Macroeconomic Policies of the United Kingdom - Essay Example

Running Head: Macroeconomic policies of United Kingdom Macroeconomic policies of United Kingdom [Institute’s Macroeconomic policies of United Kingdom Introduction Economists and experts regard United Kingdom as the sixth largest economy of the world based on market exchange rates and nominal GDP (International Monetary Fund, pp. 1-23, 25-27, 123-212, 2009), seventh largest when purchasing Power Party (PPP) is taken into account. In addition, it is also the third largest economy according to the market exchange rates in Europe after Germany and France (Bank of England, pp. 5-37, 2009). History remembers United Kingdom as the first industrialized country of the world and the super power of the world in most of the 19th and 20th century. The United Kingdom’s economy is still a significant influence over the global economy because of the fact that London and United Kingdom is one of the biggest financial centers like New York and Tokyo (Bank of England, pp. 5-37, 2009). However, this economic giant was wounded badly when it was hit badly by the recession that started in the year 2006 or so and still United Kingdom’s economy is trying its best to get out of it. The government of the United Kingdom has been making quite a few efforts for the same and this paper focuses on these efforts and their outcomes. Discussion Since the emergence of this global recession, the efforts of the United Kingdom’s administration have been mainly concentrated on the theories of John Maynard Keynes, who was a British economist himself (Poterba, pp. 74, 2007) (Mankiw, pp. 152-184, 2002). Despite the fact that many other approaches were in front of the government and Bank of England for consideration for example the classical approach, Monetarist approach, neo-classical approach and others (Jones, Kavanagh, & Moran, pp. 74-102, 2007) (Wessels, pp. 123-128, 2006). The Keynesian approach gives a clear plan about how to get the economy out of any recession. Keynes strongly believed that there is no invisible hand that would fix the economic conditions over the period (Dernburg, & McDougall, pp. 198-211, 1976). That is why the government should interfere in some serious ways to change the situation (Blanchard, pp. 235-249, 1997). In the demand side economy of Keynes, he states that the aggregate demand of any economy consists of four central factors and those are Consumption, Investment, Government Spending, and Net exports (Sawyer, pp. 23-25, 2005). Keynes believed that one of the major causes of recession is deficiency in aggregate demand and this deficiency is reversible by altering one or all of these four factors. Moreover, if government gets success in doing it so then it can make a peaceful transition from recession to economic boom (Dernburg, & McDougall, pp. 198-211, 1976) (Budge, McKay, Newton, & Bartle, pp. 53-88, 2007). It is also important here to note that two most widely used indicators of economic position of any country are level of employment and inflation rate. If an economy is witnessing high levels of employment and low and stable inflation then it is a growing and prosperous economy and vice versa (Krugman, Wells, & Olney, pp. 125-149, 2006). The Bank of England is following the footsteps of the same theory as stated above. Past data and statistics suggest that the GDP or the overall output of United Kingdom witnessed a downward trend right from the year 2007. According to the figures provided by International monetary fund, the GDP of United Kingdom based on the current prices touched its peak of 2800.11 billion US dollars in the year 2007. In the preceding year of 2008, the GDP on the same scale fell down to 2680 billion US dollars (International Monetary Fund Staff, pp. 12-78, 2008). It is expected that for the year 2009, it will be somewhere around 2198 billion US dollars (International Monetary Fund, pp. 1-23, 25-27, 123-212, 2009). In addition, despite the fact, the GDP level touched its peak in the year 2007 but it is vital to note that for the year 2007 the annual percentage change in it fell down to 2.559 percent from the level of 2.853 percent for the year 2006 (European Central Bank, pp. 12-31, 2009). With regard to the unemployment rate, a very similar kind of picture is there. The unemployment rate in United Kingdom was 5.39 percent of the total labor force in the year 2006 and 2007. However, situation turned into a nightmare after wards. In the year 2009, unemployment rate increased to 7.646 percent and it is expected to touch the level of 9.333 percent in the coming year (Bank of England, pp. 1-14, 2009). The level of more than 9 percent unemployment rate is unusual because this much high level of unemployment has not been on the chart since the year 1994 (European Central Bank, pp. 21-49, 2005). Investment levels also fell sharply after the year 2007. In 2007, they touched their peak level of 18.283 percent of GDP and after that; a sharp decline has been witnessed. For the current year, they are at the level of 13.655 percent of GDP (Bank of England, pp. 1-14, 2009). However, predictions have been made that they will increase to the level of 14.137 percent in the next year but still a lot needs to be done to get this level back to track (International Monetary Fund Staff, pp. 12-78, 2008). It is however interesting to note that the savings level have fallen as well: from the level of 15.265 percent of 2008 to 11.62 percent of the year 2009 (International Monetary Fund, pp. 1-23, 25-27, 123-212, 2009). Since we have now built the overall picture of the situation, it would be good enough to divert our attention towards the main topic and requirement of this paper. As stated earlier that since the British government has all the faith on the Keynesian economics, they have been very active to control the situations with their power (McConnell, & Brue, pp. 253-258, 2002). Now it is important to highlight the area of control or influence of government. The government cannot directly alter the overall GDP, employment level, or inflation levels of the economy. However, it can make some vital changes that have in long run, effects on all these elements. Interest rates, Investment levels, Net exports, government spending, money stock, and others are some of the variables that are under the governmental influence directly (Hall, & Lieberman, pp. 264-281, 2003). One of the earliest moves the government made was regarding decreasing the interest rate. In the year 2007, the interest rate were touching the levels of around 5.75 percent and surprisingly the government has been forced to drop down the interest rates to the level of 0.5% to this date, which has been the lowest in the history of United Kingdom (Bank of England, pp. 5-37, 2009). It is significant here to understand the concept of altering interest rates and its effects on the IS-LM curve. Lowering the interest rate has a multiplier effect (McConnell, & Brue, pp. 23-51, 2005). When a recession hits the market, it forces people to decrease their spending and live with lower levels of income (Dernburg, & McDougall, pp. 198-211, 1976). This in turn decreases the overall money spending of the economy (Burda, & Wyplosz, pp. 23-156, 1993). According to the bank of England, the current money spending level is at negative 2 percent annual change level, (Bank of England, pp. 1-52, 2009) which seems to be the lowest since 1980 (European Central Bank, pp. 21-49, 2005). When money-spending decreases it means that consumption, investment levels are decreasing, and we have statistical proves for that as well. This creates a deficiency in aggregate demand, which leads to a serious recession (Organization for Economic Co-operation and Development, pp. 24-35, 2006). Now even a nonprofessional can understand that it we go back in reverse way to this chain then we can reverse this process. By decreasing, the interest rate to such a drastic 0.5 percent the bank of England is strongly forcing people to take their money out of the banks and inject it in the economy by investing it (Bank of England, pp. 1-14, 2009). Obviously, no individual would like to lend its money to any bank on such a small yield. He or she would obviously find it more feasible to invest its money some business, even if that business is only giving him the result of breakeven (Pelaez, & Pelaez, pp. 24-29, 2007). On the other hand, it also forces people to borrow money from bank because they interest rate is so low that they will only have to pay back small percentage of the interest factor (Rubinstein, pp. 42-46, 2006). This would in turn result in higher investments from the private sector since they can borrow money from the bank on a very low cost of borrowing (Arnold, pp. 231-245, 2008). This attracts more investment and by this way, the authorities can at least make up for the deficiency in the investment part of the aggregate demand (Arnold, pp. 231-245, 2008). Now the question is that if the government is so concerned about the consumption, spending and investment levels of the economy and if all of these are depended on the money supply then why does not the Bank of England or European Central Bank increase the money supply by increasing the printing of notes (European Central Bank, pp. 12-31, 2009). Despite the fact that this is also an option but according to the reports published by European Central Bank and the Bank of England, the experts of United Kingdom do not seem to be interested in this approach (European Central Bank, pp. 12-31, 2009). This is because of the fact that this can lead to some serious higher levels of inflation. The government just cannot afford inflation because it can make the recession even worse. What the government is aiming at is 2 percent inflation since they believe that “stable inflation promotes a healthy economy” (Bank of England, pp. 5-37, 2009). The question is still there that how will the government reduce the inflation and bring it to the 2 percent mark without increasing the money supply by printing more money. The bank of England has chosen an interesting approach. This approach is to print more money but not to directly inject it in the economy but the authorities have decided to buy private sector assets from that new printed money. This is the reason why International Monetary Fund predicts that the investment levels in the next year would increase by 1 percent since the government is interfering to increase it (International Monetary Fund, pp. 1-23, 25-27, 123-212, 2009). The government will witness a couple of immediate results by the purchase of private sector assets. Firstly, this sudden purchase of private sector assets would increase their prices and business would restore there. Secondly, in an indirect way, the government would achieve its target of injecting money into the economy (Bank of England, pp. 1-14, 2009). In addition, if we view both of these actions together then it seems that they have the capability to decrease the cost of borrowing, increase the total wealth of people and increased banks reserves, which in turn would result in increased bank lending (Dornbusch, Fischer, & Startz, pp. 235-289, 2004) (Bank of England, pp. 1-52, 2009). These all actions would have a multiplier effect on increasing the economic activity in terms of spending and income of individuals. Moreover, the government of United Kingdom has also shown its faith that by announcing a bailout package on the way the US government did they would be able to improve the situation. United Kingdom’s Prime Minster Gordon Brown announced 400 billion euros or 692 billion US dollars in the last months of the last year (BBC News, pp. 1, 2008). The government is hoping that by this action, they would not only rescue banks, but also they would also prevent any Layman brother type incident. In addition, if banks would have greater money then it would mean they could easily lend this money to people on a lower interest rate (Barnett, Oomen, & Bell, pp. 12-56, 2009). References Arnold, Roger A. (2008). Macroeconomics. Cengage Learning. Bank of England. (2009). Inflation Report: November 2009. Bank of England Publishers. Bank of England. (2009). 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