The Global Economy: An Austerity Measure - Assignment Example

?Introduction An austerity measure can be defined as the official action taken by the government that aims to reduce the amount of government expenditure or the amount that is spent by the people (Jackson, 2011. p.3). The reciprocal circulation of income between the producers as well as the consumers is referred as the circular flow of income. From the circular flow of income the following equation is derived: Leakages=Injections (Tucker, 2010, p.429). i.e. S+T+M=I+G+X where, S= net savings, T=net taxes, M= import expenditure, I=Investment, G=government expenditure, X=export expenditure. It following equation can also be derived from the above: (S-I) + (T-G) = (X-M). If the value of the left hand side of the equation is negative, then it must have been financed from somewhere. The right hand side of the equation denotes the current account balance. Therefore, (S-I) + (T-G) = (X-M) + foreign savings The essay will try to evaluate the austerity measures followed by the European Union and the spending on public works of China and the control of the country over bank lending. The essay will also take into consider how successful or failure such kind of measures have been for the countries with reference to the circular flow of income. EU austerity measures The direct result of the financial crisis that was faced by the European Union was the rise in public indebtedness. The financial crisis ensued into a sovereign debt crisis in some of the countries of the European Union in 2009. The forces favoring austerity got stronger. In the middle of the year 2010, an intervention package aimed to rescue the banks as well as stabilize the financial market was introduced within the euro zone not only for countries which were suffering from the crisis but also all other countries as well. The intervention package was accompanied by imposition of the packages of austerity. The introduction of the measures of austerity reintroduces the socioeconomic regulation model at the EU level which was endorsed before the crisis emerged in the scenario. However some of the accounts were under the opinion that reversal of the measures of austerity taking the current circumstances into account will only tend to trigger the spending in public expenditure, wages as well as consumption as that would compress the level of aggregate demand through reductions in those levels of spending. The resultant will be deeper recession within the Euro zone. The rising opposition against the measures of austerity put serious doubts on the long term political sustainability. The detrimental effects of the measures in the long term cannot be overestimated even when the measures were successful. The measures of austerity would be successful in order to generate monetary policy but the social inequality will get deepen as the result of the measures. The intensity of the crisis encountered by the Euro zone will get intensified (Vural, 2011, p. 260). The government of Austria announced that the country would be able to hit the targeted three percent of GDP in the year 2011 for the deficit in the budget. The austerity plan of the country includes an anticipated income of more than 1.6 billion dollars from the increase in taxes. The remainder of the plan includes an anticipated cut in spending by 1.6 billion Euros. This type of actions will allow the new investment of 400 million Euros in the fields of research as well as education and projects of energy efficiency. The austerity measures of Bulgaria aimed at reducing the budget deficit at 2.5 percent of GDP in the year 2011 while it was aimed at 4.8 percent in 2008. By reducing the funds to almost all the ministries of the government the plan aimed to reduce the spending by about 584 million dollars in the last year. The public sector jobs would get reduced by 10 percent and the wages will be fixed for three years. The country of Denmark aimed at reducing the government spending by 4 billion dollars in the course of three years which would lower the deficit to less than three percent of GDP. The cuts included the unemployment benefits lowered to two years, thousands jobs were lost in the public sector and the child benefits were cut down by five percent. In France, the budget aimed at reducing the deficit to around 6 percent of GDP in the last year. The income taxes paid by the highest income group rose up by 1 percent and if the plans are properly implemented the government will be able to save 45 billion in a year over the next three years. Some of the other European nations were also following the austerity plans which were aimed to reduce the government spending and increase the level of taxes (Pietras, 2009). China’s public works spending and control over bank lending The implementation of the projects aimed at increasing the employment opportunities as well as income of the participants in the projects. This impact can only be regarded as the short term effects on the level of income. The participants make investments using the earnings of the project or purchase additional production inputs. This further intensifies the level of income. The community infrastructure improves after the projects are completed and provides the foothold for the participants to enjoy the incremental income in the future (Ling, Zhu and Jiang, 1996, p. 117). The government of China announced plans for massive public works spending in the month of November, 2008. It also announced the plan of expanding the health care facilities provided by the government with the goal to achieve unilateral coverage in the year 2011 (Bartholomew, 2009, p. 42). The economy of China has been propped by stream of subsidies from the part of the state disguised as commercial bank lending for the past 30 years. In the last year it became evident that the amount of lending has risen to such a level that exceeds the anticipation of the economists and the economy of the country can fall under serious threats. The economy might just lack the potential to close the floodgates. The central bank of china announced that the lending in China has dropped by around 15% in January last year. The non-bank financial institutions pumped in a significant amount into the economy and the Chinese banks overshoot the ceiling of lending for 2010. The nonperforming loans constitute the unavoidable byproduct for the economy of China. This system is predominant from the beginning. In order to keep the Chinese goods competitive in the market, the banks funneled loans to the business particularly to the state owned enterprises which will create artificial margins of profits (Genzberger, 1994, p. 52). The economy has already witnessed a major crisis in nonperforming loans which forced the government to bail out the banks. The continuous surge in the lending is creating an overcapacity which is generating new nonperforming loans and weakens the balance sheets. The government is forced to increase the printing of yuan due to the non convertibility of the currency. The aim behind such action is to sterilize the inflows of foreign exchange. The inability of the country to control the lending of the banks has given rise to inflation. The economy is getting overheated. The lending of the banks have been manipulated by the government for years and The micro economic management can be held responsible for the country to avoid the effects of the global recession. Until and unless the country moves towards liberalizing the rates of interest and allow the banking system to react to the actions of the market, the future looks gloomy (Wedeman, 2012, p. 37). Efforts were laid down to establish commercial criteria in Lending. Yet despite the efforts the banks of the country continued to act for the extension of the treasury. The primary task being channelization of the savings to the state owned enterprises instead of channelizing them to the creditworthy customers. The banks were also expected to crop in more profits that would offset the shortfall of the central budget at the same time (Gregory, Tenev and Wagle, 2000, p. 42). Conclusion The resultant of the measures of austerity is decline in the standards of living for most of the population. In the year 1996, the minister complained publicly that it is not possible to justify all the austerity measures simply because of the requirements of the integration of Europe (Andor, 2000, p. 140). The austerity measures may have the potential to become successful in the short run but will weaken the support of the public for the integration of Europe considerably. More spending on public works is likely to enhance the income as well as savings of the participants and so the liquidity of the economy will increase. If people have more money in their hands they will defer away from the lending of the banks. The level of investment will take the upward rising curve as the participants will divert the savings into investment and therefore, the left hand side of the equation of the circular flow model will yield a larger value. Reference Vural, I. 2011. Converging Europe. Available at: http://books.google.co.in/books?id=VXd3XHxzYp4C&pg=PA260&dq=austerity+measures+in+european+union&hl=en&sa=X&ei=dYrIT6ruKcH5rAfbt7ibDg&ved=0CDUQ6AEwAA#v=onepage&q=austerity%20measures%20in%20european%20union&f=false. [Accessed:1st June, 2012]. Pietras, J. 2009. Austerity Measures in the EU - - A Country by Country Table. Available at: http://www.europeaninstitute.org/Special-G-20-Issue-on-Financial-Reform/austerity-measures-in-the-eu.html. [Accessed:1st June, 2012]. Tucker, I. 2010. Economics for Today. Available at: http://books.google.co.in/books?id=_GeHxvDMI6AC&pg=PA428&dq=circular+flow+model&hl=en&sa=X&ei=VJrIT5zNNMTTrQee5_nGDg&ved=0CEUQ6AEwAQ#v=onepage&q=circular%20flow%20model&f=false. [Accessed:1st June, 2012]. Jackson, J. 2011. Limiting Central Government Budget Deficits: International Experiences. Available at: http://books.google.co.in/books?id=hkGyaKi2F44C&pg=PA3&dq=austerity+measures&hl=en&sa=X&ei=ppvIT9iyF460rAfusci_Dg&ved=0CEMQ6AEwAg#v=onepage&q=austerity%20measures&f=false. [Accessed:1st June, 2012]. Ling, Z., Zhu, L. and Jiang, Z. 1996. Public works and poverty alleviation in rural China. 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Taiwan Business: The portable encyclopedia for doing business with Taiwan. Available at: http://books.google.co.in/books?id=8mvN1Dc_jtAC&pg=PA52&dq=public+works+spending+and+control+over+bank+lending+in+china&hl=en&sa=X&ei=W6nJT5iaNIbWrQefy8CkDg&ved=0CEMQ6AEwAg#v=onepage&q=public%20works%20spending%20and%20control%20over%20bank%20lending%20in%20china&f=false. [Accessed:1st June, 2012]. Read More