current issues in economics Flashcards
Monetarist view
- Monetarism is a set of beliefs about about the ways in which changes in money effects other macroeconomic variables - In the long run money growth effects only nominal variables not the real variables - Velocity of money is fixed - Real variables can only be affected by labour mobility, existence of minimum wages, technological progress and so on - The economy is inherently stable and tends towards a long run equilibrium level of output - ‘Monetary rule’ – money supply grows at a predetermined rate so that markets have information about the expected long run rate of inflation
Keynesian view
- Keynesian Economists believe that changes in the money stock affect real variables such as output and employment - Changes in money growth have both short and long run affects - Velocity of money is unstable - An increases in money growth leads to a reduction in the velocity of circulations as money is absorbed into idle balances - However, when there is unemployed resources in the economy , increase in money growth will be associated with an increase in output and a fall in unemployment - Economy is inherently unstable. Therefore, government intervention is necessary to stabilise the economy - They reject monetary rule since this would restricts the scope for intervention and reduce the ability of government to respond to adverse shocks
Keynesian View: reasons for holding money
- Transaction: demand for cash for making transactions
- Precautionary :to hold money to provide for contingencies requiring sudden expenditure and for unforeseen opportunities of advantageous purchase
- Speculative : hold money for speculative purposes
Problems with monetary targeting?
- The relationship between the variables are not very
straightforward - The output growth depends on a various other factors such as
factors productivity and their availability - The predictions become more hard when the economy goes
through structural changes - For example, over the 1980s and 1990s UK economy went
through structural changes such as privatisation, deregulations,
trade union reforms and so on.
Exchange rate targeting
- An exchange rate targeting simply involves fixing the
external value of one currency with another currency - As a result it will stabilise the price of tradable goods and
domestic inflation converging toward foreign levels - However it means that domestic monetary policy must
follow the monetary policy of the anchor currency,
otherwise there will pressure on the exchange rate
Exchange rate targeting; advantages
- A major advantage over monetary targeting is that unanticipated
changes in money demand have no effect on domestic interest rates
because they will be matched by an equivalent and offsetting change in
money supply through capital flows
Exchange rate targeting; disadvantages
- The major problem is that leave authorities powerless to deal with any
adverse shocks to the economy, such as deterioration in terms of trade
or a loss in export markets - Unless wages and prices are are flexible, an adverse shock must be
borne by the domestic economy and will result in declining output and
rising unemployment, and will continue until the economy slows
sufficiently and wages and prices fall far enough to restore
competitiveness - Prone to speculation
what is inflation targeting?
- In inflation targeting monetary policy is adjusted as
necessary - Whenever the forecast rate of inflation rises above the
targeted rates, monetary policy is tighten and vice versa
Techniques of monetary policy?
- Direct controls: focus on growth of bank deposits and often involve in legal
measures specifying that financial institutions are required to hold part of
their assets in a defined form such as cash or other liquid assets (reserve assets) - Special deposits: these deposits are frozen at the central bank and banking
sector had no access to them until they were released by the central bank. A
call for special deposits imply a reduction in the bank’s operational deposit at
the central bank , put pressure on the banking sector. This technique was
abandoned in 1971 - Credit ceilings: also known as supplementary special deposits, to limit the
growth of bank lending. This technique was abandoned in 1980
The Transmission mechanisms : effects on the financial market
- The impacts on future expectations and confidence can be ambiguous,
hence emphasises the importance of credibility and transparency - Effects on spending behaviour
There are three direct effects: - new rates of interest on their savings and debts (felt most acutely )
- the value of individuals’ financial wealth changes as a result of changes
in asset prices - any exchange rate adjustment changes the relative prices of goods and
services priced in domestic and foreign currency
The Transmission mechanisms ;
Effects on firms :
- A rise in interest rate increases the cost of borrowing, reduces profits,
increases required rate of return - Increases the cost of inventories, reduces employment
- Cash-rich firms will receive a higher income from funds deposited with
banks or placed in the money markets, thus improving their cash flow - On an average effects on inflation with a lag of around two years
The main advantage of the inflation targeting
- it allows more flexibility to respond to the adverse
shocks, whether the shocks are anticipated or
unanticipated - Constrained discretionary policy – viewed by many
- It is more transparent and easily understandable by
the economic agents
Why deflation is bad
- Misallocation of resources
- Postponement of spending decisions
- Borrowers lose out
- Zero bound and policy making problems
Quantitative easing:
- Refers to the process through which the central bank inject money into
the economy through asset purchases, primarily gilts, in the open
market - As purchases of assets increase, the amount of cash and liquidity in the
economic system increases, stimulating spending and creating a
positive ‘wealth effect’, which may also encourage spending - The aim of quantitative easing is to encourage spending, keeping
inflation on track to meet the Government’s 2% inflation target.
Criticisms : quantitative easing
-Can lower the value of the currency
-Sometimes not effective to increase lending
-It can lead to inflation
-Has been criticised by the BRIC countries that it is
form of protectionism and currency war or competitive
Devaluation
Purpose of the NMW is to:
Raise the pay of low paid workers
Reduce inequality and poverty in the UK
Increase the incentives to work
Minimum wage
The lowest hourly wage rate that firms may legally pay their
workers
Minimum wage Rational :
Primarily effects the low paid and unskilled workers • To provide a living wage • To help the working poor • To reduce the inequality • To provide incentive for work
Binding NMW
Binding NMW- acts as a price floor, if higher than the
equilibrium
Under binding NMW
Under binding NMW – short end of the labour market
dominates
In a competitive model NMW;
NMW can have unintended impact on the equilibrium level of
unemployment
Increase in the quantity supplied of labour
Decrease in quantity demanded for labour
Firms substitute low skilled jobs with capital, if possible
Relocation to countries without wage laws and
Shortening working hours of labour
Reduces the contribution of labour in the economy
Resource misallocation
Define Terrorism
ü Use of violence is the first and foremost characteristics
ü The tactic of violence takes many forms and often indiscriminately targets
non-combatants
ü Terrorism differs from criminal violence in its degree of political legitimacy
ü Terrorism is designed to achieve political change for the purposes of
obtaining power in order to right a perceived wrong
ü Most disagreements on the concept of terrorism emerge from the
purpose and the root cause of the terrorism
ü Sympathetic to the terrorists view argues that violence is the only
remaining option to that can draw attention to the plight of the aggrieved
