Question 1 Part (b)

Discuss whether the multiplier size is the most important factor influencing governemnts approach
towards macroeconomic stabilisation.
Introduction
- State the 4 macroeconomic goals; high economic growth, price stability, low unemployment and
BOP equilibrium.
- General focus on price stability
- In part (a) the workings of the multiplier effect has and should already be explained.

Body
Thesis:
- Yes, the multiplier size is the most important factor influencing governments approach towards
economic stability.
- An example would be during the case of demand deficiency.
- Assuming the government increases its budgetary spending during a period of recession to
mitigate the effects of a recession and ensue price stability.
- Using expansionary fiscal stimulus, government spending increases, AD increases, leading to
unplanned decrease in stocks. Firms increase production level in the next period to increase
their stock levels back to desired levels, they hire more workers leading to an increase in
national income and employment.
- Through the multiplier effect, the higher income induced and aggregate consumption. This leads
firms to hire more workers again to meet the rising demand for gds and serves and national
income increases second round. This second round increase in national income induces another
round of consumption. With each successive round of increase in income, the amount of
leakages, in terms of S, T, M also rises. This continues until the leakages have risen by the same
amount as the initial increase in investment, by then the national income and employment rates
would have risen by a multiple. Stabilising the economy.
- Thus the larger the multiplier, the larger the subsequent increase in national income and
employment. In the case of a global recession, the price levels would have increase back to
original levels and macroeconomic stability would have been achieved.

Antithesis:
- Although the multiplier effect can be significant in helping governments and the economy to reach
stability but it doe shave its limitations and there are other considerations that the government can
take to reach the macro goals.
- There are nations like Singapore which has a small and open economy. Due to the lack of natural
resources, we have to import raw resources and intermediate goods to produce our exports. As
such import leakage is large MPM is high and thus multiplier is always small due to high MPW.
MPS is also high in Singapore due to the mandatory Saving under the CPF.
- As a result, to nations like that of Singapore, the multiplier plays a small role in helping the
the economy reach stability.
- Besides looking at the multiplier, governments also consider other fiscal stabilisers like
progressive tax and government expenditure to dampen effects of either a
cynical upturn or downturn.

Conclusion
Although it is true that the multiplier plays a significant role in ensuring stability in the economy
but it is more relevant in big and open economies like China and the US where their exports
are high and thus the multiplier is high. It is then that fiscal policies will be more extensive and
the multiple will be even more relevant.

Question 2 Part (b)

Introduction
- State the governments macroeconomic objectives: high economic growth rate (both actual and
potential), low unemployment, price stability and BOP equilibrium.
- Since the expansionary effect on national income through use of expansionary fiscal policy
is explained in part (a). We now look at how this may conflict with other macroeconomic
objectives.

Body
Thesis:
- Conflict between economic growth and price stability
- If the economy is close to Yf, the increase in G may be more than the deflationary gap,
causing too much demand going after too little goods, giving rise to demand pull inflation.

- Conflict between economic growth and BOP equilibrium

- The increase in G resulting in higher national income will mean households will get higher
disposable income, assuming ceteris paribus. Their ability to buy imports will increase, this
will inevitably worsen BOP current account, thereby upsetting BOP equilibrium.

- As illustrated in the above diagram as AD increases from AD1 to AD2 and subsequently to AD3
general price levels increases, giving rise to Demand pull inflation. And real income increases
from Y1 t o Y3, this may indirectly upset the current account and BOP equilibrium many not be
achieved.

Anti-thesis
- Besides the above mentioned conflicts, there are also other limitations that affect the
effectiveness of expansionary fiscal policy in achieving economic growth.
- Whether the increase in G is neared by the fall in exports due to global recession for e.g., if the
fall in X is greater than the increase in G, there might be a fall in AD, hence there will be noise in
National income.
- The decrease in I; when government borrows to finance its expenditure, this increase in demand
for loanable funds will drive up interest rate. Fries will decrease its investment base on MEI
explanation , therefore this may result in a small increase in net AD, dampening the effect on
national income.

- The value of the multiplier. If the k value is small it means that a large part of the injection is
withdrawn from the circular flow of income through S, T or M. The high value of MPS, MPT,
MPM will cause k value to be same. Therefore again the effect on national income will de
dampened.

Conclusion
- The government has to be aware that there may be conflicts with the objective or there can be
tradeoffs, more than 1 policy is therefore required to attain the objective effectively and
minimise the conflict or tradeoffs that may come along with the implementation of the various
policies. Other than policies that government may consider will be monetary policy and
supply management policies that can help mitigate the effects of expansionary fiscal policy.