Readers Question: How do countries solve their economic problem?
The question is rather open ended. Firstly we have to consider what are the main economic problems facing an economy? For example, in this essay, I looked at some of the problems facing the US economy
In no particular order, the main problems involve:
- Government Borrowing
- Current Account deficit
- Housing Market
If we took the main problem facing the US economy, it would probably be, at the moment, the likelihood of recession. To solve a downturn in the economy the government could try using demand side policies. These would involve.
Fiscal Stimulus Package
A fiscal stimulus package involves lower taxes and higher government spending. This is often termed expansionary fiscal policy. By cutting taxes, it is hoped that people will spend more money, increasing consumer spending and therefore, aggregate demand.
See more on expansionary fiscal policy
However, there are many problems of a fiscal stimulus package
In response to a recession, a Central Bank can cut interest rates to try and stimulate aggregate demand and economic growth. Cutting interest rates is known as expansionary monetary policy. By cutting rates it is hoped that homeowners will have more disposable income and there will be less loan defaults. In some circumstances, cutting interest rates is insufficient to boost demand, therefore Central Banks pursue unorthodox polices, such as quantitative easing.
See: Monetary Policy
Supply Side Policies
Alternatively, the government may seek to use supply side policies to try and increase the long term competitiveness of the economy. Supply side policies include market oriented policies such as privatisation and deregulation. They can also involve interventionist policies such as greater spending on education and training. Supply side policies have very limited impact on aggregate demand and can take a long time to have an effect, however they may be necessary to deal with structural problems in an economy.
See: Supply side policies
Devaluation reduces the value of the exchange rate and can restore competitiveness.
- Solutions to EU debt Crisis – A twin problem of recession and high government debt.
- Different solutions to fiscal crisis
- Policies for recession