Links between macroeconomic problems
Links and trade-offs
- The objectives are interrelated — reaching one can move another (a trade-off):
- unemployment vs inflation — the Phillips curve (short-run trade-off),
- growth vs inflation — fast demand-led growth can overheat,
- growth vs balance of payments — higher incomes → more imports,
- growth vs environment — more output → more pollution,
- growth vs equality — growth may not reach everyone.
Practice
Which trade-off does the Phillips curve describe?
The Phillips curve shows the short-run trade-off between unemployment and inflation.
Practice
Fast growth can worsen the balance of payments because:
As incomes rise, import spending rises, worsening the current account.
Easing the trade-offs
- A government often accepts "second best" on one aim to protect another.
- A clever policy mix can ease trade-offs — e.g. supply-side policy raises growth and lowers inflation.
Practice
A good policy mix, especially supply-side policy, can ease the usual trade-offs.
Supply-side policy can raise growth and lower inflation together, easing the typical clash.
You've got it
Key idea
- objectives are interrelated; key trade-offs: unemployment↔inflation, growth↔inflation/imports/environment/equality
- the Phillips curve captures the short-run unemployment↔inflation trade-off
- a good policy mix (esp. supply-side) can ease the clashes