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Introduction
Sustainable economic growth is usually defined as an increase in Real Output (the production of goods and services in an economy), but at a rate that can be maintained for the future without creating other significant negative effects. It is measured as the annual percentage change in real GDP, which can be measured using the expenditure method, which is the sum of the market value of purchases of all final goods and services produced in the economy; consumption spending (C), investment (I), government spending (G), and net exports (X-M). Increasing economic growth can be achieved by either increasing the output from existing resources or increasing the quantity of resources available to a country. The discovery of new resources will result in an increase in growth, but may only be short-term because the new resource may be depleted. Growth can also be achieved through an increase in the quality or quantity of human resources. The quality of a worker is generally equal to their output per worker, or productivity, and can be increased by education or training courses. Growth is a desirable objective because it means the economy is expanding, and the productive capacity of an economy is increasing as firms increase output. As well as this, households tend to receive higher household incomes, and this usually means an increase in GDP per capita and therefore a higher standard of living. Growth is an objective of Government economic policy because it is one of the keys to a higher standard of living, as well as resulting in higher government revenue, which can be used to improve roads, schools, etc, without resorting to an increase in tax rates. However economic growth can also lead to high levels of inflationary pressure as the general price level increases, (shown on graphs as PL).Some inflation is necessary to ensure that growth of an economy and encourage producers, but high rates of inflation lowers the real value of wages (as commodities cost more and money is worth less) and savings, and in fact can reduce the standard of living. This would also impact on producers as the price of raw materials increase, thus increasing the costs of production. Inflation can also cause firms to invest in more speculative investment instead of adding to capital equipment. This would result in a decrease in the productive capacity of firms, and effectively the economy, because efficiency is lowered when capital is not maintained, and output and economic growth is therefore stunted. Therefore if the rate of inflation is above 1-3% some measures must be taken in order to ensure inflation does not impact negatively on an economy. In terms of employment, growth usually creates greater employment opportunities for individuals as output increases. Therefore unemployment decreases, and it is not usually necessary to introduce additional policies as long as the rate of inflation is being maintained.
This report will be focussing on three different policies with the common aim of increasing economic growth, and reducing any significant negative effects on inflation or employment. The three types of policies will be Monetary, Fiscal, and Supply-side. Please not that this report does cover any ideas on trade or the effects these policies will have on trade.
However if required to reduce inflationary pressure, it is possible to introduce a supply side policy intended to increase aggregate supply (AS) and thus reduce inflationary pressure, while still maintaining an increase in Real GDP, ie economic growth. An effective supply side policy would be to relax restrictions and costs on producers, such as red-tape requirements on building consents, thus reducing compliance costs and total cost of production for producers. This will result in a shift from AS to AS1 (Graph 1) because producers will be able to supply more using the same amount of resources, and this will result in an increase in Real GDP from Y to Y1, as well as achieving a decrease in price level from Pl to PL1. This would ensure economic growth, while also reducing inflationary pressure. Finally, no additional policy to reduce unemployment should be required. This is because as well as an increase in Real GDP signifying increased economic growth, it also means that there is an increase in output. An increase in output means that more jobs are created as firms demand for labour increases to cope with this increased output, and therefore increases household incomes and reduces unemployment.
producers to invest in capital goods to raise productive capacity to meet government demands. This investment will make production more efficient and cost-productive, as an increased output could be achieved with the same input, thus increasing output and therefore creating job opportunities. With this additional policy promoting efficiency in the economy more households will be employed, thus reducing unemployment until the first supply-side policy achieves economic growth.
CONCLUSION: In summary, each of the three policies described above will eventually result in an increase in economic growth, with differing effects and additional policies. The first policy described is a loose monetary policy, and is used to manipulate interest rates so that the levels of consumption spending and investment increase, thus increasing AD to AD1 (Graph 1), and causing a rise in economic growth. The negative effects of this policy are few; the impact on inflation should be insignificant because the RBNZ should know how high to raise the OCR while keeping between an inflation rate of 1-3%, but if necessary a supplyside policy to restrict restrictions on producers can be used to reduce inflationary pressure. There should be no negative effects on employment from this policy, because it will result in economic growth and increased output, and therefore increased demand for labour, thus increasing job opportunities and reducing unemployment. An added benefit of this policy is that it encourages investment into capital, thus increasing the productive capacity (PPC to PPC Graph 2) of an economy by increasing efficiency and productivity. Although this may mean that jobs may be replaced with machinery, this is offset by the fact that the increase in output will create more jobs due to the increase in demand for labour. This increase of productive capacity will also have a long-term beneficial effect on the economy however, and will help maintain sustainable economic growth in the future. The second policy is an expansionary fiscal policy, and decreases income tax rates so that households have more disposable income. This results in higher consumption spending and will cause an increase in AD to AD1 (Graph 3) and economic growth. Although at first the government is initially losing revenue, the consequent increase in growth and economic activity means that the government will receive higher revenue from increased income and consumption spending in the long-term. To combat high inflationary pressures an additional tight monetary policy is introduced and will increase interest rates (by increasing the OCR), so to encourage more saving and less consumption spending, and thus decreasing aggregate demand. The effect of this third policy on employment is positive, because the increase in economic growth increases job opportunities and reduces unemployment. This policy may not have as great an impact on economic growth as the first policy however, because firstly, it mainly affects consumption spending directly, and doesnt encourage investment in capital formation, which would help ensure economic growth in the future. The third policy is a supply-side policy, and reduces the indirect tax rates on imported input goods, so that costs of production for NZ producers will decrease, thus shifting the supply curve to the right (AS to AS1 Graph 4). Imports will then increase as firms increase output (because they can now produce more for the same input cost), shifting the AD curve to the right (AD to AD1). Then however exports will increase as the consequent change in price level makes NZ more attractive to overseas buyers, thus finally resulting in an increase in AD (AD1 to AD2) and therefore an increase in output and economic growth. The impact of this policy on inflation is to have quite fluctuating price levels, that if necessary will be controlled by fiscal policies by either increasing or decreasing income tax rates. In terms of employment, this policy does eventually result in an increase in output, but until exports increase, unemployment levels may become quite high. Therefore an additional policy would be an increase in government spending on infrastructure to increase job opportunities and promote efficiency in the economy. This third policy doesnt seem very stable or encouraging to producers or consumers due to the fluctuating price and output levels, and so probably wouldnt be a suitable policy to introduce to the economy. A final point before conclusion of this report is that periods of high economic growth can result in the accelerated use of scarce resources and can cause damage to the environment, making it unusable for future growth. Therefore policies must be introduced that can keep growth levels sustainable, because as production and consumption increase, pollution and congestion, as well as the depletion of non-renewable resources like fossil fuels will increase, and so growth must be kept at a sustainable level. The Resource Management Act 1991 promotes sustainable management of natural and physical resources, so that they do not become depleted or have adverse effects on the environment. Policies like these mean producers must obtain a resource Consent, which takes up time and costs, resulting in some projects having to slow down or even stop. The effect of this on growth in the short-term is to slow
it down, but in the long-term ensures preservation of the environment, thus also ensuring sustainable economic growth into the future. In conclusion the first policy; which included a loose monetary policy that decreased interest rates, and a supply-side policy that relaxed restrictions and therefore lowered cost of production on producers to encourage them to increase output, is probably the best policy for sustainable economic growth. The increase in investment which increases the productive capacity of the economy will have a long-term beneficial effect, as it will not only encourage economic growth in the short-term, but will help maintain sustainable future economic growth in the long-term as well. By Marie Poff (12VT)