How economics can have an effect on government policy


Economics is a complicated beast, and it is one that many people both in government and outside of it often find themselves scratching their heads and wondering about. What exact effect will a certain economic policy have on the tax take, for example? Or, what will the effect of a new policy be on the labor market? Luckily, there are plenty of experts out there who have already begun exploring some of these very key questions. This blog post will share some of their insights, and identify some of the key ways that the laws and rules of economics can exert an influence on activity at the very top of government. 

Tax policy

First, let’s start with the obvious. Taxation is perhaps the prime example of economics in action, at least for the average Joe on the street. Depending on the government in question, taxation tends to be treated differently. For a left-wing government, the idea is more likely to be that higher taxes are necessary in order to fund a certain level of public services. For the right, tax cuts as a way of stimulating private investment tend to be the main area of focus. 

However, none of these assumptions are necessarily as simple as they might seem at first glance. Take the example of the ‘Laffer curve’: this suggests that, paradoxically, the lower the tax rate, the higher the tax take might be, as when tax rates are higher, people find ways to avoid them. This theory has in turn been condemned by economists other than Art Laffer, who proposed it. What this shows is that there is real complexity involved in using economics to make decisions about government policy, and that much of it is down to interpretation rather than fact. 

Housing policy

Other than tax, perhaps nowhere is the effect of economics on government policy so obvious than in housing. The laws of supply and demand, which govern all sorts of markets, also apply in the housing sector. Put simply, the more people who want to buy a home, the higher the price of homes is likely to be – with the higher price acting as a way of choosing who gets to acquire the asset and who doesn’t, and as a way of reducing demand.

This rule is very stark in the housing sector in particular. Especially in many popular cities in the US, house prices are so high that people are unable to get on the property ladder. This has led to some to call for government policies that address the other side of the equation: supply. By increasing supply, so the theory goes, prices will go down. It is easy to see why people interpret the laws of supply and demand in this way: last November, for example, saw the lowest number of homes for sale on record, suggesting that low supply is a major problem. Whether or not this particular economic insight will have a deeper effect on government policy and lead to more housebuilding projects as time goes on, however, remains to be seen. 

Reliance on experts

As the above two examples have shown, then, the laws of economics can have profound and tangible effects on the ways that governments get their policies off the ground. However, it is hardly as simple as acknowledging the laws of economics and then deciding on policies from there. There is also a normative question involved – a question of which economic laws ought to be prioritized the most, rather than just what they are. Efforts to tackle inflation, for example, can sometimes lead to rising unemployment – while bringing down unemployment can sometimes boost inflation. 

For that, experts are required. Governments around the world tend to employ large civil services full of staff who can crunch the numbers for them, and help that government come to a decision about, for example, whether to prioritize reducing inflation or reducing unemployment. They also use market intelligence providers to make informed and accurate decisions. Alex Friedman is a notable case of someone who provide this sort of research for government bodies.

Ultimately, no government will ever be able to answer the question of which economic law is most important conclusively – but they will be able to make informed choices provided that they have good research and evidence in front of them.

Economics has long since had a profound effect on government policy. The ebbs and flows of the markets, and the ways that these control decisions on everything from tax levels to housing, have been important since the currently dominant mode of market economies came into existence – and as this article has shown, this is unlikely to change in the coming years.



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