Chapter 1 Flashcards
From 2000 to 2007
the world economy had a sustained expansion
In 2007
US house prices, which had doubled since 2000, started declining
Optimists opinion on housing
although lower housing prices might lead to lower housing construction and lower spending by consumers, the Fed could lower interest rates to stimulate demand and avoid a recession
Pessimists opinion on housing
the decrease in interest rates might not be enough to sustain demand and that the United States may go through a short recession.
End result of falling house prices
Lead to a major financial crisis in housing prices. share prices collapsed.
It also a sudden increase in interest rate, which increased unemployment too
Channels affected by the world crisis
Trade (consumers cut spending; exports declined by 21.1%)
Financial (US banks repatriated funds from other countries)
In 2010
growth in both advanced economies and in emerging and developing economies turned positive and remained so thanks to strong monetary and fiscal policies
Growth is positive, but it is low, and unemployment remains high
Questions economists ask when looking at a country
How big is the country from an economic view (they look at output - the level of production of the country as a whole.) ?
What is the standard of living (they look at output per person) ?
Variables economists look into to see the state of health of the country
Output growth (The rate of change in output)
The unemployment rate (The proportion of workers in the economy who are not employed and who are looking for a job)
The inflation rate (The rate at which the average price level in the economy is increasing over time)
Main economic powers
The United States
The Euro area
China
The federal funds rate
limiting the decrease in spending by decreasing the interest rate the Fed controls
Why did the Fed stop at zero?
the interest rate cannot be negative and this constraint is known as the zero lower bound
If it were negative, then everyone would hold cash rather than bonds
Why are low interest rates a potential issue?
limit the ability of the Fed to respond to further negative shocks
lead to excessive risk-taking by investor to increase their returns which can lead to a financial crisis
Issues the Euro area faces
how to reduce unemployment
whether and how it can function efficiently as a common currency area
What do economists believe the main problem is
that European states protect workers too much. To prevent workers from losing their jobs, they make it expensive for firms to lay off workers.
This resulted in firms not wanting to hire new workers which lead to unemployment increasing
Solutions to fix this problem
Be less protective off employees
Eliminate the labour market rigidities
Adopt US-style labour market institution
economic advantages of having a common currency
No more changes in the relative price of currencies for European firms to worry about
no more need to change currencies when crossing borders
Others argue
the symbolism of the euro may come with substantial economic costs because a common currency means a common monetary policy
means the loss of the exchange rate as an instrument of adjustment within the Euro area
Why did the crisis barely affect China
Even though exports slowed during the crisis, the adverse effect on demand was nearly fully offset by a major fiscal expansion by the Chinese government
where has growth in China come from?
high accumulation of capital (investment rate is 48% compared to the US 19%)
rapid technological progress
Strategies by Chinese government to increase productivity and output
encourage foreign firms to relocate and produce in China (more productive)
encourage joint ventures between foreign and Chinese firms
transitioned from central planning to market economy
Transition challenges for China and other countries
the transition from investment to consumption is the major challenge facing the Chinese authorities today
Other countries experienced a large decrease in output at the time of transition
