Business cycle and growth policy




Purpose of the lecture:


This lecture is intended to provide an overview of the total range of the economic and growth policy. It is less a matter of describing the individual laws and institutions in the sense of an economics than describing the aims, means and agencies of the economy and growth policy in the sense of the general economic policy doctrine, and showing how the findings of the economy and growth theory can be applied to the current problems.




Prerequisites for understanding the lecture are therefore firstly knowledge in macroeconomics, especially in theory of employment, inflation and growth, as well as in the basics of economic policy.



Literature for additional information:


J. Siebke, H. J. Thieme, income, employment, price level,

D. Kath, money and credit,

D. Cassel, inflation,

G. Gabisch, economic situation and growth,

D. Cassel, H. J. Thieme, stabilisation policy,

All in: Valens compendium of the economic theory and economic policy, vol. 1 and 2, 9. ed., Munich 2007


Furthermore, in-depth literature can be found also in the bibliography of the mentioned articles.



Outline of the lecture:


01st Introduction

02nd The aim of the full employment

03rd The aim of the monetary stability

04th The aim of an appropriate economic growth

05th The theoretical foundations of employment policy

06th The theoretical foundations of the stabilisation policy

07th The theoretical foundations of the growth policy

08th The monetary and foreign trade policy means

09th The financial policy means

10th The income policy means

11th Institutional measures

12th The lead executing agencies of the economic and growth policy


Chapter 1: Introduction





01st Definitions

02nd Distinction of different economic phases

03rd Distinction of differently long economic cycles

04th Topicality of the economic concept

05th Definition "economic growth"

06th Main reasons for an economic policy

07th Differences and similarities

08th The development of the economic policy

09th The development of the growth policy




01st Definitions


First of all, let us ask ourselves what is meant in general by economic and growth policy? One possible answer is: all measures and institutions that aim to stabilise the economy and promote economic growth are part of the economic and growth policy.


The lead executive agencies of the economic and growth policy are here:


·         the state in the broader sense: federation, states, international associations,

·         but also the central banks.


If we ask about the aims of economic policy, it is asked about the macroeconomic justification of the individual political measures and not about the actual motivations of the politicians. Here, political influence on the economic cycle and the economic growth are in the foreground of the aims.


Whether a given policy measure influences actually the economic situation (or economic growth) or not, is not crucial to the question of whether we are talking about an economic policy (or a growth policy) measure. Economic policy is already present even if the politicians pursue the macroeconomic aim of economic stabilisation with a certain measure, but in reality miss this aim.


There is also a flawed, inefficient economic policy. On the other hand can, for example, a measure by which the government seeks to raise the incomes of the employers will also affect the economic situation, whether positive or negative, without that we are already speaking of an economic policy measure. The influence of this distribution policy measure is one of the secondary effects of a non-economic policy measure.


The term "economic cycle" is associated with three characteristics:


·         Periodically recurring upward and downward movements,


·         Limitation to macroeconomic variables such as domestic product, employment, price level


·         Fluctuations around the macroeconomic equilibrium.


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02nd Distinction of different economic phases


There are different criteria of the subdivision:


the two-phase scheme: upturn and downturn, as well as the four-phase scheme: upturn, boom, downturn, depression.


This fourfold division results firstly from the question of whether the macroeconomic variables fall or rise, and secondly from the question of whether a move to or away from the macroeconomic equilibrium takes place.


The general characteristic of an upturn consists here of the following features:


·         The production increases.


·         Excess supplies are reduced.



Considered symptoms are:


   • a decline in the unemployment numbers,


   • the increase in the production of goods at still relatively stable prices,


   • high productivity gains,


   • wage increases below the productivity gains,


   • therefore high profits.


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Two features determine the general characteristics of the boom:


• the upward movement, and


• the emergence of excess demands



Symptoms of a boom consist of the following features:


• with persistently high orders, general price increases take place


• the gap between job vacancies and unemployed persons is increasing,


• the wage demands of the trade unions are also increasing,


• extra pays above the agreed rate are granted,


• an increase in interest rates takes place due to a monetary restraint.



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The general characteristic of a recession is based in the following two features:


• the downturn, and


• a reduction of the demand surpluses.


Considered symptoms are:


• At first, there are still persistently high wage demands,


• the price-increase rate diminishes,


• the new orders decline and therewith the numbers of vacancies,


• due to increased competition an increase in bankruptcies occurs.


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Two features determine the general characteristic of the depression:


• the downturn, and


• the arising of excess supplies


As symptoms of depression can be determined:


• The unemployment rates increase,


• there emerges a stagnation in orders and in the production of goods, possibly

even negative growth rates of goods production are detected,


• but only relatively small price increases occur, possibly even price cuts;


• also the wages increase only slightly, and a reduction, the "wage drift" takes place.


Under "wage drift" the gap between effective earnings and collective wages is understood.


• Interest rates are low, but liquidity is high.


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03rd Distinction of differently long economic cycles


Empirically, three different economic cycles have been proved:


·         the short economic waves named after J. Kitchin (about 2 - 3 years),


·         the middle economic waves named after C. Juglar (about 8 - 9 years),


·         the long, so-called Kondratiev economic waves (about 50 - 60 years).


Schumpeter has now established the following thesis:


Innovations (inventions) trigger Juglar and Kondratiev cycles, whereby one innovation is feeding several Juglar cycles. However, the clout of the upturn is getting weaker with each cycle, so that the long-term Kondratiev upturn comes to an end one day.


The short-term Kitchin waves, however, are less a result of innovation than of the warehouse managements of the commerce.


At first let us begin with drawing the course of the long-term Kondratiev economic cycle in a diagram with time on its abscissa and the domestic product on its ordinate as an indicator for the respective economy.


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Secondly, we also add the course of the middle-term Juglar cycle waves to the same diagram.


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Finally, the time course of the Kitchin waves is added as the third.


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Now we can calculate the course of the actual economic cycle from these three different wave movements and obtain the following development in the domestic product (Y):


 image012 - englisch



Although we assumed quite regular fluctuations, which in reality are never found in such purity, nevertheless a rather chaotic-looking course results of these three cycles.



04th Topicality of the economic concept


Doubts in public are getting loud as to whether one can even speak of economic fluctuations with clearly economic regularities since the end of the Second World War.


Possible reasons for this doubt may lie in the following consideration. The economic behaviour of the individuals is mainly responsible for the economic movements. However, the share of the state in the domestic product has grown very much in the meantime. But despite this change, at least the long business cycles are still observable.


However, no classic course of the economy can be determined anymore. Stagflation phenomena can be observed namely, which are characterised by the simultaneous occurrence of stagnation and inflation phenomena. Moreover, the phenomenon of hysteresis has emerged, which involves that the labour market is becoming more and more disconnected from the goods market. Thus in particular, the upturn on the labour market lags behind the upward movement on the goods markets. After all, also the duration of a Juglar cycle is quite different.


Walter Eucken even argued that every business cycle was of unique nature and that therefore there could not be a general economic cycle theory.



05th Definition "economic growth"


Now let us turn to the concept of economic growth. As a possible benchmark, the growth rate of the real domestic product (national income) is especially suitable. The domestic product is defined as the value sum of all produced goods including the services in the entire economy in one period. The real domestic product (IPreal) is then obtained by dividing the nominal domestic product (IP) by the price level (P):

IPreal = IP/P


As further benchmarks of the growth are used:


• the real per capita income,


• the labour or capital productivity,


• the acquisition assets.



Insofar as economic growth shall inform about the welfare increase of an economy, the real domestic product is less suitable, since an increase of the domestic product can accompany the increase of the population, so that despite an increase in the total domestic product the individual citizens on average still receive not more income than before. If the domestic product is distributed among more individuals, then the hitherto prosperity can only be maintained thereby that with the number of citizens also the domestic product increases. In order to gain control on this relationship, one measures the welfare change at the growth of the per capita income.


Sometimes the welfare increase is measured also by the increase in labour or capital productivity. As is well known, the labour productivity indicates how much product quantities per unit of work (hour or even monthly wage) are produced on average. If productivity increases, more product quantities can be produced at a consistent level of employment. As a rule, this means that consumers can also consume more goods.


Nevertheless, there are some differences between the benchmark of the per capita income and the labour productivity. Both terms lead to the same result only if the proportion of employees and their average number of working hours remains constant. If both variables change to different degrees, then the increases in labour productivity and per capita income do differ.


As an example, take the case that to the extent that labour productivity was increased, the average working time of employees is reduced. Here, by definition it is produced exactly as much as before, thus the domestic product per capita remains constant, but the same domestic product can now be produced with less work effort.


Thus, despite the constant income per capita, the average welfare has increased, only that this welfare increase is expressed in the fact that employees can afford more free time. So if you also want to take into account the increase in welfare caused by more free time, you need the benchmark of labour productivity, since the per-capita income only informs about whether these productivity gains have been used to increase per capita income.


Now, wherein does the welfare benchmark of the acquisition assets differ from the previously discussed benchmarks? If more is produced, this increase in incomes can serve to increase consumption or save income gains.


If the first mentioned path is taken, then the consumers will experience a benefit increase in this period, but this is limited to the current period. However, if income recipients choose the second mentioned way, that is increasing their savings, then these income units will be available in future periods and can be of benefit then.


A saving is only worthwhile, though, insofar as the benefit increases in the future will turn out greater than the benefit losses in the present due to the renunciation of using these income portions immediately for the purchase of consumer goods. It is therefore necessary to compare today’s benefit losses and the benefit increases in the future.


This comparison encounters several difficulties, though. It is unknown to most people how big the demand will be in the future and what income the individuals will dispose of in the future. But it is precisely these two variables (future demand and future income level) that determine decisively how much the welfare will increase in the future due to savings.


More generally, we have to assume that to the degree as it can be invested more due to savings and hence be produced more in the future, the future revenue will increase, but because of the effect of the law of the diminishing marginal return, the revenue growth will turn out all the smaller as the production increases.


Since, for the same reasons, less can be produced in the present than would be produced without these savings, the marginal output of labour increases as a result of this reduction in the potential production, and this means that on from a certain savings amount the marginal costs exceed the marginal revenues of the savings act. An expansion of the savings amount is reasonable as long as the income increase exceeds the yield reduction. Because of the already mentioned uncertainty, however, in the specific individual case it is not possible to indicate exactly how the future marginal revenue will change.


If the future marginal revenue decreases with increasing savings, this applies a fortiori for the benefit increase achieved from this. Here, too, the marginal benefit decreases with increasing utilisation. The changes in the future marginal benefit growths and the present marginal benefit reductions are therefore occurring in a tremendous pace as both the future marginal revenue and the future benefit growth, which can be derived from this revenue growth, decrease with an increasing savings amount.


Continuation follows!