24 April 2009
"Economic stimulus" is the phrase of the day. So, while most of us receive a stimulus payment’ I thought it might be useful to explain what stimulating the economy really means.
When setting policy it is important for the government to have the right strategy. Fortunately, the world is full of economists ready to give advice. Unfortunately, it is rare that they agree, so when it comes to stimulating an economy, there are many competing theories about the most effective and the rationale. There are however some stand-out fiscal policy ideas.
Idea 1: Create Jobs
With unemployment in Australia on the rise the government has set-about to create jobs. The Government has started to indicate it will spend on public works projects, artificially creating jobs for the unemployed. At grass root level employment for these people provides increased buying power and lifts consumer demand. The flow on effect then is for businesses to see increase in demand, ramp up production, hire new workers, and eliminate the need for the government spending.
However, this can create a vicious circle. High unemployment creates low demand and then production meets or outstrips demand, businesses cut costs and lays off workers or contractors.
Idea 2: Cut Taxes
The economic rationale for cutting taxes is straightforward. Tax cuts can put more money in people's pockets. Tax cuts can increase consumers' buying power and lift consumer demand.
Cutting taxes, especially high taxes that distort people's choices, can make markets work more efficiently and spur overall economic growth. Some even argue that cutting taxes can increase tax revenues. This means that tax cuts will have a stimulating effect on the economy then tax revenues will rise despite the lower rates.
Idea 3: Do nothing
Economists talk about "three lags" that hamstring efforts to stimulate the economy: the time it takes for policymakers to realise there are problems, the time it takes for them to do something about it, and the time it takes for their efforts to have a measurable effect.
By the time these three lags have run their course, the economy might well have changed direction and a stimulus policy could do more harm than good. So, some economists think that the best stimulus is no stimulus at all.
Over the coming weeks and months many think that we will see a combination of all these key theories in Australia with many watching overseas stimulus efforts to see what kind of effect it will have on our ‘relatively buoyant ‘ but still recession effected economy.
