Policy mix has to be right

Governments have a range of tools they can use to influence the economy. The trouble is that they have to be used together and in the 'right way' so they don't counteract each other.

The Governor of the Reserve Bank of Australia, Glen Stevens, has spoken of the need to not rely on the tool of monetary policy. In a speech he has pointed out that whilst getting the short and medium term demand side policies right (monetary and budgetary policy) in addition it is necessary to get the conditions for growth right too.

It is important to realise that economic growth is a long-run phenomenon. When politicians refer to growth 'this year' being a certain amount they are usually referring to a rise in GDP which represents moving towards the Production Possibility Frontier (PPF), known as short-run economic growth. 

Economic growth is a really a movement of the PPF, an increase in the potential output of the economy. To distinguish this from simply moving towards the PPF we refer to it as long-run economic growth.

To achieve a movement of the PPF it is necessary to increase the factors of production or improve the quality of the factors of production. For this the economy will need investment in capital and people.

Hence Governor Stevens is suggesting that there must be conditions which promote competition, innovation and investment. This is the stuff of supply-side or microeconomic policy.

 The movement of the PPF represents long run economic growth.

Stevens speech is reported by SBS here