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Time for a Plan B?

The government is sticking to its deficit reduction plan. But with worries about a lack of economic recovery, or even a double dip recession, some economists are calling for a Plan B. They back up their arguments by referring to the lack of consumer confidence, falling real incomes and rising commodity prices. Without a slowing down in cuts and tax rises, the lack of aggregate demand, they claim, will prevent a recovery.

The government maintains that sticking to the cuts and tax rises helps maintain international confidence and thereby helps to keep interest rates low. Also, it argues, if the economy does slow down, then automatic stabilisers will come into play. Finally, even though fiscal policy is tight, monetary policy is relatively loose, with historically low interest rates.

But will there be enough confidence to sustain a recovery? Economists are clearly divided. But at least the IMF seems to think so. In its latest assessment of the UK economy, although it has cut the growth forecast for 2011 from 2% to 1.5%, that is still a positive figure and thus represents a recovery, albeit a rather fragile one.

Articles
Coalition’s spending plans simply don’t add up Observer letters, 52 economists (5/6/11)
Is George Osborne losing his grip on Britain’s economic recovery? Guardian, Heather Stewart and Daniel Boffey (4/6/11)
George Osborne plan isn’t working, say top UK economists Guardian, Heather Stewart and Daniel Boffey (4/6/11)
How are the Coalition fixing the economy? The Telegraph, Tim Montgomerie (28/5/11)
Cameron’s new cuts narrative The Spectator, Fraser Nelson (27/5/11)
The changing narrative of Chancellor George Orborne Channel 4 News, Faisal Islam (17/5/11)
The UK could be leading with a new economic approach, instead we follow Guardian, Will Hutton (4/6/11)
The coalition’s strategy is courting disaster Observer, (5/6/11)
Government faces fresh calls for a Plan B BBC News (5/6/11)
‘Serious debate’ needed on economy BBC Today Programme, Stephanie Flanders (6/6/11)
IMF cuts UK growth forecast for 2011 BBC News, John Lipsky (Deputy Director of the IMF) (6/6/11)
IMF says hope for best, plan for worst BBC News, Stephanie Flanders (6/6/11)
IMF set out a ‘Plan B’ for George Osborne BBC News, Paul Mason (6/6/11)
How to rebalance our economy Independent, Sean O’Grady (6/6/11)
IMF maps out a Plan B for the UK economy The Telegraph, Jeremy Warner (6/6/11)
A long and hard road lies ahead for the British economy Financial Times, Martin Wolf (6/6/11)

IMF Report
United Kingdom – 2011 Article IV Consultation Concluding Statement of the Mission (6/6/11)

Forecasts
OECD Economic Outlook 89 Annex Tables (June 2011): see especially Annex Table 1
Output, prices and jobs The Economist

Questions

  1. Explain what is likely to happen to each of the components of aggregate demand.
  2. Is monetary policy loose enough? How could it be made looser, given that Bank rate is at the historically low level of 0.5% and could barely go any lower?
  3. What are automatic fiscal stablisers and how are they likely to affect aggregate demand if growth falters? What impact would this have on the public-sector deficit?
  4. What is meant by the ‘inventory cycle’? How did this impact on growth in 2010 and the first part of 2011?
  5. What is likely to happen to inflation in the coming months and why? How is this likely to impact on economic growth?
  6. Referring to the economists’ letter (the first link above), what do you think they mean by “a green new deal and a focus on targeted industrial policy” and how would this affect economic growth?
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