Answer to Question #201663 in Macroeconomics for Akhona Klanisi

Question

Explain why flexible labour markets are such an important element in supply side policies? 

Answer 1

Supply-side policies are mechanisms put in place by the government of a country to enhance efficiency in firms and thus increased productivity. Such policies include the improvement of infrastructures such as roads and communication, increased government spending, and increased incentives. If well imposed, there will be a shift in Aggregate Supply (AS) to the right and therefore high economic growth. To achieve this, a flexible labor market has to come into play as a compliment or to provide enhancing or “synergistic effect”. A flexible labor market is that in which labor changes as a result of the changes in its demand and wage rate.

A flexible labor market allows employers to make changes in response to supply and demand issues, the economic cycle, and other market conditions. This gives the firms the edge to reduce overheads, to fill labor shortages hence keep up with growing demand, it makes it easy for firms to hire and fire hence emancipating themselves from any legal ramifications from breach of contracts and employing workers only when demand is high.

Conclusively, the flexible labor market not only plays a complementary and an enhancing role to supply-side policies i.e. of increasing efficiency and hence increased productivity but also liberating the firms from ramifications associated with the rigid labor markets such as those of having to cope with high overheads even during a recession.