4.
Government and the macroeconomy
4.1 The role of government
4.1.1 The role of government
a. Nationally and locally: i. Seek to ensure the survival of key industries by running them as
state-owned enterprises
ii. Run a natural monopoly and may produce essential products.
iii. Produce, or at least finance, the output of public goods and
may produce merit goods.
iv. Work in partnership with the private sector to finance a
government project or to provide a good or service.
v. Raise some taxes and provide some goods and services
(locally)
b. Internationally: Promote free international trade or impose restrictions on international
trade.
4.2 The macroeconomic aims of government
4.2.1. the macroeconomic aims of government
a. Economic growth
i. Reasons: Producing more goods and services can raise people's living standards
Help a government achieve its other economic aims, e.g. output
employment , output , export trade position
ii. Criteria: Level of output,
b. Low unemployment
i. Reasons: Unemployment is a waste of resources
Low-income and government tax revenue may have to be spent supporting
the unemployed
ii. Criteria: Unemployment below 3%
c. Price stability
i. Reasons: Ensures greater economic certainty and prevents the country's products from
losing international competitiveness
ii. Criteria: Set a target inflation rate of 2%, others have a rather higher rate
A slight rise in price can encourage producers to increase their output, as they
may think that higher prices will lead to higher profits.
Enable firms to cut their wage costs by not raising wages in line with inflation
the alternative to such a move might be a cut in employment.
d. Balance of payments stability
i. Reasons: import > export, living beyond its means, and getting into debt
Export> import inhabitants of the country will not be enjoying as many
products as possible
ii. Criteria: Most governments aim for a match between export revenue and import
expenditure in the long run
e. Redistribution of income (by taxation and government expenditure)
i. Reasons: Reduce inequality and poverty because of the hardships it causes.
Inequality can grow without government intervention
A significant gap between the rich and the poor can also cause social unrest as
the poor may feel a sense of social injustice
ii. Criteria: Unlikely to aim for a perfectly equal distribution of income
Taxing the rich too heavily and providing too generous benefits may act as a
disincentive to effort and enterprise
People have different needs
4.2.2. Possible conflicts between macroeconomic aims
a. full employment versus stable prices
Low level of employment Difficult to increase output Hard to match increases in
aggregate demand Higher AD Higher price
b. economic growth versus balance of payments stability
Higher output More export rise in employment Income increases spending on
imports increases by more than export revenue
c. full employment versus balance of payments stability
Rise in employment Income increases spending on imports increases by more than
export revenue
4.3 Fiscal policy
4.3.1. definition of the government budget
The relationship between government revenue and government spending
4.3.2. reasons for government spending
a. influence economic activity
i. Effect: spending aggregate demand output economic growth
b. to reduce market failure
i. Effect: government spending on public goods (not be financed by the private sector)
Merit goods (market force cannot allocate sufficient resources to the production)
Regulating market
c. To promote equity
i. Effect: Provide benefits and products to vulnerable groups and unemployment
d. To pay interest on national debt
i. Effect: Pay interest on loans
