Monetary Economics - Research Paper Example

Monetary Economics Monetary Economics The governments all over the world strive every day to eradicate inflation. In economics, inflation is the general increase in the price level of goods and services in an economy over a period. The macroeconomists and policymakers are the primary regulators of the economic situations in the country. According to Seefeldt et al. (2013), inflation usually triggers the state of economic recession. A recession is a scenario where the level of economic activities declines across a country, lasting more than a few months.

It is usually noticeable in the real Gross Domestic Product (GDP), real income, employment, industrial production and the whole retail sale. The policy frameworks regulate the nation’s inflationary level to attain an environment conducive to economic prosperity. Economists argue that it is impossible to have a zero level of inflation at any given time. One way of managing inflation is by the use of monetary policy, and this is a function of a country’s central banks. Besides financial interventions, the economy can also apply fiscal policies as Bivens (2011) stipulates.

Interestingly, the paradigm of shift arises. That is, and inflation has a positive implication in the economy. The great macroeconomists dispute an individual level of inflation below which economy would not perform efficiently. Following the great depression experienced in the U.S between 2007 and 2009, economists observed and changed their usual approaches to inflation. The U.S experienced a series of failures in the banking sector that resulted in a prolonged recession. That was the worst financial crisis since the Great Depression and caused a massive rise in the federal budget deficit.

In 2006 and 2007, many larger American housing institutions heavily invested in mortgages, which led to a steep deterioration in their bank balance sheets (Berger and Pär, 2008). The government bailed affected institutions that fall. However, while government involvement barred the collapse of the banking system, it did little to reestablish financial growth. Hence, the U.S. entered a deep recession in December 2007. Although the National Bureau of Economic Research concluded that since the recession ended in June 2009, regaining has been modest with the American economy undergoing slow economic growth and high unemployment.

Consequently, the gradual recovery placed pressure on the federal government’s expenditure: slow growth has declined tax revenues. Although the recession began in American, the financial crisis had worldwide effects. Davis on his journal, IMF Tells Bankers to Rethink Inflation (2002) discuss that Economic globalization meant that many non-American investors were equally affected by the depression that started in the U.S. Financial markets deterioration adversely had an impact on markets that negatively affected institutions and individuals abroad.

There were growing fears about public debt levels caused by effects of the crisis. According to Bivens (2011), the crisis resulted in sovereign debt crises that subsequently erupted in Greece and Ireland, in 2010. Blanchard, Giovanni and Paolo (2010) argue that there is not much variance in keeping inflation at 2% or 4%. Tax brackets could be flexible to adjust higher inflation, but do not push taxpayers into higher rates. The Inflation-adjusted bonds could protect investors. Blanchard further explains that the government should embark on the system of a self-adjusting economy for stability (Bivens, 2011).

The automatic stabilizers would increase spending or tax cut may trigger a recession. The classical group of economists argues that the stabilizer is unemployment insurance, where the spending increases spontaneously as more workers become jobless. The government should resolve unemployment by initiating programs that have the more ‘bang for the buck’. The economists argue that the automatic decline in taxpayer bills when GDP reduces by a given percentage would restore the equilibrium to the economy.

During recession, it is presumed that the average pay should adjust to relatively lower levels. As unemployment rate increases, workers would be positioned to accept lower wages and as the compensations drop, employers would be more willing to hire new employees (Berger and Pär, 2008). The employer-employees scenario of payment balances and willingness to accept the prevailing wage bills work to control the recession. In most cases when employees become uncompetitive and unproductive, the central bank has a responsibility of devaluing the currency.

The devaluation of the currency would have the impact of reduced wage bills thus the correction of the excessive spending on wages. Macroeconomists theorized that wage bills were inversely proportional to wage rates; that is, the increase in inflation at a constant compensation countrywide reduces the wage bill by the same rate of inflation increment. It is quite true that at a low inflation, employees would have to sacrifice their wages by accepting wage cut, which may not be practical because nobody would wish to take a wage cut for macroeconomic implications.

Employees would rather let the inflation correct the problems of payment but not directly involving in a cut of their salaries. Economists categorically state that for any employment to occur, some level of inflation must prevail in an economy. It would be fair for a state to maintain inflation at some levels in order secure employment opportunities. Economically, steep inflation provides workers with the perception of having equitable treatment. The existence of equality is impracticable in a perfect competition economy, but at least for workers to engage productively in economic activities, they need equal treatment.

Creeping inflation is, usually, characteristic of large gaps in income margins, which portrays dangerous pay inequity. Inflation, therefore, can virtually console workers even in worse economic scenarios similar to the recession. From the economic perspective, there is a logical understanding in tolerating high inflation during an economic recession. A speedy wages adjustment promotes faster end of the recession and a high inflation rate would allow wages to adjust downward even if the employers keep the nominal pay flat.

Remarkably, the increase in the inflation target of 4%, dating from 2008, would induced a faster and stronger recovery as compared to the one that currently prevail. Inflation may have a positive impact that causes self-adjustment of an economy as long as depression is a factor. However, it has certain cost to the society. The economy experiences higher prices of goods and services, losing the market share in the global market and little investment as the bank would raise the minimum borrowing rates.

The country with high inflation level would have an imbalance of trade. Goods produced locally will deem expensive in the international market thus discourages export (Davis, 2010). The foreign traders would not buy from the state with high inflation because their goods are comparatively expensive in relation to other countries’ goods. The bank rates do inflate during the inflation. The higher borrowing rate discourages borrowing, which has adverse impacts on investment. People would rather decide to invest in other countries with relatively low bank rates.

Blanchard, Giovanni and Paolo (2010) maintain that the low borrowing rates attract many investors acquire money from the financial institutions and invest in different sectors of the economy. The general cost of living would go up as the cost of commodities would go up. People would dig deeper into their pockets to purchase goods and services. The prices will inflate, and the majority of the citizens may not afford essential services. In conclusion, the crisis compelled policy makers to formulate various strategies that would counter its effects.

The government pressurizes Central Banks to deal with inflation forth will. Although, the macroeconomists argue that inflation is necessary during depression and recession. The government should execute the stabilization mechanisms that would allow self-correction of equilibrium. Inflation might have some effects in the society due to the challenges following currency devaluation as Davis put it in his wall street journal. However, when succinctly analyzed in an economical manner, inflation may be beneficial to solving economic issues such as a recession.

Devaluing the currency also encourages employment indirectly as workers perceive higher wages and employers concur with offering such payments. References Berger, Helge and Pär, Österholm. 2008. "Does Money matter for US Inflation? Evidence from Bayesian VARs." IMF Working Paper. https://www.imf.org/external/pubs/ft/wp/2008/wp0876.pdf Bivens, Josh. 2011. Failure by design: The story behind Americas broken economy. Cornell University Press. Blanchard, Olivier, Giovanni, Dell’Ariccia, and Paolo Mauro. 2010. "Rethinking macroeconomic policy.

" Journal of Money, Credit and Banking 42.s1: 199-215. Davis, Bob. 2010. "IMF Tells Bankers to Rethink Inflation." The Wall Street Journal. (February 12). http://www.wsj.com/articles/SB20001424052748704337004575059542325748142 Seefeldt, Kristin., John D. Graham., Gordon, Abner and Tavis, Smiley. 2013. Americas Poor and the Great Recession. Bloomington, Indiana: Indiana University Press.