Stabilization policy is a macroeconomic strategy adopted by governments and central banks to maintain stable economic growth along with price levels and unemployment. The current stabilization policy includes monitoring the business cycle and adjusting base interest rates to control aggregate demand in the economy. The goal is to avoid unpredictable changes in total production, measured by gross domestic product (GDP), and significant changes in inflation. Stabilization policy (economics), as a rule, also leads to moderate changes in the level of employment. Often it lowers unemployment.
Imbalance
This stabilization policy is focused on the budget and is aimed at reducing fluctuations in certain areas of the economy (for example, inflation and unemployment) in order to maximize the corresponding levels of national income. Fluctuations can be controlled through a variety of mechanisms, including policies that stimulate demand to combat high unemployment, and those that suppress demand to counter rising inflation.
Stabilization Policy and Economic Recovery
Used to help the economy recover from a specific economic crisis or shock, such as sovereign debt defaults or a stock market crash. In these cases, stabilization policies can come from governments directly through open legislation and securities reforms or from international banking groups such as the World Bank. The latter structure often contributes to stabilization policy objectives.
Within Keynesian economics
The famous economist John Maynard Keynes theorized that when people within the economy do not have the purchasing power to purchase goods or services that are produced, prices fall - as a means to attract customers. As prices fall, enterprises can suffer significant losses, which will lead to an increase in the number of bankruptcies among corporations. Subsequently, the unemployment rate increases. This further reduces purchasing power in the consumer market, which again causes a drop in prices.
This process was considered cyclical in nature. To stop it, changes in fiscal policy will be required. Keynes suggested that through policymaking, the government could manipulate aggregate demand to correct the trend.
State stabilization policy is in great demand. Leading economists believe that as the economy becomes more complex and developed, maintaining a stable price level and growth rate is essential for long-term prosperity. When any of the above variables becomes too volatile, unforeseen consequences arise that prevent the markets from functioning with their optimal level of efficiency.
Most modern economies apply stabilization policies, with most of the work being done by central banking authorities such as the US Federal Reserve Board. Stabilization policies are largely attributed to the moderate but positive GDP growth rates observed in the United States since the early 1980s.
Methods
A stabilization policy is a package or set of measures introduced to stabilize a financial system or economy. This term can refer to politics in two different circumstances: stabilization of the business cycle and stabilization of the economic crisis. In any case, this is a form of discretionary policy.
“Stabilization” may refer to correcting the normal behavior of the business cycle, which helps to increase economic stability. In this case, the term usually refers to demand management through monetary and fiscal policies in order to reduce normal fluctuations and output. This is sometimes referred to as maintaining economic equilibrium.
Policy changes in these circumstances are usually countercyclical, offsetting projected changes in employment and production to increase short- and medium-term welfare.
The term may also refer to measures taken to resolve a specific economic crisis, such as an exchange rate crisis or stock market crash, to prevent an economic development or recession.
An action package in the framework of stabilization financial policy is usually initiated either by the government or the central bank, or by one or both of these institutions, working together with international institutions such as the International Monetary Fund (IMF) or the World Bank. Depending on the goals that must be achieved, this involves some combination of restrictive fiscal measures (to reduce government borrowing) and monetary tightening (to support currency). All these “packages” are the instruments of stabilization policy.
Examples
Recent examples of such packages include a revision of international obligations (where central banks and leading international banks revised Argentina's debt to avoid a general default) and IMF intervention in Southeast Asia (in the late 90s) when several Asian economies faced with financial turbulence. They were saved by the stabilization economic policy of the state.
This type of stabilization can be painful in the short term for the corresponding economy due to lower production volumes and higher unemployment. Unlike the policy of stabilizing the business cycle, these changes are often pro-cyclical in nature, reinforcing existing trends. While this is clearly undesirable, policies are intended to be a platform for successful long-term growth and reform.
It was argued that instead of imposing such a scheme after the crisis, it is necessary to reform the very "architecture" of the international financial system in order to avoid some risks (for example, hot cash flows and / or hedge funds) that some people have to destabilize the economies of financial markets, which leads to the need for a stabilization policy and, for example, IMF intervention. Proposed measures include Tobin's global tax on cross-border currency transactions.
Israel example
An economic stabilization plan was implemented in Israel in 1985 in response to the difficult domestic economic situation in the early 80s.
The years after the war in Yom Kippur in 1973 were an economically lost decade, as growth slowed, inflation jumped sharply, and government spending rose significantly. Then, in 1983, Israel suffered from the so-called “banking stock crisis.” By 1984, inflation reached an annual level close to 450%, and is projected to exceed 1000% by the end of next year.
These steps, combined with the subsequent introduction of market-oriented structural reforms, have successfully revived the economy, paving the way for its rapid growth in the 90s. The plan has since become a model for other countries facing similar economic crises.
American Stabilization Act
The Economic Stabilization Act of 1970 (Section II publ. 91-379, 84 stat. 799, adopted August 15, 1970, previously codified in 12 USC § 1904) was a United States law that allowed the president to stabilize prices, rents, salaries, salaries, interest rates, dividends and similar transfers. He set standards that serve as a guideline for determining wage levels, prices, etc., that will allow for adjustments, exceptions, and changes to prevent injustice, taking into account changes in productivity, cost of living, and other relevant factors.
Recession Medicine
The United States was in a recession caused by the Vietnam War and the energy crisis of the 70s, combined with labor shortages and rising health care costs. Nixon inherited high inflation, although unemployment was low. Seeking re-election in the 1972 presidential election, Nixon vowed to fight inflation. He acknowledged that this would lead to job loss, suggested that it would be a temporary solution, but promised that much more would come in terms of change, hope and “workforce”. The opinion of economists about whether this policy was justified or not is polar. Nevertheless, stabilization economic policy is still widespread.
Budget policy
Fiscal policy has an impact on the effectiveness of the national economy. This applies to goals such as high employment, a reasonable degree of price stability, the stability of foreign accounts and acceptable rates of economic growth. These macro targets cannot be materialized automatically. But this requires thoughtful and well-planned political leadership and packages.
In the absence of this, the economy becomes vulnerable to significant fluctuations and can slip into steady periods of unemployment or inflation. Coexistence of unemployment and inflation, as it was in the 70s, or a painful depression of the measurements of the 30s, can occur.
In the modern world of globalization and growing international dependence, the probability of instability transmission across the country is higher.