Solutions to Problems of Trade Cycle | Control of Business Cycle

Control of Business Cycle

Economic stabilization is one of the main remedies to effectively control or eliminate the periodic trade cycles which plague capitalist economy. Economic stabilization is not merely confined to a single individual sector of an economy but it embraces all its facets. In order to ensure economic stability, a number of economic measures have to be decided and implemented.

Control of Business Cycle
Control of Business Cycle

In modern times, a programme of economic stabilization is usually directed towards the attainment of three objectives:

  1. Controlling or moderating cyclical fluctuations,
  2. Encouraging and sustaining economic growth at full employment level, and
  3. Maintaining the value of money through price stabilization.

Thus, the goal of economic stability can be easily resolved into the twin objectives of sustained full employment and the achievement of a degree of price stability.

As stated, the trade cycle cannot be controlled by a single operation. Following instruments are used to attain the objectives of economic stabilization, particularly for the control of trade cycles, relative price stability and attainment of economic growth:

  1. Monetary policy,
  2. Fiscal policy,
  3. Anti-cyclical budgeting, and
  4. Automatic stabilizer (or) Built-in stabilizer.

Let us discuss the same in detail.

1. Monetary policy to control trade cycle

Monetary factors aggravate the operation of trade cycle. Monetary inflation, leading to higher income and profits, strengthens the boom conditions. Similarly, monetary deflation reinforces the downswing in the economic activities leading to depression. So, the monetary policy should be adopted in an anti-cyclical way. During the period of upswing and boom, supply of money and credit should be controlled and regulated.

The central bank of the country should adopt all or chosen methods of credit control. The weapons of credit control, such as bank rate, open market operations, reserve ratio, etc. should be utilized and to control inflationary tendencies and over-expansion of business activity. In times of depression or signs of recession, expansionary, credit policy should be adopted to mitigate the severity of recession and depression.

2. Fiscal policy

Monetary policy alone may not be sufficient to check the instability created by business cycle. It should be reinforced with suitable fiscal policy. Keynes and others have recommended compensatory finance or compensatory fiscal policy to bring about stabilization of business activity. The three main instruments of fiscal policy are:

  1. taxation,
  2. spending, and
  3. borrowing..

These three instruments have to be effectively utilized to control the severity of boom or the difficulties of depression. During the periods of recession and depression, the government should reduce substantially the taxes and leave more money in the pockets of individuals for spending and investment.

The government should stimulate economic activity by initiating public works project. In time of boom, the government should try to mop up extra or the surplus money through attractive borrowing schemes.

3. Anti-cyclical budgeting

The budgetary policy of the government should be in tune with the measures already indicated to combat the instability created by business cycle. During times of depression, a policy of deficit budgeting should be adopted. This will increase the flow of income in the economy. During upswing, surplus budgeting should be adopted. Thus, the budgeting should be done in anti-cyclical method.

4. Automatic stabilizer or Built-in-stabiliser

When fluctuations take place in the economy, the available monetary and fiscal tools cannot be geared quickly to set right the imbalance. Further it is also too much to expect the government officials to act quickly to the tempo of change in economic activity; So the policy makers make provisions for automatic adjustments in the fiscal structure. These built-in-stabilisers or automatic stabilizers will automatically come into play in proportion to the rise and fall of economic activity.

By this method, the tax rates are so fixed that in the upward phase of the trade cycle, with increase in national income, the tax yield will go up automatically at a faster rate without any change in the tax structure. The progressive rate of taxation is one of the important built-in-stabiliser in the tax structure.

Another important built-in-stabiliser is the unemployment insurance scheme. During periods of prosperity or upswing, the employers pay taxes and the employees pay some amount towards unemployment insurance scheme. This money gets accumulated.

During times of depression and the consequent unemployment, the public spending is automatically effected by doling out money to the unemployed people. Thus, the flow of money is regulated automatically from the people to the government in times of prosperity, and from government to the people in times of adversity.  The built-in-stabilisers play a strategic role in fighting recessions.

From the above discussions, we can note the following observations:

1. There is no fool-proof method of solving the problem of trade cycles. All measures suggested must be carefully coordinated and implemented to achieve economic stabilisation.

2. These stabilization objectives should not be interpreted rigidly. We cannot expect them to eliminate all fluctuations in employment, output and prices. Cyclical fluctuations are an inherent characteristic of capitalist society and cannot be eliminated completely but can be controlled reasonably if measures are effectively adopted.

3. Some fluctuations may be beneficial to economic growth. Therefore, stabilization policy should be applied only to suppress inappropriate fluctuations.