3. “Good regulation is the key to a successful economy.”

Contents

Introduction.. 2

Factors in the regulation of an economy. 3

Conclusion.. 4

References. 5

3. “Good regulation is the key to a successful economy.” Discuss.

Introduction

The aim of the use of effective regulation system can be really helpful in the promotion of an economic growth. There are many different forms of regulations which are being used and certain shifts which are also seen in the past few years in terms of different regulation policies which are being adopted by most of the developing countries. From 1960s-1980s the market failure factor was used in the legitimization of direct government involving in the productive areas in the developing countries by promotion of industrialization with the help of investments, import substitutions and through the extension of public ownerships of many enterprises. However because of the short term success and most of the factors which were handled by the state were not found to be successful, this regulation of the economic process was narrowed and redefined ensuring that there are different types of policies which are required to be used in which the markets can operate easily without facing any threats.  The process of privatization and many processes of the economic liberalisation in the developing countries have created failures and problems which have led to the present focus on regulation. The regulation process involves giving more of the responsibilities to the private sector in order to handle the economic workings correctly. The markets can easily compete and consumers being provided with plenty of goods and services at prices which they are willing to purchase.

The economic regulation theory was developed in the 19^th century and this case for the regulation in the economy is premised on failure of significant markets which exists and this is normally the result of scope in production and the economies of scale, imperfections in the information in handling the market transactions and the existence of externalities and incomplete markets. In most of the developing countries the process of regulation is handled perfectly by the state. This has helped a great deal in the achievement of the sustainable and equitable expanding of the infrastructural services in those countries which are poor (KAHN, 1988).

However, regulating the markets might not produce the welfare improvement results in comparison with the outcome in an economy under the market conditions which are imperfect. The information asymmetries might lead to the contribution of the imperfect regulation. There are various information levels expected about factors such as the demand, revenues and cost. The agent involved in regulating holds all the details about the regulator requirements in regulating optimally and here are certain incentives mechanisms and rules which the regulator must try to establish in coaxing this detail from private sector. Although there is a less chance of receiving all the details which are required in the regulation optimally in maximizing the social welfare, but the outcomes of regulations in terms of prices and outputs can still be the 2^nd best as compared to the competitive markets which centres the focus on the entry barriers. The ownership of the state helps in providing with more details to the regulators as compared to private ownership. So this means that the contraction should not be that much problematic when the ownership and regulation process is in the hands of the state. However the ownership of the state is connected with the inadequate incentives in gathering and using the details in maximizing economic welfare. In other words it can be said that there is a trade off in between the state ownership which reduces the detailed asymmetries and the regulation transaction costs and the incentives which are under the state and private ownership for those agents who are maximizing the efficiency in an economy (SEABRIGHT, 2007).

 

Factors in the regulation of an economy

The regulation in the welfare improvement is assuming the actions of the regulatory authority are motivated through public interest. This is highly criticised by the theorists who raise an argument that the individuals are self interested out or in the public arena and therefore in analyzing the process of regulation as the relations product between various groups. The regulatory capture concept involves the process of regulation which becomes biased favouring the particular interests. In most of the extreme cases the regulatory capture says that the regulation can always lead to the sub optimal social outcomes as there is inefficient bargaining which takes place between the interest groups over the utility rents. The regulators can also favour the producer interests as the regulatory benefits concentration and regulatory costs diffusion enhances the lobby groups’ power such as the rent seekers (JOSKOW, 2000).

Regulation also subjects to the political capture and it can be considered as more threat as compared to the producer groups’ capture outside the political system. Where there are political captures, the regulation is found to be becoming a self interest tool within the government or ruling elite. Generally there is an expectation that the outcomes and processes involved in regulatory regime is determined through the economy’s institutional context as reflected in the informal and formal rules of the transacting of economy. By setting some of the rules, the institutions bring an impact on the development of an economy. The development of economy is not simply seen as the amassing of economic resources in form of human and physical capital but as an institution building matter in reducing the information imperfections, maximizing the economic incentives and reducing the transaction costs. In the institution building there are laws and the social and political conventions and rules which are on the basis for the success in the market exchange and production. There are some of the relevant conduct modes which the regulatory state might look forward to include such as the probity in the administration in public, courts independence, cronyism and low corruption and the civic responsibility traditions. Institution building involves the building of a great regulation regime which might be a tough one for the developing countries and also the transition economies in this present era (KELSEY, 2002).

The regulation system outcomes can be assessed with the help of factors such as the efficiency and effectiveness. The effective regulation helps in achieving the welfare goals which are set by the state for the authority involved in regulation. In most of the developing countries, the objectives of the regulation in the social welfare are not likely to be simple concerned with the economic pursuit efficiency but with broader goals in promoting the sustainable development and the reduction in poverty. The efficient regulation system can help in achieving the welfare goals at the economic costs which are very low.  There are 2 forms of regulation in terms of economic costs. The first one is the direct cost of regulatory system administration which is reflected in the appropriations of the budget of regulatory bodies. The second one is the regulation compliance costs which are considered as external to those regulatory agencies and are found to be falling on the producers and the consumers in the economic costs terms of meeting the requirements with the regulations and evading them (BERNHOLZ, 2007).

 

Conclusion

Regulatory quality can also be achieved through great governance. The regulatory system which functions well balances the consistency, transparency and the accountability. Accountability needs the agencies involved in the regulatory processes to be responsible for their actions, in operating with the legal powers and observing the rules of processes which are due when reaching at final decisions. There should be consistency followed in the regulation of an economy. If there is inconsistency, the economy will be disturbed through the uncertainty which might be seen prevailing for the investors who might not be willing to invest because of the fear of rising cost of capital (NELSON, 1981). The state’s capacity in providing the strong institutions of regulations is considered as a vital determinant in how well the markets are performing. An economy which has an institutional capacity developed will be able to implement and design the effective regulation which should help in contributing to the improvement in the overall economic growth.  If there are weaknesses which are found in the institutional capacity in delivering the good regulation, there are predictions which might affect the economic development quite badly. The regulation process in most of the Asia economies is quite bad especially in those developing countries which are financially weak and lacks that high class technology in measuring some of the areas where regulation is required. It can be therefore concluded that the good regulation can help in improving the overall economy and the government must play an active role in carrying out such processes from time to time.

References

JOSKOW, P. L. (2000). Economic regulation. Cheltenhan, UK, Edward Elgar.

NELSON, J. R., (1981). Economic regulation: essays in honor of James R. Nelson. [East Lansing], Institute of Public Utilities, Division of Research, Graduate School of Business Administration, Michigan State University.

KAHN, A. E. (1988). The economics of regulation: principles and institutions. Cambridge, Mass, MIT Press.

SEABRIGHT, P. (2007). The economic regulation of broadcasting markets: evolving technology and challenges for policy. Cambridge, Cambridge Univ. Press.

BERNHOLZ, P. (2007). Political competition and economic regulation. London [u.a.], Routledge.

KELSEY, J. (2002). International economic regulation. Burlington, VT, Ashgate.

Contents

Introduction to business cycle. 2

Reasons for Business Cycles. 2

Conclusion.. 4

References. 5

Q3. Clearly explain why business cycles occur.

Introduction to business cycle

In this modern era, many of the industrial economies are experiencing the significant swings in the activity of an economy. In the recent years most of the industries were at boom and the ratio of unemployment was also low. But nowadays the industries are facing serious problems of unemployment and their production is well below the capacity. The time period in which the prospect of an economy is at its best is known as boom or an expansion. On the other hand if the economy is declining it is known as the depression or recession. This combination of recession and expansion, the flow and ebb of an economic activity is known as the business cycle. It is said that most of the indicators of an economy move together. During the period of boom, there is an increase in the output levels and employment as well which can lead to falling unemployment (TVEDE, 2006). There is an increase in new construction and this might also lead to inflation rising if this expanding period is brisk. On the other hand during the periods of recession, the output of services and goods declines and the employment level also falls which can lead to rising unemployment level. The new construction can also decline during this stage. It is also seen that the prices of the goods also fall during the period of recession. Recession is the time when many economic indicators are found to be falling for the time period which is sustained for roughly around 6 months. The business cycles are recorded accordingly when the economic activities changes direction. There is a peak of this cycle which is often referred to the previous month before the important economic indicators which include the output, retail sales and employment which begins to fall. As these key indicators of an economy often vary the direction at various times, the dating of troughs and peaks is necessarily considered as subjective. There are many ways in which the term of business cycle is often considered as misleading one. Cycle itself indicates there is regularity in the duration and timing of the downswings and upswings in an economic activity. Many of the economists don’t consider this concept as correct. For instance there were around 3 recession’s period between the years 1973-1982. But then the trough of 1982 was followed by the 8 years of expansion which was an uninterrupted one. The recession of 1980 lasted for 6 months and the 1981 recession lasted for 16 months. Therefore in order to describe the swings in an economic activity, many of the economists prefer this term as the short run fluctuations in an economy to business cycle (MULLINEUX, 1984). 

Reasons for Business Cycles

There are many different stages in a business cycle and there are different reasons for the happenings in each stage. The first stage is a boom which defines the real national output which is rising at a great pace as compared to the trend growth rate. In a period of boom there is a consumption growth which is helped along with rise in the real incomes, surging house prices and strong confidence. There is a rise in the capital goods’ demand as businesses are willing to invest the additional capacity in meeting the rising demands and making extra profits. There is an increase in jobs and hence reduced unemployment levels along with the high real wages for the workers.  The other great characteristics of boom include the increase in the government revenues collected from tax which can be later utilized in spending in the weak areas in the economy. This period of boom can lead to the inflationary pressure increasing if the whole economy overheats and is having the positive output gap. The country like UK enjoyed a sustained growth for over the last 15 years which is one of the best examples.

Slowdown

The period of slowdown occurs when the growth rate decelerates and the national output is found to be still rising. If the economic growth is achieved without falling in the hands of a recession, this is known as the soft landing.

Recession

Recession is a period of falling national output levels. It is a period in which the growth rate is a negative one which can lead to the contraction in profits, incomes and employment. It can be also quoted as a falling real GDP for the 2 consecutive quarters or 6 months. There are some of the major symptoms of recession and it includes:

·         Fall in the purchases of raw materials and components from most of the supply chain businesses

·         Less job vacancies and rising unemployment

·         Increase in the business failures number

·         Declining business and consumer confidence

·         Rise in the proportion of the income which is spent and the contracting consumer spending levels

·         Dropping value of imports and exports of services and goods

·         Falling tax revenues and spending of welfare increases

·         The fiscal deficit starts to rise quickly

Causes of recession

• Recessions are generally considered as unusual. Many of the economists consider it as a feature which is an inevitable one in the market due to the cyclical nature of employment, demand and output.
• Every recession is considered as different. The fact cannot be denied that the world’s credit crunch is largely important in downturn causes although the macroeconomic policies are trying hard in preventing it. 

There are some of the great factors which are available for people to know about the 2009 recession in UK. Some of the key factors include:

·         The collapse of the property boom in UK

·         Reducing real disposable incomes

·         Falling consumer confidence

·         Falling exports because of other countries experiencing a downfall in their economy

·         Increase in unemployment

Recovery

A recovery can occur when the real levels of national output starts picking up again from the point of recession.  The recovery is highly dependent on the aggregate demand factor which suddenly starts to increase and the producers are again increasing their output and rebuilding the stock levels in anticipating the rising demand. The business confidence again starts to increase.

There are some of the great policies which were being adopted in UK to prevent the whole recession from turning into a depression which could have been a damaging one. There were certain factors which were paid attention to which include:

·         Cut in the interest rates

·         Rising government borrowings

·         Quantitative easing policy by Bank of England

·         Cutting rates of VAT

Conclusion

There is strong evidence available which supports the fact that there are deviations occurring because of the full employment which are often the outcomes of the spending shocks. Monetary policy is the main reason behind the swings in the business cycles. For instance, during the recession period in the early 1970s and 80s, the raising of interest rates impacted greatly on the business cycles. In case of expansion, the inflationary booms in the year 1960s-1970s, these were least partly because of the low interest rates and monetary ease. The major impact on the business cycles is often seen because of the variation in the flow of money. There are many prewar depressions which include the recessions of 1921, 1908 and the 1930s great depression which were all because of the monetary contraction and the real interest rates which were high. In the earlier era, there were swing because of the financial panics, monetary developments and the mistakes in policy. Recessions which were seen in the early era of postwar were of similar severity as seen before the World War 1. The decreasing downturns frequency reflects the economic policymaking progress. There are some of the great depressions which bring in large strides in the economic understanding and the government’s capacity in moderating cycles. There is an employment act which says that the government uses the tool in stabilizing the employment and output (STOCK, 1993). It is because of these tools there are many of the shocks which have been counteracted and prevented long periods of recessions. In the earlier times the policymakers used the expansionary policy for too long and this led to an increase in the inflation levels. It is because of this reason the Federal Reserve required to adopt the contractionary fiscal and monetary policies in moderating the recession to bring the inflation levels down.

References

ZARNOWITZ, (1992). Business cycles theory, history, indicators, and forecasting. Chicago, University of Chicago Press.

STOCK, J. H. (1993). Business Cycles, Indicators, and Forecasting. Chicago, University of Chicago Press.

PUU, T., (2006). Business cycle dynamics models and tools. Berlin [etc.], Springer.

BELONGIA, (1992). The business cycle: theory and evidence : proceedings of the Sixteenth Annual Economic Policy Conference of the Federal Reserve Bank of St. Louis. Boston u.a, Kluwer Acad. Publ.

MULLINEUX, (1984). The business cycle after Keynes: a contemporary analysis. Totowa, N.J., Barnes & Noble Books.

TVEDE, L. (2006). Business cycles: history, theory and investment reality. Chichester, West Sussex, England, John Wiley & Sons.

OPPENLÄNDER, (1997). Business cycle indicators. Aldershot [u.a.], Avebury.

HÉNIN, P.-Y. (1995). Advances in business cycle research: with applications to the French and US economies. Berlin, Springer.

Q4. Critically assess the merits of both fiscal policy and monetary policy as methods of controlling the level of aggregate demand in the economy.

Contents

Introduction.. 2

Fiscal policy. 3

Monetary policy. 3

Conclusion.. 4

References. 5

Q4. Critically assess the merits of both fiscal policy and monetary policy as methods of controlling the level of aggregate demand in the economy.

Introduction

Since the sliding of the American economy into recession in the year 1929, the economics were found to be highly dependent on the economics theory named as ‘Classical Theory’ which focused mainly on the self correction of the economy in case there is no interference by the government. But it was later found that with the recession deepening further and converting into a great depression without any corrections being made, the economists made suggestions about revising the theory which was required. Keynes developed the theory which was known as ‘Keynesian Theory’ which focused on the government intervention which was required in correcting the economic instability. One of the major roles of the government is to control the recession and inflation in an economy.  There are some of the major tools which are used by the Bank of England and the congress in correcting the economic problems and how these tools can be effective in handling the aggregate demand, interest rates and money supply. The economic data can be further analyzed in determining how the monetary and fiscal policy can be used in correcting the economic problems.

Economic performance is said to be illustrated with the help of concepts of aggregate demand and aggregate supply. Aggregate supply can be defined as the total supply of services and goods which are produced in an economy of the nation. It is found to be upward sloping as the higher the prices are set, the firms are provided with an incentive in producing more and at the lower prices the production level tends to fall down. Aggregate demand is defined as the overall demand for the services and goods in the economy of a nation. It is found to be a downward sloping as the higher the prices are the government, foreign customers, firms and consumers are found to be less willing in purchasing. On the other hand the lower prices encourage them to purchase more. There are many shifts which can occur in the aggregate demand and aggregate supply curves which show the changes in the economy’s performance. If the confidence of the consumers falls in an economy and there is reduction in the spending, there is a fall in aggregate demand. This can lead to reduction in the prices and real output and can push the country towards recession. However if the level of money supply increases, the excessive demand of the consumers can easily push the aggregate demand upwards which can raise the real price levels and output and also push the country towards serious inflation (GREAT BRITAIN, 2004).

In order to keep the economy stable, the economists set the annual goals of achieving the 2.5-3% of the growth in GDP, 5% unemployment rate and 3-4% of inflation rate.  However, there is still an economic cycle which is seen to be expanding or falling into recession after every few years.  Keynes argued that there is no need to wait for the potential problems in the economy to solve themselves.  He emphasized on the government who need to play an active role in the solution of such economic problems with the help of two major policies known as fiscal and monetary policy.

Fiscal policy

Fiscal policy is the utilization of the taxes and spending by the government in order to bring stabilization in an economy. Keynesian theory brings in the recommendation that the congress should try increasing the government spending in priming the pump of an economy. Similarly the theory also recommended that there should be reduction in taxes to provide the households with higher amount of disposable income which allows easy purchasing of more of the products. Through these both ways of fiscal policy which are followed, the increasing aggregate demand can help in stimulating the firms to boost the production, increasing the household incomes and hiring workers. Keynesians focus on the opposite actions which must be taken in times of inflation.  In slowing down an economy, the Keynesians recommended the congress that the government must decrease its spending levels in reducing the pressure on the overall aggregate demand. Similarly he also called for an increase in taxes in the times of inflation in reducing the disposable incomes of the consumers. This reducing aggregate demand through these actions can lead to firm producing the lesser products, slows the hiring and also brings reductions in an inflationary pressure.  These both tools are considered as effective ones and the Keynesians pressurized on the government spending as much better tool of fiscal policy as any variation in the spending of the government brings a direct impact on the overall demand. However if there is the reduction in taxes, the consumers will not be interested in spending all their disposable income which have increased and will look to saving some proportion of their income. Similarly if the taxes are increased, the consumers are less like in reducing their consumption of goods by similar amount as tax. They are more likely to dip in the savings in covering some of the variation in rates of taxes (ESPINOSA, 1995).

Monetary policy

Monetary policy is also used in bringing the stabilization in an economy with the help of the utilization of the money supply and credits. The increasing demand for the money comprises of the borrowing from the consumers for items such as the homes and cars, firms also borrow for items such as the equipment and factories and the borrowing by the government in financing the national debt. Bank of England sets this money supply and the demand and supply for money helps in determining the interest rates which are required to be paid for the borrowed money use. If there is an increase in the level of money supply, there will be a fall in interest rates which will make it less expensive in borrowing the money. In that case there will be more borrowing of money and increase in the spending by the consumers on purchasing more products. On the other hand if there is the reduction in the money supply level, there will be a rise in the interest rates which means there will be less borrowings and spending as the cost of borrowing increases (EKPO, 2000).

There are 3 primary tools which are available for the Bank of England in changing the level of money supply. In the times of recession, the Keynesians recommends the Bank of England of purchasing the open market bonds. Through this increase in the reserves which the bank is holding, they have more amount of money which is available to provide with loans and reducing the interest rates. At the lower rates of interests firms and consumers are highly interested in borrowing to make more purchases and this can lead to increasing the aggregate demand. The Keynesians also recommends the Bank of England in lowering the rates of discounts. When the Bank of England brings reduction in the rate of interests, member bans should be paying in borrowing from the Bank of England, banks become highly interested in borrowing to make the money available to loan at the lower rates of interest. In that case, the firms and consumers will be greatly interested in borrowing and spending which can increase the aggregate demand. Thirdly the Keynesians also recommend the Bank of England to decrease the reserve requirements during the time of serious recession. If banks are permitted in releasing more of the reserved funds for loaning, the lower rates of interest will be enticing the firms and consumers again in borrowing funds to buy and this can again increase the level of aggregate demand.  Keynesians suggests the opposite actions which must be taken during the period of serious inflation which can reduce the level of money supply in raising the interest rates which will make it less likely for the firms and consumers in borrowing more in purchasing the products.  Although these tools are found to be working in the same way but they might also differ in terms of their power effects. The reserve requirement can be really powerful and must be change only in case of serious problems in the economy. The discount rate must be used as the Bank of England’s intentions towards the monetary policy. Open market operations are considered as widely used monetary policy tools (BEETSMA, 2004).

Conclusion

Economists learned greatly from the Great depression experience and they focus on the advocating of government’s role in the creation of the stabilization of economic policy. Although there is a disagreement by the economists about which tool must be appropriate and the strength or timing of such tools which must be used, most economists recognizes the benefits of the monetary and fiscal policy to prevent the extreme depression or inflation in an economy. The use of monetary and fiscal policy is therefore really essential in controlling the level of aggregate demand and supply. It must be used by the government in times of facing problems in terms of economic stability which can be overcome through these two policies if used effectively (LANGDANA, 2007).

 

References

BEETSMA,(2004). Monetary policy, fiscal policies and labour markets: macroeconomic policymaking in the EMU. Cambridge [u.a.], Cambridge Univ. Press.

EKPO, (2000). Fiscal and monetary policy during structural adjustment in Nigeria: proceedings of a senior national policy workshop. Uyo, Akwa Ibom State, ABBNNY.

ESPINOSA, (1995). Fiscal and monetary policy interactions in an endogenous growth model with financial intermediaries. Atlanta, Ga, Bank of England Bank of Atlanta.

GREAT BRITAIN. (2004). Monetary and fiscal policy: present successes and future problems. London, Stationery Office.

LANGDANA, F. K. (2007). Macroeconomic policy: demystifying monetary and fiscal policy. New York, Springer.