Banking the Economy to Manage Unemployment

Banking the Economy to Manage Unemployment

National success in the global marketplace depends on coherent long-term strategic action by states and the construction and maintenance of a dense web of ‘intermediate’ institutions (banks financial and technical services, training, and infrastructure of all kinds) and sufficient social protection for the poor that the market needs but does not itself provide (Leys Colin; 1996, p 195).

Introduction

Social, solidarity-based economics represents a set of economic initiatives with the social goal of helping build a new way of experiencing and considering the economy. It grows out of the practical experience of hundreds of thousands of projects done in developing and developed countries. The group of initiatives forms a bold step toward basic economic development by means of which participation in the market can actually foster a better economic and social organization of and within communities. Basically, they (social, solidarity-based economics) encourage setting up new institutions, show and share the capacity of local initiatives to have an impact on the development process at local, national and international levels. This is how employment is created in creative ways during the age of globalization which celebrates creative destruction.

Today with the recent unprecedented rise of both positive and negative effects of globalization, the role of any government in the economy extends far beyond its activities as a regulator of specific industries. The government also manages the overall pace of economic activity, which seeks to maintain high levels of employment and stable prices in the market system. There are two main tools it can use for achieving these objectives: fiscal policy, through which it determines the appropriate level of taxes and spending; and monetary policy, through which it manages the supply of money in the economy. Fiscal policy implies to the policy the government receipts and expenditure should be consciously and prudently planned in aggregate amounts for budgeting so as to effect beneficial changes in the over-all levels of incomes, prices, employment and structural development. Fiscal policy is controlled by the government. Monetary policy is only concerned with the lowering of the cost and increasing the availability of money or credit for business investments. Monetary policy function is exercised by the Central Banks.

Fiscal Policy and Economic Stabilization

The government uses fiscal policy not just to support itself or pursue social policies but to promote overall economic growth and stability as well. Policymakers are influenced by John Maynard Keynes, an English economist who argued in The General Theory of Employment, Interest, and Money (1936) that the rampant joblessness of his time resulted from inadequate demand for goods and services. According to Keynes, people did not have enough income to buy everything the economy could produce, so prices fell, and companies lost money or went bankrupt. Without government intervention, Keynes said, this could become a vicious cycle. As more companies went bankrupt, he argued, more people would lose their jobs, making income fall further and leading yet more companies to fail in a frightening downward spiral. Keynes argued that government could halt the decline by increasing spending on its own or by cutting taxes. Either way, incomes would rise, people would spend more, and voila, the economy could start growing again. If the government had to run up a deficit to achieve this purpose, so be it, Keynes said. In his view, the alternative — deepening economic decline — would be worse.

Keynes had argued that during such periods of excess demand, the government should reduce spending or raise taxes to avert inflation. But anti-inflation fiscal policies are difficult to sell politically, and the government resisted shifting to them. Then, in the early 1970s, the nation was hit by a sharp rise in international oil and food prices. This posed an acute dilemma for policymakers. By the late 1990s, policymakers were far less likely than their predecessors to use fiscal policy to achieve broad economic goals. Instead, they focused on narrower policy changes designed to strengthen the economy at the margins and periphery.

Money in the Economy

While the budget remained enormously important, the job of managing the overall economy shifted substantially from fiscal policy to monetary policy during the later years of the 20th century. Taking the example of Kenya, Monetary policy is the province of the Central Bank of Kenya (CBK), an important economic government agency.

The Central Bank has three main tools for maintaining control over the supply of money and credit in the economy. The most important is known as open market operations, or the buying and selling of government securities. To increase the supply of money, the Central Bank buys government securities from banks, other businesses, or individuals, paying for them with a check (a new source of money that it prints); when the Central Bank’s checks are deposited in banks, they create new reserves — a portion of which banks can lend or invest, thereby increasing the amount of money in circulation. On the other hand, if the Central Bank wishes to reduce the money supply, it sells government securities to banks, collecting reserves from them. Because they (chartered commercial banks) have lower reserves, banks must reduce their lending, and the money supply drops accordingly.

The Central Bank can also control the money supply by specifying what reserves deposit-taking institutions must set aside either as currency in their vaults or as deposits at their regional Commercial Banks. Raising reserve requirements forces banks to withhold a larger portion of their funds, thereby reducing the money supply, while lowering requirements works the opposite way to increase the amount of money supplied in an economy. Banks often lend each other money over night to meet their reserve requirements. The rate on such loans, known as the “CBK funds rate,” is a key gauge of how “tight” or “loose” monetary policy is at a given moment.

The CBK’s third tool is the discount rate, or the interest rate that commercial banks pay to borrow funds from Central Bank. By raising or lowering the discount rate, the CBK can promote or discourage borrowing and thus alter the amount of revenue available to banks for making loans.

These tools allow the CBK to expand or contract the amount of money and credit in the Kenyan economy. If the money supply rises, credit is said to be loose. In this situation, interest rates tend to drop, business spending and consumer spending tend to rise, and employment increases; if the economy already is operating near its full capacity, too much money can lead to inflation, or a decline in the value of the shilling. When the money supply contracts, on the other hand, credit is tight. In this situation, interest rates tend to rise, spending levels off or declines and inflation abates; if the economy is operating below its capacity, tight money can lead to rising unemployment.

Many factors complicate the ability of the Central Bank of Kenya to use monetary policy to promote specific goals such as those of radically reducing unemployment, however. For one thing, money takes many different forms, and it often is unclear which one to target. In its most basic form, money consists of coins and paper currency. To use the American dollar as an example, coins come in various denominations based on the value of a shilling (dollar): the penny, which is worth one cent or one-hundredth of a dollar; the nickel, five cents; the dime, 10 cents; the quarter, 25 cents; the half dollar, 50 cents; and the dollar coin. Paper money comes in denominations of $1, $2, $5, $10, $20, $50, and $100.

A more important component of the money supply consists of checking deposits, or bookkeeping entries held in banks and other financial and nonfinancial institutions. Individuals can make payments by writing checks, which essentially instruct their banks to pay given sums to the checks’ recipients. Time deposits are similar to checking deposits except the owner agrees to leave the sum on deposit for a specified period; while depositors generally can withdraw the funds earlier than the maturity date, they generally must pay a penalty and forfeit some interest to do so. Money also includes money market funds, which are shares in pools of short-term securities, as well as a variety of other assets that can be converted easily into currency on short notice.

The amount of money held in different forms can change from time to time, depending on preferences and other factors that may or may not have any importance to the overall economy. Further complicating the Central Bank’s task of controlling the government’s monetary policies, changes in the money supply trend heavily affect the economy only after a lag of uncertain duration.

Monetary Policy and Fiscal Stabilization

The growing importance of monetary policy and the diminishing role played by fiscal policy in economic stabilization efforts may reflect both political and economic realities. The experience of the 1960s, 1970s, and 1980s suggests that democratically elected governments may have more trouble using fiscal policy to fight inflation than unemployment. Fighting inflation requires government to take unpopular actions like reducing spending or raising taxes, while traditional fiscal policy solutions to fighting unemployment tend to be more popular since they require increasing spending or cutting taxes. Political realities, in short, may favour a bigger role for monetary policy during times of inflation.

One other reason suggests why fiscal policy may be more suited to fighting unemployment, while monetary policy may be more effective in fighting inflation. There is a limit to how much monetary policy can do to help the economy during a period of severe economic decline, such as the United States encountered during the 1930s. The monetary policy remedy to economic decline is to increase the amount of money in circulation, thereby cutting interest rates. But once interest rates reach zero, the CBK can do no more. The country has not encountered this situation, which economists call the “liquidity trap.”

Conclusion

In the end, to move beyond the political rhetoric is economic bubs to better manage the ticking time bomb of massive unemployment across many Africa countries, Kenya, Nigeria, South Africa, Zimbabwe, Uganda name them require a coherent strategy on how to navigate structural market and development failures. Be it as it may, the process will no doubt be complex given huge knowledge gaps, technical skills deficits, cutthroat competition from developed countries markets and corporations for the African pie. Most important of all, the greatest threat to Africa transformation is the very nature of extractive political and economic institutions that do very little to create and build inclusive social, economic, cultural and political cohesion throughout different polities.

It is appalling to note that Central Banks across Africa are doing little to better manage the Africa economies hoping that politicians have better ‘political gimmicks’ to offer. The new development outfits in the name of regional integration arrangement’s monetary policy has to face head on national development failures if the larger markets theory for integration has to make sense on the long term. We must have alternative and broader avenues for inclusive economic development to expand the freedoms of Africans and make better their livelihoods as a whole. Not for a select few and political elite who loot from the public purse.

In the end as we have seen, social, solidarity-based economics may need the active participation of Central Banks and other big and small commercial banks to operate as part of a pluralist economy. The market and the state are not the only poles governing development. Social, solidarity-based economics adds to both by society itself taking economic action which embodies prospective group interests. Banking the economy should take a pluralistic approach which is more disposed to putting the economy in the service of society by promoting an ‘economy with a market’ rather than a ‘market economy’.

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