What is Economic Policy? - Definition & Examples

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  • 0:00 What Is Economic Policy?
  • 1:07 Functions
  • 2:24 Goals
  • 3:03 Lesson Summary
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Lesson Transcript
Instructor: Brianna Whiting
In this lesson, we will discuss the term economic policy. We'll then look at the functions of economic policy, as well as the goals government use when implementing policy.

What Is Economic Policy?

Think about the last time you purchased an item at a store. When you grabbed the item off the shelf, you probably noticed the price. For example, you grab a bottle of shampoo for $4.99. When you head to the checkout lane, you expect to pay 4.99 for the item. However, much to your surprise, your total for the item was $5.23. What just happened? Why did an item that was marked at $4.99 cost $5.23? While most of us know that the answer to these questions has to do with taxes, we may not understand how taxes are assessed or who decides how much to tax items. Investigating economic policy will give us a better understanding of these concepts.

I'm sure you've figured out that there is a connection between economic policy and taxes, but is there more to this term? The answer is yes. Economic policy is the term used to describe government actions that are intended to influence the economy of a city, state, or nation. Some examples of these actions include setting tax rates, setting interest rates, and government expenditures.


Okay, you now know the definition of economic policy, but you may be wondering how the government influences the economy. There are three methods a government uses in order to accomplish this task. They are as follows:

1. Allocative Function: This function revolves around the budget of the government. This means, that a government needs to decide how to spend money in a way that will benefit an economy. Some examples include funding health care and creating jobs.

2. Stabilization Function: This is the function that helps control interest rates and inflation. This function also works to help the employment rate by moving towards full employment. An example is when a government works to increase employment rates and help wages by decreasing interest rates. This is done because as interest rates increase, an economy begins to plummet. When an economy plummets, businesses tend to hire less employees and decrease the wages they pay.

3. Distributive Function: This function revolves around taxes. It is particularly important when it comes to the decision of what taxation level is appropriate for each economic level. For example, income taxes affect those individuals in the wealthy class much more than those who make less money and are in a lower economic level.

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