Section 3 - policies

Question 1

What is fiscal policy?

Answer 1

Governments decisions about spending and taxation

Question 2

what is the difference between gov spending and revenue known as

Answer 2

budget surplus

Question 3

what are the two types of deposit made by banks?

Answer 3

• Retail deposits - made at branches of banks and building societies
• Wholesale deposits - much larger (one-off) deposits made by a company and probably involve negotiations over the rate of interest earned

Question 4

what is the money multiplier?

Answer 4

The relationship between the different definitions of money and changes in the monetary base

Question 5

what are the three main motives for holding money?

Answer 5

1) transactions motive;
2) Precautionary motive (ie. the need to met unforeseen events requiring money)
3) Portfolio or asset motive, where money is simply another financial asset with no (or low) risk and low return

Question 6

What are the 4 types of unemployment?

Answer 6

• Frictional
• Structural
• Classical
• Keynesian

Question 7

What is Frictional unemployment?

Answer 7

• Frictional – refers to individuals between jobs, or who are not easily employable because of physical or similar problems. (usually ignored by economists)

Question 8

What is Structural unemployment?

Answer 8

• Structural – refers to changes in unemployment due to changes in demand or production patterns over time. Such changes may require a would-be employee to retrain, relocate etc.

Question 9

What is Classical unemployment?

Answer 9

• Classical – exists because there is too high a level of the real wage, so the labour market is not fully adjusted.

Question 10

What is Keynesian unemployment?

Answer 10

• Keynesian – refers to a demand deficiency brough about by the lack of flexibility of wages and prices required to restore classical full employment.

Question 11

how is unemployment defined / measured in the UK?

Answer 11

the number of people registered as available for work divided by the total UK labour fource

Question 12

How is inflation measured in the UK

Answer 12

CPI - consumer prices index / CPIH which also seeks to measure housing costs of owner-occupiers

Question 13

What is inflation?

Answer 13

Inflation is a decrease in the purchasing power of money, reflected in a general increase in the prices of goods and services in an economy.

Question 14

what is deflation

Answer 14

reduction of the general level of prices in an economy.

Question 15

what are main causes of inflation?

Answer 15

Demand-pull inflation – aggregate demand growing faster than aggregate supply (growth too rapid)
Cost-push inflation – For example, higher oil prices feeding through into higher costs.

Devaluation – increasing cost of imported goods, and also the boost to domestic demand.

Rising wages – higher wages increase firms costs and increase consumers’ disposable income to spend more.

Expectations of inflation – causes workers to demand wage increases and firms to push up prices.

Question 16

What is Demand pull inflation?

Answer 16

If the economy is at or close to full employment, then an increase in aggregate demand (AD) leads to an increase in the price level (PL). As firms reach full capacity, they respond by putting up prices leading to inflation. Also, near full employment with labour shortages, workers can get higher wages which increase their spending power

Question 17

What is cost push inflation?

Answer 17

If there is an increase in the costs of firms, then businesses will pass this on to consumers. There will be a shift to the left in the AS.

Question 18

what is the European central bank’s target for inflation?

Answer 18

seeks to keep eurozone inflation below but close to 2%, whilst also supporting the economic policies of the EU member states - conducting foreign exchange operations and promoting smooth operation of the banking payment system

Question 19

what is the US federal reserve approach to inflation

Answer 19

Uses open market operations, discount rates and reserve requirements to influence the federal fund rate for long-term price stability and sustainable economic growth

Question 20

what is the approach of the Japanese central bank?

Answer 20

central bank law states that monetary policy should contribute to the sound development of that national economy through price stability

Question 21

what is quantitative easing

Answer 21

Occurs in times of financial crisis.

On the basis that interest rates cannot be reduced further to stimulate the economy through increased credit demand the central bank purchases financial assets, including government and corporate bonds, from financial institutions using electronic money.

This has the effect of raising prices of securities thereby lowering market interest rates for these securities and exchanging cash balances for these securities on the balance sheets of the selling institutions.

These institutions e.g. banks will therefore be adding to their cash reserves and thus create new lending. Institutions eg. pension funds will find themselves with excess cash and are supposedly more likely to buy new primary securities issued by corporations with investment needs

Question 22

what is debated around quant easing

Answer 22

debated as to whether it can lower market rates beyond the short term

Question 23

what are issues with quant easing

Answer 23

• been described as printing money

- has some historic association with subsequent high inflation

Question 24

what is forward guidance

Answer 24

a central bank commits to keeping interest rates at a certain level into the future. Often to a specific date of until some key policy variable such as unemployment reaches a desired level

The intention is to give economic agents some certainty about the future path of borrowing costs

Question 25

what is a difficulty with forward guidance?

Answer 25

circumstances can change quickly and make such guidance redundant in practice with an accompanying loss of credibility by the policymaker

Question 26

what is the concept of helicopter money

Answer 26

Form of monetary finance where the central bank finances fiscal stimulus through money creation.

Central bank prints money and distributes it to the populace, although the monetary expansion could be used to finance a different form of fiscal easing. Aims to boost nominal GDP by increasing overall spending on goods and services either by the government increasing its own spending and hiring or by increasing the private sectors wealth and so expenditure.

Question 27

list the three unconventional tools used by central banks to manage the economy

Answer 27

• Quantitative easing
• Forward guidance
• Helicopter money

Question 28

how does helicopter money work practically?

Answer 28

by the central bank providing money to the government which can involve:

• direct transfer into the government’s account
• buying government debt that pays no interest or principal, and/or government debt that is rolled over in perpetuity
• direct payment to the general population

Question 29

what do opponents of helicopter money / monetary finance argue?

Answer 29

that it may lead to political influence over central bank actions, potentially compromising central bank credibility, independence and ultimately effectiveness.

Could lead also to rising expectations for higher inflation and offer governments a way to avoid making timely but difficult political decisions

Question 30

what are arguments for helicopter money over QE

Answer 30

it is much more direct than relying on indirect QE

does not crowd out private investment by pushing up interest rates for borrowers

Question 31

What is Basel III

Answer 31

a new set of capital and liquidity rules for banks set for implementation in Jan 2022

these are a comprehensive set of reforms to improve the regulation, supervision and risk management of banks. The measures aim to improve the banking sector’s ability to absorb shocks, improve risk management and governance and strengthen bank disclosures and transparency.

Question 32

what are the two levels of improvement of Basel III

Answer 32

1. Micro-prudential or bank-level regulation to improve individual bank resilience
2. Macro-prudential or system-wide issues arising across the banking sector that should also be considered and protected against

Question 33

what did the financial crisis focus attention on in terms of banks?

Answer 33

bank liquidity management

Question 34

what is bank liquidity management?

Answer 34

the process by which banks meet obligations as they fall due.

Question 35

what will the new minimum level of liquidity rules in Basel III ensure?

Answer 35

that a bank has an adequate stock of high-quality liquid assets that can be converted into cash easily and immediately in private markets. This will help the bank to meet its liquidity needs for a 30-calendar-day liquid stress scenario.

The strategy is intended to improve the banking sector’s ability to absorb shocks arising from economic stress, whatever the source.

It should reduce the risk of spill-over into the wider economy from the financial sector

Question 36

what does net stable funding ratio require?

Answer 36

requires banks to maintain a stable funding profile in relation to their on- and off- balance sheet activities

Question 37

what does net stable funding aim to reduce the likelihood of

Answer 37

that disruptions to a bank’s regular funds will erode its liquidity position. In this way, it should also reduce the bank’s risk of failure which could lead to broader systemic stress

Question 38

what are changes in the ratio of debt (private) to GDP associated with?

Answer 38

growth or contraction in credit

Question 39

what happens if the ratio of debt to GDP rises too much?

Answer 39

a society becomes over-indebted and eventually cannot repay its loans. Thus, defaults occur and recession and unemployment follow