The UK and US Financials and Inflation Data - Research Paper Example

Lecturer: Introduction Budget deficit is when the anticipated expenses outweigh the anticipated revenue collection for a given financial year. This normally happens due to lack of proper budgeting process, occurrence of some unplanned (unforeseen) happenings among others. Inflation of the other hand describes the concept where the prices of commodities rise due to input of more money into the economy than there are goods or decline of production without the decline in the amount or currency in the economy. This paper seeks to evaluate the relationship between the budget deficit and inflation. Hypothetically, the relationship is that with a budget deficit, there is likelihood that the government may finance this deficit through printing of more money and pumping it into the economy. This leads to more money into the economy leading to inflation. Since this printing of money is not going concordant with production of goods and services. This concept is popular with developing countries where financial markets are not well developed to finance the deficit or when the public lacks enough confidence in the government of the day to invest in the government’s debt, or when the central bank is not independent and therefore easily manipulated by the government to finance its debts. Data pointing on the relationship between budget deficit and inflation are hard to come by since different countries give varying statistics. Some show a direct relationship while some do not hence this research. This research will use the statistics of the United States budget deficit and inflation and United Kingdom deficit and inflation. UK and US financials The united kingdom and the united states are considered to be relatively economically stable countries with independent central banks and relatively stable financial markets. This means the central bank is under no influence by the political class and financial markets may be used to finance budget deficits. This leaves the budget deficit and inflation as independent entities and it would therefore be interesting to see what other relationship there may be between the two concepts. Financial data of these two countries will be used in this paper. Budget Deficit or Surplus Data US Surplus or Deficit data The above graph shows the US deficit and surplus over a period of 20 years. The fluctuation over the years may indicate change in political environment and shift in policies. UK Surplus or Deficit data The above graph shows similar data over the same period of time but of the UK. The figures show huge variations between the two countries. It may seem the two are exact opposites of each other. For the rise of one over a given period, a fall of another within the same period is reflected. Inflation Data US inflation rates The inflation data chosen is of the same period of years, 1982-2012. The figures are also fluctuating over the years, this too may be due to changing monetary policies, and political era shifts. UK inflation rates The inflation figures between US and the UK are not as varied as the budget deficit figures. The figures seem to go in tandem with each other. This may be due to economic common factors that lead to such. The common factors may be global, bearing that the US and the UK control a significant portion of the world’s economy. Budget deficit/inflation figures US Budget deficit/Inflation The US budget deficit and inflation figures show a relationship between the two. A rise in one shows a rise in the other. This may indicate lack of full independence of the central bank. However, lagged the relationship may be, there is a relationship. UK budget deficit/Inflation The UK budget deficit and inflation figures show a more lagged relationship. The relationship between the two graphs is not reflective of an active relationship between the two figures. It may indicate a very independent central bank. However, it is important to consider the difference in the economic operation between the two countries. The US has independent states with a common federal financial institution while UK is more integrated. The relationship of the Budget deficit and inflation The hypothesis of this paper points to a relationship of the inflation and the budget deficit. This relationship however is largely dependent on the independence of the central bank and the development of the financial markets. The higher the two the lagged the relationship would be, the lower the two the more tight the relationship. Relationship with other micro variables Prices: inflation would lead to increase in prices of commodities Exchange Rates: Inflation would lead to weakening of the local shilling Interest rates: Increase in prices of commodities would lead to an increase in interest rates because of the devalued currencies. How the data would be used to test the hypothesis If there is a relationship between the budget deficit and the inflation data, the graph would indicate a rise and fall of inflation with a rise and a fall in the budget deficit data. Results The results of the data above indicate are not consistent with the hypothesis of this paper. The hypothesis that with an independent central bank and a well-developed financial market the relationship between the inflation and budget deficit would be direct with one affecting the other, budget deficit being the controlling factor. The results are inconsistent since the assumption is that the federal bank of US is independent and the financial markets are well developed, the relationship should be lagged as in the case of UK. This is however not the case as the data is significantly related. Reason for discrepancies between the two data The discrepancies between the data may be due to the level of independence of the central banks and the economic conditions of the two countries. Global financial situations seem to be affecting the countries in almost identical forms but the budget deficit offers a different view. Financial policies may also be a reason for the different data. The US, consisting of different states pose a different financial situation against the UK which is more integrated. Works Cited Government, Britich. Inflation eu. 12 November 2002. 11 December 2013 . States, United. Whitehouse. 4 November 2002. 11 December 2013 . Read More