2.6.2 - Great Depression/2008 Financial Crisis Flashcards
what fiscal policy was used in response to the great depression?
-1920s governments were focussed on balancing the budget (classical economics), governments cut spending and reduced tax as higher borrowing would lead to crowding out, reducing AD
-Keynes argued for expansionary fiscal policy, increased gov spending to increase AD and GDP
-1933-1938 = New Deal Programme in America stimulated output and employment, money was spent on infrastructure and increasing employment
-1934 = Britain boosted government spending
-tight fiscal policy = fiscal prudence in US
- US government introduced protectionist policies
- in the UK, focus was on balancing the government budget = deflationary fiscal policy eg. cutting public sector wages, increasing income tax
- the UK government introduced tariffs on imports
what monetary policy was used in response to the great depression?
-UK was on Gold Standard until 1931, US until 1932 = currency was fixed as a certain amount of gold
-Britain was on Gold Standard to stabilise inflation and restore current account equilibrium however deflation occurred, leading to increased interest rates, further weakening AD
- when the UK left the Gold Standard, exchange rate of the pound fell by 25%, improving international competitiveness, interest rates were also decreased from 6% to 2%
-it wasn’t possible to reduce interest rates as this would decrease demand for currency and they would be unable to maintain gold standard
-September 31 = interest rates needed to be increased to maintain the value of the dollar, causing a negative multiplier reducing C and I, exacerbating depression
- US government increased money supply in 1930
what policies did the US use in response to the great depression?
-increasing tariffs to protect US industries, led to trade war, trade contracted, output fell
-the US believed in balanced budgets, they adopted the Gold Standard limiting the ability of central banks to expand money supply
-in 1930, there was a budget surplus. by 1932, fiscal policy was weakly expansionary
-interest rates were raised in 1931 restricting credit and reducing AD, money supply fell by 31%
-1933, New Deal launched bringing some fiscal stimulus to the economy
-Roosevelt removed the Gold Standard and money supply increased, increasing real GDP, causing economic growth
-1937, government spending was cut and taxes raised due to national debt
what policies were used by the UK in response to the great depression?
-UK Treasury followed classical doctrine that budget should be balanced until 1940s. unemployment rose so spending increased and tax revenues fell
-1931 budget cut public sector wages and unemployment benefits by 10%, raised income = highly deflationary
-UK left Gold Standard (1931), value of the pound fell by 25%, money supply was relaxed. Interest rates were reduced from 6% to 2%.
How was fiscal policy used in the US in response to the 2008 financial crisis?
American Recovery and Reinvestment Act in 2009, worth 6% of the year’s GDP. 90% of the budgetary impact was realised by 2011. The act included tax cuts for businesses, spending on public services and training for the unemployed
how was fiscal policy used by the UK in response to the 2008 financial crisis?
fiscal measures worth 2.2% of 2009 GDP eg. reduced VAT, support for construction industry, infrastructure spending, training for unemployed. by 2010, the UK moved towards measures aimed at reducing the budget deficit
what did Keynesians argue about fiscal policy as a response to the crisis?
Keynesians argued that governments had to spend more to stimulate recovery and most countries put stimulus packages in place
what monetary policy was used by the UK in response to the 2008 financial crisis?
the mpc cut base interest rate from 5.75% to 0.25% between 2007 and 2009. this stimulated AD. QE was also used to revive consumer spending and economic growth. The Bank of England spent £375 billion on QE. (expansionary monetary policy)
how was monetary policy used in the US in response to the 2008 financial crisis?
Federal reserve cut interest rate from 5.25% to 0.25% in 2008, they spent $4.5 trillion on quantitative easing. (expansionary monetary policy)
How were the fiscal policy responses different for the US and UK (2008 Financial Crisis)?
US fiscal policy was looser than that of the UK however their budget deficit was larger as a percentage of GDP than the UK. UK prioritised cutting the fiscal deficit to control National Debt by reducing government spending and raising taxes, reducing economic growth so they took longer to recover from the recession
What was the Great Depression?
In the 1930s, the world experienced a sever depression. in the UK, unemployment was over 15% and almost 25% in the US. Primary and manufacturing industries within the UK were most affected as they relied on exports, and were impacted by the collapse of global trade.
What were the causes of the Great Depression?
- Wall Street crash of 1929 = sharp fall in share prices on the Stock Exchange
- may have been caused by loss of consumer and business confidence, shareholders lost money in the crash, firms reduced investment reducing AD.
- may have been caused by US banking system, they lent too much during the 1920s, creating an unsustainable boom. the government allowed banks to fail after the crash, decreasing confidence further and reducing loans, leading to a fall in AD.
- protectionism may have been a cause of the Great Depression, it reduced world trade, decreasing AD and lowering confidence. Reduced exports lead to a reduction in AD
- the UK was affected by commitment to the gold standard, where its currency was fixed to the value of gold and other currencies. When they rejoined the gold standard in 1925, the pound appreciated rapidly and exports fell.
What were the causes of the global financial crisis?
- caused by issues in mortgage lending in the US. In the early 2000s, poorer groups were encouraged by the government to take out mortgages on homes. They were given low interest rates for the first few years, many were unable to continue with higher repayments. Houses were repossessed, demand fell and house prices fell, causing negative equity.
- banks had been grouping prime mortgages and sub-prime mortgages and selling packages to other banks and investors to reduce risk as no bank was highly dependent on risky mortgages. However, this increased risk as many now held assets worth less than they paid for them, it spread the effects of the housing crash
- there was a fall in confidence following this and banks stopped lending with each other, as they feared they would lost money if the other one collapsed
