinder, 2010). In addition to increasing the aggregate demand through the implementation of fiscal policies, the Federal government could encourage investments into the US economy from foreign multinational firms. The increase in the level of aggregate demand leads to a growth in the aggregate supply. The increase in the demand for amount produced leads to an overall rise in the total employment of the country (Arestis & Et. Al., 2002). Expansionary monetary policies cannot be employed because the interest rates are almost at zero and the utilization of contractionary monetary policy would not be suitable, since the increase in the interest rates would reduce the rate of growth of the economy. Thus, tightening the monetary policy would result in low GDP growth. There should be measures to reduce the intensity of overall unemployment in the long run. This can be achieved by bringing about an upgrading and enhancement in the employability of the labor available. The purpose of the up gradation should be to ensure that the unemployed develop the required skills to engage in the accessible job opportunities. Policies should focus on improving the occupational mobility of labor. If the implemented fiscal policies can raise the aggregate demand to an adequately high level, then the business organizations would look forward to increase the production level and thus they would have to enlarge their workforces. Thus, in order to lower the level of unemployment in the country, focus should be to generate a continued phase of economic growth in order that numbers of new jobs are produced (Baumol & Blinder, 2010). The government could develop strategies to upgrade the unemployed with the expertise and proficiency they require to get re-employment opportunities. There should also be measures to develop the motivation of the jobless individuals to find work. The main reason for structural unemployment in general is the inability of the workers to be occupationally mobile. This is because most of the time, the workers do not possess the appropriate education or skill to take up another kind of job available. This can be rectified by providing education and training that would increase and improve the potential of these workers. This kind of holistic approach would give the workers a better opportunity of taking up the new jobs that happen to be present in the economy (Arestis & Et. Al., 2002). In addition, the government should provide more grants to the public sector organizations as well as the employment exchange offices. The accurate and swift synchronization of the employment exchange office with the private organizations would provide more employment opportunities. The improvement in the GDP of a country leads to the reduction in the unemployment level in the country. However, with the improvement in the GDP of the nation, there is a likelihood of the inflation level also moving up. This is because; there exists an inverse relationship between the unemployment level of the country and its inflation rate, as per the Philip Curve. The rise in the level of employment as a result of rising aggregate demand would create pressure due to rising wages. This would increase the expenditure of the firms, who would subsequently pass the high cost on to the consumers through higher prices of the products and services. Thus, the reduction in unemployment level would result in rise in the inflation rate and vice versa. This kind of domestic inflation arises from upbeat demand conditions and greater wages and is hence pro-cyclical in nature (Arestis & Sawyer, 2006). All the above mentioned measures would definitely ensure that the rate of unemployment in the country reduces and there is a rise in its GDP. Difference in the Impact of Policies on a Closed Economy versus an Open Economy The consequence of the fiscal policies employed becomes more uncertain when the association of the domestic economy with the other parts of the globe is taken into consideration. In a closed economy, any form of fiscal growth adds to the level of production, employment as well as consumption. Moreover, the overall impact on the result is more than proportionate to the preliminary alteration in the government expenditure as a result of the fiscal multiplier. On the other hand, in case of an open economy, the fiscal multiplier as well as the modification in the trade terms and net exports depends on the exchange rate system, the extent of capital mobility and the economy size. The exchange rate system being flexible, fiscal growth and tax cut elevates the interest rates which results in nominal currency appreciation. This transforms into an appreciation in the exchange rate and also degradation in the global competitiveness, which results in inferior trade balance and this limits the growth impact of the elevated government spending (Dellas & Et. Al., 2005). Concept of Multiplier and its Impact The raise in the government expenditure in addition to the tax cut would augment the aggregate demand in the country which would result in more than proportionate increase in the national income. The initial amount of government expenditure would set off a sequence of increases in spending, because the rise in the demand would increase the income of the producers, who in turn would also spend certain part of this income that would in return increase the income of others and so on. This would result in the multiplier affect where the output would be a multiple of the amount of raise in government spending. The multiplier can be computed as the ratio of ‘change in the output’ to a ‘change in the fiscal deficit’ (Spilimbergo & Et. Al., 2009). The Keynesian multiplier equations determine the shift of the investment saving curve in reaction to a generated change in expenditure. The multiplier effect due to the tax cut would depend on the citizen’s outlook. This is because, if the citizens are not confident about the income from the temporary tax cut, they would rather save the amount instead of increasing their consumption. The multiplier effect would not be able to take place if there is no overall rise in the consumption level of the country. Certain economic advisors may not consider tax cut to be favorable because temporary measures such as reduction in the tax rates would not have much multiplier impact as compared to permanent measures (Spilimbergo & Et. Al., 2009). Impact of Growing Federal Budget Deficit on the Economic Growth The rising budget deficit would hamper the interest of the nation because with the rise in the deficit the government would have to pay higher rate of interest for financing the shortage and this would have a negative impact on the economic growth of the country. Moreover, the growing deficit would enlarge the national debt value and would result in higher rates of interest and taxes, which would affect the level of consumption as well as investment spending negatively (Arestis & Et. Al., 2002). References Arestis, P. & Et. Al., (2002). Money, Macroeconomics and Keynes: Essays in Honour of Victoria Chick. Routledge. Arestis, P. & Sawyer, M. C., (2006). A Handbook of Alternative Monetary Economics. Edward Elgar Publishing. Baumol, W. J. & Blinder, A. S., (2010). Macroeconomics: Principles and Policy. Cengage Learning. Dellas, H. & Et. Al., (2005). Fiscal Policy in Open Economies. University of Bern. Retrieved Online on September 10, 2011 from http://harrisdellas.net/research/downloads/fiscal_05au.pdf Neely, C. J., (2010). Okun’s Law: Output and Unemployment. Economic Synopses, Vol. 4. Spilimbergo, A. & Et. Al., (2009). Fiscal Multipliers. International Monetary Fund. Read More