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Macro12C - Essay Example

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Q1: Did Reagonomics work? Reagonomics refers to the economic policies implemented by President Reagan during his term from January 1981 to January 1989. According to William A. Niskanen, one of the members of President Reagan's Council of Economic Advisers, the policy had 4 key pillars upon which it was based: 1) a restrictive monetary policy designed to stabilize thevalue of the dollar and end runaway inflation 2) a 25 percent across-the-board tax cut enacted (The Economic Recovery Tax Act of 1981) designed to spur savings, investment, work, and economic efficiency 3) a promise to balance the budget through domestic spending restraint 4) an agenda to roll back government regulation…
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Download file to see previous pages The unemployment rate reached a minimum of 5.5% from 7.5% at the start of term of President Reagan. The real median income for families increased to nearly $41,000 at the end of term; this was significantly higher than 10 years before and 10 years after President Reagan’s term. Inflation touched a minimum of 2% in 1986 and ended at 5% in 1989 compared to 11% at start of term in 1981. The growth of government spending was 1% during president Reagan’s term compared to 3.5% before him and 4.5% after him. Real income tax revenues increased by 16.3% even after top income tax rate had been reduced from 70% to 50% in 1983 and to 28% in 1986. The nominal federal revenues increased from $517 billion in 1981 to $1.031 trillion in 1989. On the downside, however, Reaganomics was used when US was at peace at the time, yet the national debt increased from 26.3% of GDP in 1981 to 42.3% in 1989. Secondly, the savings rate fell from 8% to 6.5% during president Reagan’s term as a result of his economic policies. Thirdly, the rich got even richer and the poor got even poorer. Reaganomics largely believed that if more wealth was given to the rich, they would re-invest this money, which did not really happen. Given the positive and the negative outcomes of Reaganomics, it can be said that while Reaganomics did work well for the years it was in force, it wasn’t a very sustainable economic policy as it relied mainly on increasing national debt to cover for the economic growth. Q2: Show graphically the effects on macro economy of a sharp rise in OPEC oil prices in a. the short run. b. the long run. How do you account for the differences in your answers to parts a and b? A sharp increase in OPEC oil prices occurs due to a supply shock that is a sudden drop in supply of oil. Below figures show its effects in the short and long-run. Short-run effect of a sharp increase in oil price is illustrated in figure 1 below: Figure 1. Short-run effect of Sharp increase in oil prices In the short-run, the supply shock causes price levels to increase due to inflation caused by high oil prices not only on oil dependant industries but also on transportation of goods and services. This leads to a drop in total output as well as price levels have increased but the wages have not in the short-run – leading to stagflation. Thus, the short-run effect is an increase in price levels and a decrease in total output. Figure 2. Long-run effect of a sharp increase in oil prices Due to increase in inflation in the short-run, unemployment starts to increase. Wages start to decrease. This leads companies to start hiring people. Also, the short-run effects bring about economic policy changes by the governments that are targeted to increase the output and to reduce inflation – which could be an increased government spending and/or decrease in interest rate. As the inflation comes under control, the real wages start to increase. This leads to an increase in demand in the long-run and the net effect is that ...Download file to see next pagesRead More
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