Common Policy Objectives (Cambridge International A-Level Economics)

Introduction to macroeconomic objectives

• Macroeconomic objectives are goals set by the government aimed at improving the overall economic performance of a country as well as the quality of life of its citizens

  • The government aims to achieve these objectives through the use of macroeconomic policies

• It can be difficult to achieve some outcomes simultaneously

  • E.g. high economic growth and stable price levels can be in conflict with one another

Economic growth

• Economic growth is an increase in national output as measured by real GDP

  • Economic growth is a central macroeconomic aim of most governments

• Many developed nations (UK included) have an annual target rate of 2–3%

  • This is considered to be sustainable growth
  • Growth at this rate is less likely to cause excessive demand pull inflation

• Politicians often use it as a metric of the effectiveness of their policies and leadership

• Economic growth has positive impacts on confidence, consumption, investment, employment, incomes, living standards and government budgets

• Strong economic growth means higher incomes, lower unemployment rates and better government budgets

• Sustainable economic growth will have less demand-pull inflationary pressures or excessive environmental pressure

UK economic growth rates up to 2023 (Source: Macrotrends)

Growth trends

• An increase in real GDP is a sign that the economy is expanding and employment is increasing

• A fall in real GDP (-11% in 2020) caused by Covid restrictions is a sign economy is contracting

• In 2021 and 2022, real GDP growth rate shows signs of recovery post-Covid restrictions

  • High inflation rates also occurred during this period

UK Economic Growth Trends 2019–2022

Price stability

• Inflation is a sustained increase in the average price level of goods/services in an economy

  • The UK has a target inflation rate of 2% using the Consumer Price Index (CPI)
  • A low rate of inflation is desirable, as it is a symptom of economic growth

• The different causes of inflation (cost push or demand pull) require different policy responses from the Government

  • Demand-side policies ease demand pull inflation
  • Supply-side policies ease cost push inflation

The inflation rate in the UK from 1991 to 2024 measured using the CPI (Source: Macrotrends)

Inflation trends for 2015–2023

• In the period following the pandemic, inflation rates have exceeded the target rate of 2%
• The CPI peaked at around 8% in 2023
• This is due to supply chain disruptions causing cost-push inflation
• Increased spending following the pandemic caused demand-pull inflation
• The Bank of England (BoE) uses monetary policy to observe and regulate inflation rate

Minimising unemployment levels

• The target unemployment rate for the UK is 4–5%

• This is close to the full employment level of labour (Y_FE)

  • There will always be a level of frictional unemployment
  • This makes it impossible to achieve 100% employment

• Within the broader unemployment rate, there is an increased emphasis on the unemployment rate within different sections of the population

  • E.g. youth unemployment, ethnic/racial unemployment by group

    • In 2021, black unemployment in the UK was 11% and white unemployment was 4.1%

• Low levels of unemployment are a sign of a strongly performing economy and are inversely linked to real GDP growth

  • When real GDP increases, unemployment falls
  • When real GDP decreases, unemployment rises

The actual and projected unemployment rate in the UK from 1991 - 2024 (Source: Macrotrends)

Unemployment trends

• In the six years following the 2007 financial crisis, unemployment in the UK remained relatively high
• It declined during economic recovery in 2012, reaching lowest levels just before Covid pandemic
• However, with restrictions, unemployment rose again
• Unemployment increased from 2021 to 2022 but decreased by just over 1% in 2023

Stable balance of payments on current account

• The Balance of Payments (BoP) for a country is a record of all the financial transactions that occur between it and the rest of the world

  • The current account focuses mainly on the financial transactions related to exports and imports of goods and services

• Governments aim for Balance of Payments equilibrium on the Current Account

  • If exports > imports, it will create a current account surplus

  • If imports > exports, it will create a current account deficit

    • Each one of these conditions has advantages and disadvantages associated with it
    • However, a current account deficit is more problematic in the long run

• The UK has traditionally run a small deficit

  • As a percentage of GDP, the UK current account deficit is insignificant and has not been problematic

The bottom graph illustrates the trade deficit as a percentage of GDP and the top one illustrates the absolute value expressed in US$ (Source: Macrotrends)

Graph analysis

• The U.K. trade balance for 2019 was $-46.14B, a 4.78% increase from 2018
• The U.K. trade balance for 2020 was $9.69B, a 121% decline from 2019
• The U.K. trade balance for 2021 was $-38.56B, a 498.05% decline from 2020.
• The U.K. trade balance for 2022 was $-106.79B, a 176.91% increase from 2021
• The UK offsets its negative trade in goods with a very positive trade in services

Sustainability

• The UK government aims to ensure sustainable economic development and reduce adverse impacts on the environment

• In April 2021, the UK Government stated that their environmental aim was to reduce emissions by 78% by 2035

  • This reduction is based on the emission levels of 1990
  • It is one of the most ambitious climate change targets globally
  • It includes the UK’s share of international aviation and shipping emissions

• Broader environmental aims include

  • A focus on sustainability
  • The reduction of negative externalities of production
  • 100% energy from renewable sources by 2035

Redistribution of income and wealth

• Equitable distribution of income and wealth ensures fairness and allows the same opportunities for everyone
• The aim is not equality of distribution, as it removes the incentive to work and study
• High levels of income inequality can create social unrest
• Income inequality is measured using the Gini Coefficient

Income Inequality for 2020 using Gini Coefficient

• The higher the Gini coefficient, the more unequal the distribution of income

  • 0 = complete equality; 1 = complete inequality
  • Most developed economies have a Gini target of 0.3–0.4

• There is a need for the UK government to intervene to maintain acceptable levels of income inequality. Governments can redistribute income

  • Through a progressive tax system
  • Providing essential merit goods such as healthcare and education