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What is an Economic Policy?

By J. Leach
Updated May 23, 2024
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An economic policy refers to actions that a government may take to alter the economy of a city, state, or nation. It is usually comprised of various measures, through which the government seeks to influence the overall economy. There are three methods through which a government typically seeks to control the economy with its budget, known as the allocative, stabilization, and distributive functions. While all three functions are always used collaboratively, their emphasis may change with each new government, era, and global economy.

The allocative function refers to how much of the government’s budget will be allocated to certain projects. For instance, the government may decide that, as part of their economic policy, it needs to spend more money on developing a standing army and health care. Allocating funds gleaned from taxes also allows the government to create jobs or public venues. A government does not necessarily need to spend money as part of allocation, it can, for example, raise the nation’s minimum wage.

A government may use the stabilization function to stabilize a nation’s economy by controlling interest rates or inflation, and by pushing the employment rate towards full employment. When it's budget enters a deficit, a government needs to stabilize the economy, this is often done through monetary controls. Governments may reduce interest rates in an effort to keep employment rates and wages up, because when interest rates are high and the economy is bad, it is common for unemployment to soar while wages plummet.

The distributive function of a government’s economic policy refers to the different levels of taxation and the economic burden that each economic level must bear. Increasing property and income taxes, for instance, could affect the middle class and the very wealthy more than those on the lower end of the economic strata. A tobacco and alcohol tax, however, might only really affect the lower classes. Governments attempt to ensure that the distribution of taxes is fair for all who are affected by them.

Governments may also attempt to regulate businesses and industry as part of their economic policy. Doing so is important because it is necessary to prevent monopolies. It is crucial to encourage competition in the marketplace because, if a company has a monopoly on an area of the consumer market, it is more likely to exploit customers by raising prices.

As part of economic policy, governments must to be aware of events on the international stage. In the U.S., the U.S. Department of Treasury Office of Economic Policy monitors international economic developments, and evaluates and analyzes them to project what economic conditions might be in the future. Using macroeconomics — a branch of economics that studies the performance and structure of an economy — this department can create a model that helps enable the government to come up with a viable and efficacious economic policy.

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Discussion Comments
By icecream17 — On Jan 22, 2011

Cafe41-Also, the unions are a large lobbying group that causes companies to fail because of the increased demands of union workers without any additional productivity.

General Motors estimate that it has to pay out $5 billion dollars in pensions for employees that have since retired.

This creates a severe disadvantages for GM because other competing companies do not have unions and therefore do not share this problem.

This is what Shultz and Darn refers to as Advocacy government. These higher union wages have also forced companies to lay off workers in order to compete with the increasing demands of the unions.

This also creates higher prices for the American consumer.

By cafe41 — On Jan 21, 2011

Crispety- In the book Economic Policy Beyond the Headlines by George Pratt Shultz and Kenneth W Darn explores the relationship between lobbying groups and its influence on the economic policies.

He determines that the farmers seem to exert the highest influences and often these lobbyists seek to improve the economic climate for the farmers which are not necessarily the best for the American people.

For example, farmers receive subsidies from the government yet we are forced to pay higher prices.

By Crispety — On Jan 20, 2011

SurfNturf- The price of most food staples such as milk, corn, wheat, and orange juice are up about 40% in price within the last year.

In addition gas prices are also rising and are well above $3 a gallon, but many think it will hit $5 a gallon within the next year or two. The loose monetary policy of quantitative easing will eventually cause interest rates to rise because the only way that the United States can get other countries to buy our debt is to offer higher returns on their money which equates to higher interests rates for all of us.

This further depresses the economic environment. The increased governmental regulation and the threat of higher taxes have forced many employees to lose their jobs.

This is the reason why our national unemployment is 10% and in some areas it is almost 20% or more. Detroit for example has an unemployment rate of 25%.

By contrast when Reagan took office, the unemployment was just as high but when he left office it fell to only 3% unemployment which is essentially considered full employment by most economic standards.

By surfNturf — On Jan 17, 2011

Reagan economic policy followed the most prosperous period in American history that no other president has been able to claim.

He set out to eliminate the size of the federal government and eliminated many program of little value. He also cut the income taxes from a top rate of 70% under the Carter administration to 24%.

In addition, he controlled the supply of money to ensure that the American dollar remained strong and would control threats of inflation.

By contrast the economic policy of 2009 saw a nationalization of the banks and General Motors and a numerous amount of governmental regulations. In addition, a loose money supply which circulated an additional $400 billion dollars into the economy not only devalued the dollar but is starting the rise in inflation.

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