Objectives, instruments and models of macroeconomic policy

Macroeconomic policy seeks to achieve objectives defined in terms of aggregate economic variables: full employment, price stability, balance of payments equilibrium, growth.

Since market failures in achieving these objectives are largely identified through macroeconomic theories, the latter underlie the analytical model that:

1. (a) enables us to identify variables that can be used as instruments

2. (b) indicates the links between targets and instruments, thus permitting us to set instrument values at the optimal level.

We have seen that there have been attempts to undertake a microeconomic analysis of at least some of the problems considered here: unemployment is one example. This is the approach taken by many theories belonging to the ‘classical’ strand of economic thought. Some of these give no explanation for involuntary unemployment; others explain it, but only as the product of ‘imperfections’ (e.g. imperfectly flexible prices). Theories of this sort tend to suggest microeconomic solutions, such as reducing or eliminating the causes of price stickiness, rather than policies based on the adjustment of aggregate variables, such as government expenditure, tax revenue, liquidity, etc.

While the search for macroeconomic models constructed on microeconomic foundations is a worthy task, it must be said that currently available models of this kind are inadequate. Their shortcomings are such that Keynesian macroeconomic models still seem to offer more satisfactory explanations of reality.