The policy mix   Strong & sustainable growth   Low inflation  Full employment  External stability   Equity in disribution of income   Living standards

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 Course notes quick navigation

1 Introductory concepts 2  Market mechanism  3 Elasticities  4 Market structures 5  Market failures  6  Macro economic activity/eco growth  7 Inflation 8  Employment & unemployment  9  External Stability  10  Income distribution 11.Factors affecting economy  12  Fiscal/Budgetary policy  13  Monetary Policy   14 Aggregate Supply Policies  15 The Policy Mix

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Policy mix:  strong and sustainable growth

Expansionary AD policies that are designed to achieve stronger economic growth will be compatible with AS policies that boost efficiency and productive capacity.  The policies will combine to provide both a demand and supply stimulus to the economy, boosting the growth rate of real GDP without creating excessive pressure on inflation. The expansionary AD policies to stimulate growth will tend to add to inflationary pressure in the economy, whilst AS policies reduce inflationary pressure.  It is this seeming incompatibility that makes them powerful weapons when combined in the policy mix.  The implementation of AS policies actually allows the government to undertake more expansionary AD policies.  The AS policies work to boost productive capacity (or aggregate supply), alleviating capacity constraints, and allowing higher real GDP levels to occur without inflationary pressure.  In short, AS policies allow expansionary AD policies to stimulate AD and generate sustainable, non-inflationary, economic growth.  This is summarised in the diagram below.  

The combination of expansionary AD policies with the operation of AS policies has clear benefits for economic and employment growth, with real GDP moving from GDP 1 to GDP 2.  The outcome for inflation (or aggregate price level) is less clear.  In this example, the inflationary demand side impact of AD policies is exactly offset by the deflationary supply impact of AS policies.  What actually happens to inflation will depend on the nature and strength of policy actions that are implemented and the level of capacity utilisation existing at the time.  Inflation could in fact increase or decrease but it will certainly be lower than that which would apply if expansionary MP and BP occurred without the implementation of AS policies that boosted productivity and productive capacity.

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