Macroeconomic Policy (Meaning and Objectives) and Money Supply (Meaning and Sources)

Macroeconomic Policy

Macroeconomic policy refers to a program of economic action undertaken by the government to control, regulate and operate macroeconomic variables to achieve certain predetermined macroeconomic goals such as economic growth, price stability, BOP equilibrium, economic stability, full employment, etc. The scope of macroeconomic policy encompasses two components: i) the targets and ii) the target variables.

The objectives of the macroeconomic policy are determined by the policy makers in the view of the social and economic aspirations of the people, of course, vary from country to country and from time to time depending on the changing economic conditions. The main objectives of the macroeconomic policy are explained below:

1. Economic Growth: Achieving and maintaining a high growth rate has been accorded a top concern in the economic agenda of most nations both rich and poor. Also, the emphasis on reasonably high growth rate in accordance with growth potentials of the country has increased tremendously over the past half a century. The reasons for a predominance of growth objectives are:

1. The level of economic growth determines the level of fulfillment of social and economic aspirations of the people.
2. It ensures the very survival of a country as a free and independent nation.
3. It determines the capability of a nation to defend its borders and sovereignty.
4. It determines the respect and honor a country receives in the world community.
5. It is the only way for creating a job for unemployment and eradicating poverty.
6. It helps in maintaining peace and preventing a possible disintegration of the nation.

2. High rate of employment: Reaching and maintaining full employment has been one of the major objectives of Keynesian macroeconomic policy. Keynes is regarded as the first economist who emphasized the need for full employment and a justification for making it a macroeconomic target.

The desirability of full employment as an objective of macroeconomic policy lies in the social benefits of employment in terms of additional output lost due to unemployment. Besides, employment of unemployed reduces the social and economic hardship causing suicide and killing of family members and mental agony suffered by the unemployed.

3. Price Stability: Another important objective of the macroeconomic policy is to achieve and maintain price stabilization. Price stability refers to the policy of keeping the value of money stable, which eliminates cyclical fluctuations and achieves economic stability. Price stability does not mean fixed or frozen price level. In other words, price level does not mean that each and every price should be kept fixed. It simply means that the average of prices, i.e. general price level should not fluctuate beyond a certain limit. Generally, 2-4 percent annual rises in prices are considered as stable price level.

4. Economic Equity: The experience of both the developed and developing economies shows that economic growth does not fortify equitable distribution of national income, nor does it promote the economic well-being of all of its people. More importantly, growth has been generally accompanied by the widening of income inequalities marked with wealth or prosperity of a section of the society and abject poverty of the rest of the society, even though the average level of income has been increasing. Income inequality sets a limit to the overall economic growth of the country by limiting aggregate demand. So economic equity has become one of the major objectives of macroeconomic policy. The policy purpose in this regard is to create conditions for a high rise in the income of the low-income group or to transfer the income from the rich to the poor.

5. Stabilizing Balance of Payments: The phenomenal growth in the foreign trade in the post-war II period and a relatively slow growth of international liquidity ( the means of external payments ) led to disequilibrium in the balance of payments position in many countries. The problem aggravated due to the protectionist policy, competitive lowering and offsetting tariffs and other trade restrictions. Therefore, maintaining a satisfactory balance of payments position has been accepted as one of the essential objectives of the macroeconomic policy since the 1950s. It is, however, tough to particularize as to what constitutes the satisfactory balance of payments level.

Supply of money:

Money supply represents a stock as well as a flow concept. When the money supply is taken as a point of time, it is a stock and when taken over a period of time, it is a flow. Money supply at a particular moment of time refers to the stock of money held by the public at a very moment of time. It includes the total currency notes, coins and demand deposits with the bank held by the public. Over a certain period of time, money supply gets into a flow concept. It may be spent various times during a period of time. The mean number of times a unit of money passing from one hand to another during a given period is called the velocity of circulation of money. Thus, the flow of money supply over the period of time can be known by multiplying a given stock of money held by the public by the velocity of circulation of money. As per Fisher’s equation, PT = MV. MV refers to the flow of money supply over a period of time, in which M stands for the stock of money held by the public. Likewise, V stands for a velocity of circulation of money.

Sources of money supply

The central bank of a country is the main source of money supply in the country. The currency issued or supplied by the central bank is called high power money because it is generally backed by supporting reserves and guaranteed by the government and is the source of all forms of money. However, the central bank is not the only source of money supply used as a medium of exchange. The second major source of the money supply is the banking system of the country. Banks create money supply in the process of their borrowing from and lending money to the public.

Various sources or measures of money supply are listed below:

M1 = C + DD + OD
M2 = M1 + Saving deposits with post offices
M3 = M2 + Net time deposits with commercial banks
M4 = M3 + Total deposits with post offices

Where,
C = Currency held by the public
DD = Net demand deposits with banks
OD = Other deposits with central bank

M1 is considered as narrow money whereas M3 is considered as broad money. M4 may also be used as broad money.

Reference

Bernake and Abel, Macroeconomics, Singapore, Pearson Education latest edition