eBusiness Weekly
Blessing Nyatanga
Expenditure switching is a macroeconomic policy that affects the composition of a country’s expenditure on foreign and domestic goods.
More specifically it is a policy to balance a country’s current account by altering the composition of expenditures on foreign and domestic goods and not only does it affect current account balances, but it can influence total demand and thereby the equilibrium output level.
Exchange rate fluctuation and supply side policy are sub topics of the expenditure switching. Among possible expenditure-switching policies, devaluation or revaluation is the most focused policy to affect current account balances and the equilibrium level of output.
Exchange rate flexibility involves devaluation and revaluation. It involves switching from imports to exports.
Supply side policy is meant to boost international competitiveness. It involves government subsidies and education part of employment result in capital flows. Expenditure switching policy reduces the budget deficit.
Weak exchange rate will result in increased interest rate, increase money supply and they will be room to sell domestic products.
The expenditure switching policy will reduce the policy dilemma by either using a weaker exchange rate which is flexible or by using the supply side policy.
The key role of nominal exchange rate flexibility in these models is that it allows for expenditure switching.
That is, in the presence of real shocks that are specific to one country (such as productivity shocks, labour supply shocks and Government spending shocks), nominal exchange rate changes allow adjustment of relative prices of goods across countries.
These changes in relative prices can replicate the changes in relative prices that occur in flexible price economies.
For example, a country that experiences a productivity increase should experience a decline in the price of its output that induces a switch in expenditures toward the domestic product.
Devaluation increases the domestic price of imports and decreases the foreign price of exports; therefore, it decreases imports and increases exports.
However, whether devaluation leads to an improvement in current account balances depends upon the elasticities of demand for exports and imports.
According to the Marshall-Lerner condition, if the sum of the elasticities of demand for exports and imports is greater than one, depreciation of the domestic currency leads to a current account improvement.
Although devaluation policy is the most focused expenditure switching policy, it is not the only one.
In general, expenditure policies take the form of trade (control) policy since they are aimed at affecting the volumes of either or both.
Tariff policy can be implemented to discourage the inflow of imports, and export subsidy can be used to encourage exports, though these policies tend to be industry specific.
Changes in investment and interest rate
An expansionary fiscal policy is a macroeconomic policy that seeks to encourage economic growth or combat inflationary price increases by expanding the money supply, lowering interest rates, increasing government spending or cutting taxes.
One form of expansionary policy is fiscal policy, which comes in the form of tax cuts, transfer payments, rebates and increased government spending on projects such as infrastructure improvements.
The increase in nominal money has no effect on output or on the interest rate.
Economists refer to the absence of a medium-run effect of money on output and on the interest rate by saying that money is neutral in the medium run.
The neutrality of money in the medium run does not mean that monetary policy cannot or should not be used to affect output. An expansionary monetary policy can, for example, help the economy move out of a recession and return more quickly to the natural level of output.
In the medium run the expansionary monetary policy can eliminate recession.
Fiscal expansion policy in the medium run is when government increases spending or decrease in taxation, which leads to an increase in the budget deficit.
A deficit reduction leads in the short run to a decrease in output and to a decrease in the interest rate. In the medium run, output returns to its natural level, while the interest rate declines further.
In the medium run, output returns to the natural level of output, and the interest rate is lower. In the medium run, a deficit reduction leads unambiguously to an increase in investment.
Blessing Nyatanga holds a Bachelor’s degree in banking and investment management from NUST.0784909184/[email protected]
