Stabilization Policy

| Stabilization Policy| ECO311E| | Glen Edwards 201102728| | | Contents Introduction3 What is Stabilization Policy? 3 Keynesian vs. Classical4 Stabilization in South Africa5 Conclusion5 Reference list6 Introduction In an era where growth and stability in the economy are at the forefront of economic discussions, the economic policies and principles that are utilized in keeping with a stable economy must be taken very seriously. The way in which the governments of the world manage their income and expenditure is therefore of the utmost importance. The task of managing money is what stabilization policies are in a nutshell.

The two schools of thought, Classical and Keynesian, view these stabilization policies differently and the author will attempt to discern whether or not either of them view stabilization policy as worthwhile. Additionally the author will analyze the stabilization policy efforts within the South African economy in recent years. What is Stabilization Policy? “Stabilization policy is the attempt to reduce fluctuations in income, employment and the price level, stabilizing national income at its full-employment level, if possible. ” (Lipsey, 1993:659). This can be done through a governments fiscal or monetary policy, or both.

As the author understands it, fiscal policy refer to those policies of the government that affect the tax rates, interest rates and expenditure, all used and controlled in an effort to control the economy. Simply put, a reduction in tax rates and/or an increase in government purchases (expansionary fiscal policy) causes the government’s budget deficit to increase, or its budget surplus to decrease, while conversely, a decrease in government expenditures and/or an increase in taxes (Contractionary fiscal policy) will cause the government’s budget deficit to decrease, or its budget surplus to increase. Stabilization Policies, 2000) “Monetary Policy is the deliberate control of the money supply for the purpose of achieving macroeconomic goals which are full employment, price stability, and steady economic growth. ” (Gregory, 2011:149). From the authors knowledge, a change (increase or decrease) in the money supply has a opposite effect on interest rates, and this has an impact on the amount of investment spending. Therefore utilizing either (or both) fiscal and monetary policy may help a government stabilize the economy in times of turmoil and uncertainty.

The different stages of growth or recession throughout the years is commonly referred to as the business cycle. The business cycle is, according to Roux (2002:25), comprised of four elements: a trough, and expansion (called a boom), a peak and a downswing (called a recession). A stabilization policy could therefore be used to combat the foreseeable trends that the business cycle seems to follow, although the two schools of thought differ in the way in which they believe these trends arise. Keynesian vs. Classical

When comparing and contrasting the views of both the Keynesian and Classical economists when it comes to the business cycle, it becomes clear that the way in which these schools of thought differ on this topic is crucial to understanding their stance towards stabilization policy. The main difference in their views of the business cycle are the ways in which the trends and stages in the business cycle come about. Mohr and Fourie (2008:512) support this by stating that classical economists attribute the fluctuations in the business cycle to exogenous factors, while Keynesians believe the business cycle to be an endogenous phenomenon.

From the above sentence, it becomes apparent to the author that Keynesians would be strong advocates of stabilization policies in the economy as this would enable them to use it in reducing the negative effects that arise out of said endogenous phenomenon. This being said, the government can simply not know enough, soon enough. As a result the problem of policy lags arises. Policy lags are defined as “Time lags that occur between the onset of an economic problem and the full impact of the policy intended to correct the problem. ” (Policy Lags, 2000).

With this in mind, the author concludes that while strong advocates of stabilization policy, Keynesians would prefer moderate and general practice in this regard, rather than a constantly changing policy as this comes with many shortfalls, policy lags being one. Classical economists on the other hand would see few, if any, benefits from implementing a stabilization policy, this is supported by Economics USA (2013) that states “Classical and neo-classical economists believe that there is little the government can do to reduce unemployment and increase GDP/GNP growth, especially in the long run.

They maintain that in the long run, fiscal stimulus raises interest rates and monetary stimulus raises prices without affecting real growth. ” From this the author can deduce that it boils down to the question of government intervention, where classical economists believe little or no intervention is needed, and Keynesians believing the contrary. Stabilization in South Africa “The South African economy has experienced remarkable stabilisation in the course of the last decade, and since 1999 the economy has been expanding in what is now by far the longest business cycle expansion in the country’s history. (Du Plessis , Smit & Sturzenegger. 2007:5). Leading up to the 1994 elections, many economists were concerned with the sustainability of South African fiscal policy. This had a lot to do with the amount of government debt. “Government debt was rising fast, and the associated interest burden had risen to more than 5% of GDP. “(Du Plessis et al. 2007:6). Stability thereafter was a priority, not only in prices but in the economy as a whole.

This notion of stability can also be seen in the most recent budget speech of finance minister Pravin Gordan where fiscal sustainability is again cited as a priority, especially the role of taxation. “A review will be initiated this year of our tax policy framework and its role in supporting the objectives of inclusive growth, employment, development and fiscal sustainability” (Gordan, 2013). This makes clear to the author that although growth is top priority, unregulated growth is not and that the government still has a role to play in maintaining the sustainability of prices and growth in the country.

Government legislature can be crediting in the strengthening and stabilizing of the economy, as Du Plessis et al (2007:7) state : “An important milestone of fiscal reform was the Public Finance Management Act of 1999, which legislated the need for regular financial reporting, sound expenditure controls and a strengthened system of supervision and audit. ” In the authors opinion, although the government has not the part of the government in monitoring and encouraging sound fiscal principles. Conclusion

It becomes clear that stabilization policy is worthwhile from the Keynesian point of view, where government intervention is encouraged and seen as part of a healthy and prosperous economy. The author supports these views as he believes that the stabilization policies have helped, either directly or indirectly, in the preservation and stability of the South African economy, as well as many other emerging economies. This is largely, but not limited to, due to the government’s ability to influence the budget deficit through taxation and its expenditure and its control of the country’s fiscal policy.

Reference list Du Plessis, S. , Smit, B. , & Sturzenegger, F. 2007. THE CYCLICALITY OF MONETARY AND FISCAL POLICY IN SOUTH AFRICA SINCE 1994. July 2007 Economics USA. 2013. Stabilization Policy. [Online]. Available: http://www. learner. org/series/econusa/unit26/ [2013, April 10] Gordan, P. 2013 . (2013, February). Budget Speech 2013. Speech presented at Parliament, Pretoria, Gauteng. Gregory, P. R. 2004. Essentials of Economics. 6th ed. Prentice Hall: London Mohr, P. & Fourie, L. 008. Economics for South African students. 4th ed. Van Schaik: Pretoria Lipsey, R. G. 1993. An Introduction to Positive Economics. 7th ed. Oxford University Press: New York Policy Lags. 2000. [Online]. Available: http://www. amosweb. com/cgi-bin/awb_nav. pl [2013, April 10] Roux, A. 2002. Everyone’s guide to the South African Economy. 7th ed. Zebra Press: Cape Town Stabilization Policies. 2000. [Online]. Available: http://www. amosweb. com/cgi-bin/awb_nav. pl? s=wpd;c=dsp;k=stabi