Hi, welcome to this AccoFina tutorial. Today we're talking about macroeconomic
policy. We're going to give a very quick guide to macroeconomic policy, through
fiscal policy and monetary policy. Firstly I want to apologize if you
can hear construction noises in the background, I've got a building going up
nearby, and it's quite loud today! So I apologize if you can hear that. Okay, so what
are we going to cover today? We're going to talk about why we have macroeconomic
policies in society. We're going to talk about how we can classify different
macro policy directions. Then we'll go into fiscal policy, monetary policy and
have a conclusion & wrap up. All right, so first up. Why do we have macroeconomic
policies in the first place? So business cycles have occurred for centuries. They,
generally, began back in the 19th century and they have occurred all the way to
the most recent GFC, and Great Recession.
So between every 6-8 years, ah, we often go through a boom and bust cycle.
And these have repeating swings through prosperity, recession, depression and
recovery. Mow when we talk about boom and bust cycles, the economic indicators are,
generally: changes in aggregate output, employment, prices, and national income. So
that's like GDP, and the unemployment rate, the inflation rate, and GNI, or wages
and business profits, and so forth. We've had these repeating periods of booms and
busts, and so our societies and civilizations have organized to minimize
the impact of this disruptive volatility. And it doesn't take a lot to remember
the GFC, and how a lot of the world's population had a very difficult time
adjusting to this business cycle. A lot of people lost their jobs, a lot
people lost their homes, incomes (and profits) were low, wage growth has been low since.
The recovery has been slow. And that's just one example. It's been hard on, ah, on the
people of the world. So our societies have organized, and in
modern times, we've designated two main institutions that aim to minimize the
negative impact of business cycles. Now we've designated government's, to help
out with a business cycle, and they do this through fiscal policy. And we've
also created the concept of central banks, and they operate monetary policy.
So what are the goals of macroeconomic policy? This is kind of in colloquial
terms, rather than technical terms, but: We just want to try and make the good times
last. We want extended periods of high, stable and, ever-growing, prosperity.
And on the flip side, we want to ease the difficulty the bad times. We want to
shorten periods of recession, and minimize the need for harsh, and abrupt,
adjustments of its citizens. So kind of, we want to have 'soft landings'. It's when
we have to do things 'major' and 'very quickly' that it's very hard for the
population to adjust, and causes a lot of friction & unhappiness. So why do we
have these macroeconomic policies? To sum up: we have them to improve the quality
of life of citizens. A lot of people believe it's simply just about making
money in business, and the economy is simply about everyone getting rich, or
certain people getting rich, but the genesis of most macroeconomic policies
is to improve the quality of life of all citizens. How successful they are, I'll
let you debate, but they are the aims
Okay, so how can we classify macro policy directions? Now we're getting to some of
the more technical stuff. Now we'll either classify macro policies as
expansionary or contractionary, or even neutral. Now expansionary policies
encourage economic growth. They try to combat deflation
when prices are falling, or disinflation if it's accelerating too quickly. And
disinflation is when inflation is slowing down.
When inflation is still occurring, but it's occurring at a slower and slower
rate. And we'll also try and boost employment and
national incomes, through expansionary policies.
Well, technically, what these policies are trying to do is increase 'aggregate
demand' in the economy. All right so let's go to contractionary. This time we're
trying to slow, moderate, or stabilize economic growth. And we could also combat
rising inflation, and its negative impact. Now I'm not going to go into the
specific negative impacts of rising inflation, other than saying that they
are very very pervasive. And sometimes we have to moderate employment growth. We have
to stabilize wage growth, or the inflation that is caused by wage
growth. And it's the opposite to last time: we're trying to decrease, or
moderate, 'aggregate demand' in the economy. But this is an important note: the goal
isn't just to kill the party! The macro policy isn't trying to, like, make less
people employed, or less people wealthy, or slow the good times. The goal is to
attack the risks of inflation, and possibly even hyperinflation, and
minimize the chance of an epic bust. Now I'm sure a lot of us have heard that
the old saying, "The bigger the boom, the bigger the bust". So if things get out of
control, and we have a huge boom. Then we might have an even bigger bust, which will
be even harder to adjust to, when things eventually do correct. And, as I mentioned,
inflation can be very pervasive in the economy. It can destroy your wealth, it
can misallocate resources. We've probably seen some countries that have
had hyperinflation whether it's, historically, in Germany or, in modern
times, in Venezuela, where economies really do fall apart when hyperinflation
kicks in. We can't ignore neutral policy. The 'neutral' policy is kind of
like when policy setters think that we're either, in a sweet spot in the economy, or
what's termed a 'Goldilocks economy', after that old fairy tale where it's not too hot
and not too cold. Or we may just be in an uncertain period, and policy setters
kind of want to 'wait-and-see' before they make their next move. So they may wait a
few months or a few quarters, see how the economy tracks, or what previous
decisions, um, how they impact the economy ...and then they'll make
their next move. Now neutral fiscal policy is when this period's deficit or surplus is
equal to last period's deficit or surplus. So there's no aggregate change in taxes
or expenditure, (i.e.) or the balance of them. Now 'neutral' monetary policy is when the
'policy rate' is equal to the 'neutral rate'. Now the 'neutral rate' is: Real GDP at the
trend growth rate + the target inflation rate. And that's the formula
for the neutral rate, in regards to monetary policy. All right, so let's get
into the policies. What are the policy levers for fiscal policy? That's
right, it's "taxes and spending", which is a
famous phrase you probably heard of many times. So when we talk about taxes we're
talking about revenue. So revenue raised by the government, that forms part of
fiscal policy. And they can have direct taxes on income and wealth, so there we're
talking about our income tax, or our company tax, or even our death duties
or inheritance taxes in regards to wealth or even Capital Gains Tax (CGT), in regards to
Australia's circumstances. Now, also, there can be indirect taxes on goods and
services, and here you'll find your VAT in Europe, or your GST in
Australia and India. Okay, so the other side of the equation, in regards to
fiscal policy levers, are spending. That is, expenditure. Now governments can
introduce 'transfer payments', and these are just cash payments to citizens to
redistribute wealth within the economy. Other than that, governments can have
'current spending'. This is when governments pay for goods and services
to fund the government's, itself, and its services. Defense spending, or health
spending, or federal education spending or state education spending, these are
your 'current spending' categories. And finally, there's 'capital spending' and
this is when we fund infrastructure, or other long-term assets, to boost the
economy (productivity). They're things like governments building railroads or,
in Australia's case, government's building the National Broadband Network (NBN), or things
like airports, ports and similar sorts of things. It can also include more
intangibles, like if government invests in research and development, that could
possibly lead to breakthroughs in particular technologies. But just
remember, the three main expenditure items are 'transfer payments', 'current
spending' and 'capital spending'. Right, so how do we implement an expansionary
policy? In this case we would increase expenditure, or decrease taxes, or both.
What we're doing is: increasing the deficit, or reducing the surplus, and
thus, increasing economic activity. So if the government increases expenditure, its
spending more, and this would increase economic activity. Or if it simply
decreases taxes, while maintaining the same overall expenditure, so less money
has been taken from households and firms, they can continue to spend and it won't be
locked up in government coffers. And thus that will also increase economic
activity. And the opposite is for implementing contractionary policy. You
will decrease expenditure, or you would increase taxes or you would do both. And
again the opposite would result. You would reduce the deficit, or increase the
surplus, and this would decrease economic activity. So if the government spends less
or the government taxes more, without having a commensurate increase in
expenditure, then that would slow down the economy as there would be less
spending, less expenditure in the economy, less aggregate demand and less economic
activity. All right so let's move on to monetary policy. What are the policy
levers? "Interest rates". Interest rates are the policy levers, and the central bank
influences interest rates often through the money supply. So how are interest rates,
and the money supply, altered? So a central bank can set a 'policy rate' and
say this is what banks are charged when borrowing central bank reserves. So
private banks can often borrow central bank reserves at attractive rates, at which
they can then on lend to businesses and households, or firms and households.
Obviously, the higher the rate, the less attractive it will be for those banks to
borrow from the central bank reserves. And central banks can also conduct 'open
market operations'. And this is where they buy and sell government securities for
cash. And finally, they can set the 'required reserve ratio'. They can
determine how much banks need as reserves, and the banks need those
reserves, they can't lend it! And this, in turn, affects the deposit expansion
multiplier, which impacts aggregate demand in the economy. So how do we
implement an expansionary monetary policy? In this case we need to increase
the money supply, and assuming a stable money demand, interest rates will
decrease. And when interest rates decrease, borrowing & expenditure
becomes more attractive, and this should hopefully increase economic activity. Oh,
and there I just said it, the "impact is increased borrowing" and as a result,
"increased economic activity". Alright so these are the technical, ah, it's not that
technical, but these are how how an expansionary policy will be
implemented. Firstly the central bank could decrease the policy rate. They can
make it easier for banks to borrow from central bank reserves. So a lower policy
rate encourages banks to borrow from central bank reserves, and on-lend to
households and firms. Secondly, the central bank could buy securities in
open market operations. So the central bank could hand over money to the (commercial) banks
and other participants, which they can then on-lend. So they (the central bank) take
that piece of 'paper', the security, they hand over the cash (to commercial banks), and the cash
is on-lent and multiplies throughout the economy. And finally, it could reduce the required
reserve ratio. Central banks reduce the level of reserves need to be held by
banks, then these new excess reserves can be on-lent.
And that's kind of self-explanatory. So if banks don't need to hold 10% of their
liabilities in cash, but perhaps only 5%, then that other 5% can then be relent to
other households and firms. So how can we implement a contractionary monetary
policy? And, again, this is just the opposite. We would decrease the money
supply, and assuming stable money demand, interest rates would increase. This would
decrease borrowing, because borrowing is now more expensive with high interest
rates, and this would decrease economic activity. And implementing it is the
exact opposite to earlier. So you would increase the policy rate, or you would
sell securities in open market operations, or you would increase the
required reserve ratio for banks. All right, so what did we cover today? We
explained why we have macroeconomic policies in the first place. And that's
to improve the populations quality of life. Specifically, employment, stable
prices, and the general well-being of the community. How can we classify macro
policy directions? We can say they're expansionary and contractionary, and don't
forget, they can also be neutral. We talked about fiscal policy, which is
taxes & spending, revenue & expenditure. And we talked about monetary
policy, which is affecting economic activity through altering interest rates,
through the money supply. Okay that's it! I hope it helped.
Best to success, with your studies & learning. If you enjoyed the video please
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