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Economics

Theory of Economic Fluctuations

Economic fluctuations are the fluctuations changes in the national income of a given country

type represent the growth of the economy or the fall (contraction) of the economy. Economic

fluctuations are used to determine and describe when the variation that is seen in the economy.

The variation may be economic growth, it may be decreasing, and it may be facing a recession

also. The Gross Domestic Product (GDP) of the country is calculated every sum of revenues

earned in the industries that are being run in the country and businesses too, the difference

between the capacities of exports and imports is considered too. Other investments made by the

country are also considered to measures the economic variations (McCallum 27-60). The GDP of

the current year is compared previous year to determine whether the economy growing or falling.

Fluctuations in the economy are also called business cycles, for instance, in the business cycle a

recession is the period that the country declines reals incomes in a bid to raise employment level.

Economic fluctuation is a type of variation found in the aggregate economic activity, this activity

organizes the country work in business enterprises. For instance, in the United State, the National

Bureau of Economic Research is responsible in keeping the record and activity that relates to

peak to trough (fall of an economy) and from trough to peak ( expansion). Theory of economic

fluctuation in aggregate economic activity bases its primary concerns of macroeconomics, which

explains more on the possibility that economy may reach a short-term equilibrium that is above

or below employment (BAUM, CAGLAYAN and OZKAN 202-225). There are several

approaches to determine the functions in the country economy, most importantly fluctuations in

the output are what will produce the variation needed.

Aggregated Supply and aggregated Demand

The revenues of the state will change with a shift in both aggregated supply and aggregated

demand. Anything that affects the labor, efficiency to rise, and capital impacts to fluctuations in

the economy of the country. The revenues of the country which is the output are the quantity of

economic drive (goods and services) produced in a given period of time. The level of output

makes the GDP of the country grow but not the amount of money. Aggregated supply is the total

amounts of production in terms of goods and supply that industries and business firm are willing

to give out in a given price. To determine the relation of the output and the prices, the AS-AD

model is used, where they are graphed to give equilibrium. Fluctuation in the demand and supply

may happen because of a number of reasons. In Short-run economic activity fluctuates from year

to another (Sutherland). Over the years the production of goods and services rises, the

fluctuation s become irregular and unpredictable and in some years normal growth is not

realized.

The will be two causes in the fluctuations of the economy of the, one of them, is the shift in

aggregated demand. For instance, in the short run, the aggregated demand causes variation s in

the economy’s revenue in matters of goods and services. This is different as seen in the long run

where a shift in aggregated demand impacts to the price of the goods and services. This is the

price that will be used by a business firm to determine the equilibrium that would realize the

growth in the economy (Bade and Parkin). However, the body that is responsible to give policies

may influence aggregated demand and this will consequently mitigate the magnitude of the

country fluctuations. A shift in aggregated supply results to stagflation, this is where the prices
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would rise and the output falls. This can be adjusted by the policymakers through the monetary

policy and fiscal policy.

Monetary Policy

Monetary policy is the process by which the monetary authority body of the country determine

the rate and size of monetary supply, the body controls the cost short-term borrowing in a bid to

ensure price stability in the country. It is the basis of macroeconomics and it will involve

management of money supply and the interest rate. These policies aid in macroeconom9ics

objectives that includes consumption, liquidity, and the growth of the economy. Monetary policy

is associated with the interest rates and availability of credit, short-term interest rates reserves of

the bank through monetary bases are the core instruments of monetary policies. The body that

governs the monetary policy of the country may choose to expand or contract the monetary base

to regulate the interest rates (McCallum 27-60). This will also affect the other banks that also

borrow money from the central bank in the country. This becomes hard for individuals and firms

of the country to borrow too much money from the central bank, and other measures are

considered to earn money.

The Categories of the Monetary Policies

Monetary policies are regulated by the central bank of the country and sometimes also influenced

by the national government. Different approaches are employed to regulate the money supply in

the economy (McCallum 27-60). There mainly two types of monetary policy that are

expansionary monetary policy and contractionary monetary policies.

Expansionary Policy

The expansionary monetary policy by the central bank of the country aims at increasing the

aggregate demand and economic growth in the economy. The policy involves reducing the band

lending rates and interest rates or increasing the money supply to boost the economic activity. It

is the opposite of tightening the monetary policy of the economy. During the recession period,

the country may choose to cut the interest rates to boost the economic recovery. For instance, the

bank of England chose to cut with interest rates in the financial year 2008/2009 to recover the

economic position and the interest reduced from 5% to 0.5 % (Bordo, Choudhri and Schwartz).

Other banks may choose to consider the economic objectives such as the growth of the economy

and deal with unemployment. The expansionary monetary policy will need the central bank too;-

(i) Reduce the interest rates and make them cheaper to borrow, this will encourage the

businesses organization to invest.

(ii) Reduce the lending targets to minimize the cost of mortgage interest repayments.

This consequently encourages the spending and gives the households a higher disposable

income.

(iii) The body might tend to lower the interest rates to minimize the incentive to save.

(iv) The body might also tend to lower currency, to make the exportation cheaper and

thus increasing export demand.

In addition, the central bank may employ the policy of quantitative easing to increase the

money supply and encourages the short-term interest rates. In this policy, the central bank buys
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the government bonds from the commercial banks. In this policy the monetary base is increased

reserves of banks are cashed, these reduce rates in bonds help invest more.

Expansionary policy Limitations

This policy may not work in some consideration, for instance reducing the rates is not guaranteed

to bring firm economic recovery. The policy may not work under the condition below.

(i) The people and central bank confidence may be low – in this case, people may not

be willing to spend despite given lower interest rates

(ii) In matters of the credit crunch – The banks may not have enough money to lend to

firms and individuals, even if the central banks reduce base rates.

(iii) The lending institution may not pass the base cut from the central banks.

(iv) This with depend on components of the aggregated demand, for instance, in a

recession period a country may face falls in exports will discourage the consumer spending.

Contractionary Policy

The contractionary monetary policy is the economic policy that fights inflation in the country’s

economy, it involves reducing the money supply in order to increases lending rates by banks and

decreases the country GDP.

Goals of Contractionary monetary policy.

The main goal of this [policy is to reduce the inflation of the country economy, this is done by

limiting the amount of money in the economy to end unsustainable speculations. The central

banks may choose to raise the target federal funds rate, this consequently discourages people and
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individual from borrowing huge amount of money and reduce consumers spending. Another goal

of the policy is to raise the reserve requirements for the member banks thus reducing the money

supply (Davis). The central bank can choose to sell treasuries and bond to bigger investors, this

will lower the market prices assets. The other goal of the policy is to stabilize the prices when

prices fluctuate it impacts negatively to consumer spending. Consumers’ confident needs to be

higher without fear that prices may change, a monetary contraction makes the prices stable in the

economy as the inflation slows (Davis).

Contractionary Monetary Policy Limitations.

Increasing interest rates and slowing production in the economy increases levels of

unemployment. As the firms slow their growth rates this relatively results to fewer employees in

the labor force. Unemployment rates discourage the consumer confidence and thus the economy

of the country may reduce from this kind of move. When unemployment is higher in the country

the demand for goods and services also reduces thus making the economic contraction more

severe (BAUM, CAGLAYAN and OZKAN 202-225). The other sensitive limitation of the

monetary policy is slowing the production when the production is reduced in the economy as a

result of slowing the economic engines to reduce the money supply, more investments capital

and minimized demand for goods and services are the defects. Once a firm slows down the

production it can very hard to ramp it up to level it was. If the policy tightens the economy more

than intended then businesses organizations can limit the planned expansions, this can take the

economy of the country into the recession period.

Financial Policies of the State

Overview

Financial policies of the state are the policies set by the national government in matters of

spending and revenues in the countries economy for both the private and public sectors. The

ministry of finance or the body that manages the finance of the country prepares principles

related to the government borrowing, the cash management of the revenues, and the risk

associated with certain management. The policies are central to a long-term approach to financial

management and procedures of a state. A suitable role of government provides a beginning point

for the nature and analysis of public finance. Under normal circumstances, private markets will

Supply goods and services to individuals effectively and efficiently (in the sense there will be no

waste that will result and that individual and firms tastes are matching with the economy

production ability). If private business organizations could provide efficient and reliable

outcomes and provide income distribution that is acceptable to every individual in the society

then government intervention would be minimal. However, the conditions and practices for

private businesses efficiency are violated.

Under other assumptions, the state decisions towards efficient activity levels are separated from

the mode and design of taxation that is followed in the by the state. The state can buy and sell

government bonds and treasuries to control the economy of the state. The state spending and

revenue are taken and their differences give the deficit (BAUM, CAGLAYAN and OZKAN 202-

225). The result from the differences between the revenue and expenditure of the state allows the

government to decide their tax levels and fiscal policy.

The fiscal Policy

The fiscal policy is the use of government spending and the way the taxation is carried out to

influence the economy. The matter pertaining to the goods and services purchases, payment

transfer, and taxes collection are decided by the government then is said to engage in fiscal

policy (Hansen). The fiscal policy, however, mainly deals on the impact on the effect of the

changes in the state budget. In the matters of economics, the fiscal policy is said to be tightened

when or in contraction when the state spending is lower than state revenue. In this kind of

scenario, the government budget is said to be surplus. The most immediate effect that needs to be

done on the fiscal policy is to change the aggregate demand. The fiscal policy changes the

demand for goods and services of the country to influence the country income in two ways. First,

the government increases its purchases but then tends to keep the taxes constant. Secondly, the

state cuts taxes or increases the payments transfer modules, the disposable income taxes of the

households, and tends to spend more on consumption. The consequent rise in consumption is

responsible for the rise in aggregated demand.

The fiscal policy also changes the components of the aggregated demand, when a state runs a

deficit it tends to meet the expeditions by giving bonds. This move makes the public sector

superior and the private sector tends to compete with the public sector to sustain the business and

the economy is raised. Fiscal policy is also seen to affect the exchange rates of the currencies, the

rise of lending rates due to the state borrowing tends to attract more foreign investors capital.

Through fiscal policy, the government can manage the economy because of its ability to affect

the total output GDP of the state (Hansen). The ability of fiscal policy to impact differently on

the output of the GDP is by affecting the aggregate demand, making it a potential tool for

stabilizing the economy.

The effect monetary and financial policies of the state on the economic fluctuations
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The monetary policy and financial policies of the state can impact many things on the

economic fluctuations of the state. First of there is a general need to stabilize the economy of the

state through this is almost practically impossible. There must be variation in the economy of the

state but a growth is what every state would wish for. The fluctuations changes in the states are

seen in the economy includes recession, peak (when the economy is at the highest level), and

trough (when the economy of the state has fallen to the lowest level). There are a number of

causes that lead to this kind of changes in the economy as seen in the previous discussion. A

predictable and stable economy of the state yields substantially to both social and economic

welfare. For instance, in the short-run the households opt to have a stable economy with

continuous employment level, this enables a relatively stable consumption over a period of time.

Consequently, in the long-run unsuitable economic fluctuations can reduce the growth,

for instance, it can increase the risk of investments in the entire country. A volatile economic

environment is often affected by negative choices on careers for the youths and the education

status. This changes in the economy due to a monetary and financial policy of the states can

make the state grow or impact negatively on the growth. Basically, there are negative and

positive effects on monetary and financial policies of the state on the economic fluctuations.

Positive impacts on monetary and financial policies of the state on the economic

fluctuations.

The fiscal and monetary policies are powerful tools that the state should adopt in the

right manner, the rates flow and has also regulated inflation of the country very much. An

important contribution is realized to macroeconomic when prices are stabilized in the economy.

A strategy is put in place by the state to signify nature of the economy, this strategy ensures that
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a timely action is taken to tackle the potential threat in price stability (Foresti 226-248). The

fiscal policy guarantees that the monetary policy does not become the cause of economic

fluctuations, with the aid of medium-term orientation.

The fiscal policy provided by the state can promote macroeconomic stability, this is

realized by sustaining aggregated demand and private sector output during the trough period of

the economic fluctuations. An automatic fiscal stabilizes is used on the government budget

during economic fluctuations, they do not require short-term decisions the other policy-makers.

For instance, the taxations and transfer payments are linked to cyclical places directly in the

economy, it is then adjusted in a way that enables aggregated demand and private sector to be

stabilized.

Negative impacts on monetary and financial policies of the state on the economic

fluctuations.

When monetary policy activism is concerned too much in the short run, this leads to a

series of decisions which needs to be reversed in the same period of time. This might not be

possible especially when the economy of the country is in the trough period of time. Such a

policy is a source of instability and generates different results contrary to what was initially set.

The sustainability is not clear when fiscal policy is used to stabilize the economy of the state.

Thus, the automatic stabilizers may not generally desirable output as the citizens (Foresti 228-

249). Another consideration is the discretionary policies which can undermine the health of

budgetary status, as governments find it simpler to lower taxes and to consequently increase the

state spending in times of down growth than doing the contrary during economic recessions. In
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addition, much of the desired characteristics of automatic stabilizers are almost impossible to

make an exact copy by discretionary reactions of the policy-makers.

Conclusively, a medium-term oriented monetary policy that is forward-oriented

guarantees the best output and economic stability for this purpose. State financial policies too

should have a medium to long-term orientation, therefore deeply rely on automatic stabilizers as

per the short-term. Under some specific circumstances, however, the most appropriate is the

discretionary measure when the state is encountered with severe recessions period or when a

warranty is offered in the structural changes on the public finance. However, these type of

measures should well effective and targeted in addressing the real causes.

Work cited
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Bade, Robin, and Michael Parkin. Foundations Of Economics. Boston: Pearson Addison-

Wesley, 2011. Print.

BAUM, CHRISTOPHER, MUSTAFA CAGLAYAN, and NESLIHAN OZKAN. "THE ROLE

OF UNCERTAINTY IN THE TRANSMISSION OF MONETARY POLICY EFFECTS

ON BANK LENDING*." The Manchester School 81.2 (2012): 202-225. Web.

Bordo, Michael D, Ehsan U Choudhri, and Anna J Schwartz. "Was Expansionary Monetary

Policy Feasible During The Great Contraction? An Examination Of The Gold Standard

Constraint." NBER. N.p., 2018. Web. 24 Sept. 2018.

Davis, J. Scott. "The Asymmetric Effects Of Deflation On Consumption Spending: Evidence

From The Great Depression." Federal Reserve Bank of Dallas, Globalization and

Monetary Policy Institute Working Papers 2015.226 (2015): n. pag. Web.

Foresti, Pasquale. "MONETARY AND FISCAL POLICIES INTERACTION IN MONETARY

UNIONS." Journal of Economic Surveys 32.1 (2017): 226-248. Web.

Hansen, Alvin H. Fiscal Policy & Business Cycles. Hoboken: Taylor and Francis, 2013. Print.

McCallum, Bennett T. "Monetary Policy In A Very Open Economy: Some Major Analytical

Issues." Pacific Economic Review 19.1 (2014): 27-60. Web.

Sutherland, Alan. "Fiscal Crises And Aggregate Demand: Can High Public Debt Reverse The

Effects Of Fiscal Policy?." N.p., 2018. Print.