THE MACROECONOMIC

AIMS OF THE
GOVERNMENT
Chapter 25
 Economic growth
Economic growth – Economic growth is an increase in the value of goods and services produced by
an economy over time.
When an economy experiences economic growth, there is an increase in its output in the short run. This is
sometimes referred to as actual economic growth.
In the long run, for an economy to sustain its growth, the productive potential of the economy has to be
increased. Such an increase can be achieved as a result of a rise in the quantity and/or quality of factors of
production. This is known as potential economic growth.
Economic growth is a vitally important measure for several reasons:
◦ Economic growth is about an increase in production within the economy
◦ It is important because our living standards are influenced by our access to goods and services
◦ economic growth can increase the life span of people as it can provide for better nutrition and
healthcare facilities.
Difference between actual and potential economic growth
Role of Aggregate demand and aggregate supply in analysing
economic growth
Aggregate demand is the total demand for an Aggregate supply is the total output of
economy’s products. It includes: producers in an economy.
• Consumer expenditure on goods and services
• Investment expenditure by firms on productive
assets such as new machinery and vehicles
• Public expenditure by the government on capital and
current items
• Net exports - Exports or expenditure by overseas
residents on goods and services produced in an
economy - imports
Criteria that governments set for economic growth
The determinant of a country’s possible economic growth rate is its level of
output, in relation to its current maximum possible output and its growth in
productive capacity.
If, for instance, an economy is growing at 2% below its maximum possible
output and its productive capacity is expected to increase by 3% this year, its
possible economic growth rate is 5%.
Low unemployment
Most governments try to achieve as low a level and rate of unemployment as possible. This is sometimes
expressed as full employment.
Labour force - Those people who are willing and able to work at the going wage rate can find
employment.
Of course, not everyone wants to work or is able to work. These people are not in the labour force. They
are said to be economically inactive and are dependent on those in the labour force. They include children,
the retired, those engaged in full-time education, home makers and those who are too sick or disabled to
work.
Those who are in work or are unemployed, but actively seeking work, form the labour force and are said to
be economically active.
The reasons why governments aim for low unemployment
• Unemployment is a waste of resources.
• Those unemployed can suffer a number of disadvantages including low income and government tax revenue may
have to be spent supporting the unemployed.

Criteria that governments set for unemployment

Most governments and economists think that it is not possible to achieve 0% unemployment. This is because they
think that even in a strong economy with demand for labour equalling the supply of labour, there will always be
some workers changing jobs and being unemployed for short periods. As a result, governments aim for a low rate
of unemployment.
This rate can vary from country to country depending on their economic circumstances, with what is regarded as
the full employment rate varying between countries and over time. In most countries, it is thought to be difficult to
get unemployment below 3%.
Price Stability
Price stability means that the price level in the economy is not changing significantly over time.
The reasons why governments aim for price stability
Governments aim for price stability because
◦ it ensures greater economic certainty
◦ prevents the country’s products from losing international competitiveness.
◦ If firms, households and workers have an idea about future level of prices, they can plan with
greater confidence.
◦ It also means that they will not act in a way that will cause prices to rise in the future.
Firms will not raise their prices because they expect their costs to be higher
households will not bring forward purchases for fear that items will be more expensive in the future
workers will not press for wage increases just to maintain their real disposable income.
Criteria that governments set for inflation
In seeking to achieve price stability, most governments are not aiming for a 0% change in price.
Some governments, for instance, have set a target inflation rate of 2%. Others have a rather higher
rate. They do not aim for unchanged prices, for two main reasons.
◦ One is that measures of inflation tend to overstate rises in prices.
◦ A second reason is that a slight rise in prices can provide some benefits.
It can encourage producers to increase their output, as they may think that higher prices will
lead to higher profits.
It can also 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.
◦ Governments also try to avoid a fall in the price level if it is caused by a fall in aggregate demand.
This is because it could result in a decline in output and a rise in unemployment.
Balance of payments stability
A key part of a country’s balance of payments is its record of revenue received from
selling exports and its expenditure on imports. Over the long run, most governments
want the value of their exports to equal the value of their imports, so that what the
country earns from exports equals what it spends on imports.
The reasons why governments aim for balance of payments stability
◦ If expenditure on imports exceeds revenue from exports for a long period of time, the
country will be living beyond its means and will get into debt.
◦ If export revenue is greater than import expenditure, the inhabitants of the country will
not be enjoying as many products as possible.
Criteria that governments set for balance of payments stability
While governments usually aim for export revenue to equal import expenditure, they may not be
concerned if there is a surplus of export revenue over import expenditure or a deficit of export
revenue, provided this is of a small amount or if it lasts a short period of time.
There may be a move to a deficit caused by an increase in the import of raw materials and
capital goods. This is unlikely to be a cause for concern as the products purchased may increase
the economy’s ability to produce more goods and services to sell at home and abroad.
Short-term deficits and surpluses may also arise from fluctuations in income at home and
abroad.