Page 81 - Introduction to Business

CHAPTER 2 The Environment of Business 55

to central banks is the direct control over interest rates. The central bank could raise or
lower key interest rates in order to impact private consumption, business investment,
the exchange rate, and GDP growth.

Incomes Policies. If the economic environment is such that the unemploy-
ment rate is already high and we need to cut inflation as well, some policymakers
will recommend incomes policies—strategies based on wage and price controls. incomes policies Strategies based on
Some countries try to implement incomes policies through labor-union-supported wage and price controls that are used
by governments to curb inflation and at
voluntary wage controls and price freezes by business. This approach is generally
the same time maintain employment and
difficult to achieve, except in times of national emergencies. In other countries, keep economic output stable
labor unions and businesses are coerced to freeze wages and prices during hard
times. Depending on the type of political system (from shades of democracy to
authoritarian regimes) in a country, the success of incomes policies will vary. The
results of incomes policies have been mixed at best. Most economists oppose
incomes policies, as they go against the basic principle of free markets, where
prices and wages are determined by market supply and demand. Furthermore,
even in cases where incomes policies have been relatively successful in the imme-
diate short run, the moment incomes policies are eliminated, large spikes in wages
and prices follow. It is therefore debatable whether incomes policies as a tool are
capable of achieving any of our economic goals, that is, solid economic growth, low
inflation and unemployment, or exchange rate stability on a sustained basis.

Trade and Exchange Rate Policies. Given the global nature of business and
the close integration of economies worldwide, trade and exchange rate policies trade policy Government policy
are playing an extremely important role in achieving macroeconomic objectives. implemented primarily through changes
in tariff rates or quotas with the
Since the creation of the United Nations and the Bretton Woods institutions (the objective of encouraging exports or
World Bank and the International Monetary Fund) in 1944, the world has become discouraging imports
increasingly globalized. The World Trade Organization (WTO), a sister institution of exchange rate policy A policy of
the United Nations, is armed with the responsibility of bringing about liberalized managing the country’s exchange rate,
to improve the country’s balance of
(freer) trade among member nations, whereas the International Monetary Fund
payments position
(IMF) is responsible for advising and helping countries achieve stable exchange
rates. As we noted in Chapter 1, since 1944 global trade and investment policies
have been liberalized on a regular basis through the elimination of quotas on
imports and the reduction of tariffs (taxes on imported goods). While some quotas
and tariffs still remain in the agricultural sector, most other industries have seen a
significant drop in tariffs, which has boosted trade (exports and imports) between
countries. Increased exports lead to rising GDP and economic growth, which in
turn generate employment. Countries are better off with open trade systems since
they are generally able to export goods and services that they are competitive at
producing and to import quality goods at attractive prices from abroad. Competi-
tion from imports will also help keep domestic inflation under control.
Exchange rate policy is a second and equally important international economic
policy tool. However, manipulating (normally trying to keep a currency weak) the
exchange rate could lead to short-term gain but long-term economic pain. Some
countries try to keep their currency weak to boost exports and reduce imports. This
way they hope to increase domestic production (hence employment as well) and
exports, thereby raising GDP growth. When a country manipulates its exchange
rate, other countries that get hurt by this policy will tend to retaliate, producing
reduced trade and economic growth in the countries concerned. Businesses, espe-
cially those in the export and import sector, are negatively impacted in the bargain.
In a similar manner, countries that try to maintain an artificially strong currency
will see imports getting a boost at the expense of exports (which involve domestic

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