Economics help blog – Page 200

More on Quantitative Easing and Inflation

18 November 201728 September 2012 by Tejvan Pettinger

Recently, I posted about the current fall in M4 lending in the UK. The concern is that fears over possible future inflation are preventing decisive action to promote economic recovery. But, these fears are misplaced. The fall in M4 lending in the UK is a sign of a fundamental weakness in demand. Given this weakness, …

Just a little more austerity, please

15 August 201827 September 2012 by Tejvan Pettinger

There’s a wonderful Monty Python sketch where a waiter asks a fat man, ‘just a wafer thin mint, sir?’. On taking this wafer thin mint, the fat man (Mr Creosote) explodes. It feels a little like that with European austerity (except in reverse). Countries in the periphery implement austerity, and the economic situation deteriorates. This …

Dealing with diminishing crop yields

1 February 202026 September 2012 by Tejvan Pettinger

Readers Question: if the production of food crops is increasing at a diminishing rate what factors of demand can reverse this trend. Increasing at a diminishing rate implies that agricultural output is struggling to grow – despite more fertilisers and capital investment. Diminishing returns means that as we employ more factors of production – the …

Purpose of Monetary Policy

18 November 201725 September 2012 by Tejvan Pettinger

Recently, there has been much debate about the direction of monetary policy. Should we make monetary policy ‘looser’ – expansionary monetary policy through quantitative easing / lower interest rates in order to boost growth and reduce unemployment. Or should we consider ‘tightening’ monetary policy – higher interest rates, no quantitative easing in order to reduce inflation

Most economists would agree monetary policy involves

Maintaining a low and stable rate of inflation.
Promoting sustainable economic growth and low unemployment.

These two economic goals may not sound too controversial. But, there is a big debate about which goal is more important, and whether we should ever sacrifice a strict inflation target to pursue higher economic growth.

To some economists, the overriding target of monetary policy should be low inflation. They argue that if the Central Bank targets low inflation, then that provides the optimal environment for long-term economic prosperity. If the Central Bank starts targeting economic growth and ignoring inflation, then there is a danger that the Central Bank will lose credibility. The economy will end up with higher inflation, without any long term boost to economic growth. Furthermore, if you allow inflation to increase, this increases long-term inflation expectations and, in the future, it will be more difficult and costly to keep inflation low.

This is essentially the view of the German Bundesbank, and by and large the European Central bank.

If you look at an economic boom, such as the late 1980s in the UK, in this case inflation was allowed to rise as the UK pursued a higher than usual rate of growth. However, it later proved unsustainable and we had a boom and bust.

If low inflation is seen as primary economic goal, then:

Quantitative easing is seen with great distaste as there is the possibility of future inflation.
There should be no flexibility over the inflation target. E.g. even temporary cost push inflation should be a matter of concern, over fears that the higher inflation could change expectations and lead to permanent inflation.
There is an unwillingness to use monetary policy to boost demand and hasten economic recovery.
The solution for high unemployment and negative growth tends to be:
Supply side policies to increase competitiveness
patience, allowing market forces to invest, encouraged by macro economic stability of a low inflation environment.

M4 Lending and Growth Statistics 2012

20 January 202025 September 2012 by Tejvan Pettinger

M4 Definition

M4 is a broad money supply measure. Briefly, M4 includes all notes and coins in circulation, deposits at banks and building societies, plus assets which are considered relatively liquid (short-term bonds, commercial paper)

M4 growth is currently negative. M4 lending to private sector is currently 6.0% lower compared to past 12 month (July 2012)

Within this growth of M4, there have been different trends. As this article at FT shows, a major contributor to M4 growth in period 2009-11 has been the impact of quantitative easing (Could UK Money Supply collapse post Q.E ?).

M4 Lending Deposits

m4 lending

M4 net lending (Bank of England code: LPMVQJY) from financial institutions to the private sector has shown negative growth since July 2010.

Key Issues Affecting UK economy 2012

20 January 202018 September 2012 by Tejvan Pettinger

What are the key issues affecting the UK economy over the next few years? Recession and Recovery The biggest problem facing the UK economy is the lack of economic recovery. After a fall in GDP of 6% in 2008/09, the economy briefly recovered, but the recent double dip recession of 2012 has left the UK …

Trends in Public Sector Employment UK

20 January 202014 September 2012 by Tejvan Pettinger

Between 1999 and 2008, there was a rapid growth in public sector employment in the UK. This mirrored a sharp increase in government spending (see: post on spending under labour.)

The justification for the increased public sector employment was to deliver better service in the NHS. However, critics argue that the increase in public sector employment reflected growing bloat in the civil service and management divisions of the NHS.

Since 2009, shortly after the recession began, public sector employment has fallen quite considerably as the government have looked for spending cuts and trimming back previous excesses. Critics of these austerity measures argue that to reduce government employment in the middle of a recession, with falling output and confidence has made the recession worse and prevented unemployment from coming down. However, others point to the (relatively small) growth of private sector employment as a justification for cutting surplus government jobs.

uk public sector employment

Hayek on Eurozone Crisis

10 January 201812 September 2012 by Tejvan Pettinger

This is an article published in the LSE about the Austrian view of the Eurozone crisis ‘The Work of Hayek shows why EU governments can’t spend their way out of problems‘

I’ve attempted to summarise the article, but I advise reading it for yourself:

The recent boom and bust was caused by artificially low interest rates and capital flows which caused an inefficient use of resources.
The current period of high unemployment and low interest rates means there is much idle capital and labour unused – waiting to work out how best to be used. (analogy use of jigsaw pieces waiting to be put together by the market)
Governments always lack the knowledge of how to efficiently make use of these resources, but instead will choose the most electorally popular types of government spending. Therefore, if the government spends money it will inevitably go on the wrong areas of the economy and just make things worse. Therefore, the government shouldn’t intervene.
So what can we do? Allow private enterprise to decide how to use these idle resources. The only thing we should do is remove barriers to enterprise and competition, e.g. cut regulation, taxes and state intervention. In a free market, the price signals of profit, loss and prices will enable a return to market equilibrium and full employment. It may take time, but it will happen eventually.
‘Before the advent of Keynesianism, most recessions were very short lived as producers were left free to shuffle the jigsaw pieces into better combinations’

Some things struck me about the article.

There is a lack of specific examples relating to the current crisis. It is hard to find any examples of a country where government spending has fallen and there has been impressive economic recovery. In fact, the opposite seems to happen, with the deepest recession in those countries with harshest austerity policies.
The main argument seems to be the unwavering faith in the inevitable failure of any type of government intervention.
The idea that before the advent of Keynesianism most recessions were very short lived is highly dubious (to be polite). It inconveniently ignores (for example):

The Great Depression (1929-37) The great depression did last a long time. The Great Depression only really ended when countries embarked on Keynesianism (mostly in form of military spending). Those countries who embarked on military spending ended recession earlier than others.

The recession of 1815–1821. widespread

foreclosures, bank failures and negative market sentiment.

The tendency to lump all government intervention together is lazy. Keynesianism doesn’t advocate tariff barriers. To impose tariff barriers can contribute to an economic downturn, but just because tariffs can be harmful doesn’t mean it is wrong to pursue countercyclical fiscal policy. It is a very different type of government intervention.
Keynesianism isn’t about bigger government. A feature of the Keynesian fiscal policy is that it should be countercyclical. For example, in this piece Simon Wren-Lewis argues that EU fiscal policy was too loose in the run-up to the 2008 crisis.

” In my view, fiscal policy in many Eurozone countries outside Germany was insufficiently tight before 2008, but for most not because it implied a build-up of government debt. The problem was that private sector demand was too strong, encouraged by large capital inflows from abroad and real estate bubbles