Category: Economics 10e: Ch 15

The current financial crisis had led to Keynesian theory coming back into fashion. Governments all around the world have put in place a significant fiscal and monetary stimulus to try to mitigate the impact of the downturn. But is this really Keynesian policy at work? Keynes argued for permanent and tough controls on the financial sector to allow the government to pursue a policy of full employment. It would be difficult that current policies are therefore pure Keynesian policies, so is there an economic theory vacuum with market economics discredited, but Keynesian economics not really taking its place? The article below looks at how economic theory has changed in recent months and considers whether we need a ‘new’ Keynes.

Wanted: the Keynes for our times Guardian (22/12/08)

Questions

  1. Explain the difference between classical and Keynesian beliefs with respect to government intervention in the ecoomy.
  2. Analyse the extent to which the recent policy stimulus has been Keynesian in nature.
  3. Discuss the changes that have taken place in economic policy during 2008/9 in the context of economic theory.

New figures from the Centre for Economics and Business Research show that the UK has slipped from the fifth to the sixth largest economy in the world as measured by GDP. This places the UK behind the USA, Japan, China, Germany and now France. Two years ago, the UK was fourth largest (ahead of China). However, is GDP the most appropriate measure of the success of an economy?

Zut! France leapfrogs UK in economic table Times Online (7/12/08)
UK drops below first France and then Italy in world GDP league table CEBR News Release (8/12/08)

Questions

  1. Explain the difference between GDP, GDP per capita and GDP measured on a purchasing-power-parity basis.
  2. Explain why “….. overvalued sterling has inflated the UK’s claims to be among the top five world economies.”
  3. Discuss whether GDP per capita is the most appropriate measure of economic success.

Paul Krugman won the Nobel Prize for Economics in 2008. He won the prize for his analysis of trade patterns and location of economic activity, but he is also well known in academic circles for his work on international finance. In the article below, he looks at the foundations of the current financial crisis. He explains the history of the crisis, the action that has been taken by governments around the world, the likely success of the policies and also the impact of the crisis on the real economy. This is perhaps the issue that is of most concern to us as economists. With recession having taken a grip on many countries, it is important for governments to understand the root causes of the crisis to ensure that their policies address these. The article is an edited extract from The Return of Depression Economics and The Crisis of 2008, by Paul Krugman.

We all go together when we go Guardian (6/12/08)

Questions

  1. Examine the role of the US housing market in the origins of the current financial crisis.
  2. What is meant by the ‘shadow banking system’? How does the regulatory approach to the shadow banking system differ from that of the mainstream banking system?
  3. “What’s really worrying is the loss of policy traction: the economy is stalling despite repeated efforts by policy-makers to get it going again.” What does Krugman mean by policy traction? Discuss the possible causes of this policy traction.
  4. Explain why Krugman believes that the financial rescue package will not be sufficient to turn the US economy around.
  5. Assess Krugman’s argument that the only way out of the crisis is a “good old Keynesian fiscal stimulus”..

The global financial crisis has led to a significant number of countries going into recession. Recession is defined by economists as two successive quarters of negative economic growth. Banking collapses and a collapse in consumer confidence, and therefore expenditure, have reduced aggregate demand. This situation has been exacerbated as each country’s exports fall due to the slowdown in other countries. The combination of these and other factors has led to negative economic growth resulting in recession. We have linked below to a range of news articles looking at different countries that have fallen into recession in recent months.

Germany
German economy now in recession BBC News Online (13/11/08)
Germany tumbles into recession as exports dive Times Online (13/11/08)
Germany slides into recession Guardian (13/11/08)

Eurozone
Threat of worst postwar slump grows as major economies enter recession Times Online (14/11/08)
Eurozone officially in recession BBC News Online (14/11/08)
Eurozone tumbles into first-ever recession Times Online (14/11/08)

Spain
Spain has that shrinking feeling as economy heads south Times Online (20/11/08)
Economic clouds gather as Spain faces recession Times Online (6/12/08)

Japan
Japanese economy now in recession BBC News Online (17/11/08)
Global slowdown and resurgent yen finally drag Japan into recession Times Online (18/11/08)
Japan in sharpest plunge to recession since war Times Online (28/11/08)
Japan slides into recession as global slowdown hits exports Guardian (17/11/08)

Singapore
Singapore officially in recession BBC News Online (21/11/08)

Hong Kong
Hong Kong slides into recession BBC News Online (14/11/08)

Questions

  1. Choose one of the countries above and analyse the principal reasons why it went into recession.
  2. Discuss whether a fiscal policy or a monetary policy stimulus will be more effective at boosting aggregate demand in a country that is in recession.
  3. Assess policies that the governments of the countries above could use to minimise the impact of recession on the level of employment in their country.

Whilst a recession has a devastating impact on many industries – not least construction and related sectors – there are some firms who will fare much better during a recession. Firms who have products whose demand is income inelastic, or which are even inferior, will feel the impact of the recession much less than those whose goods have a more income elastic demand. The two articles below consider jobs and businesses that are less likely to suffer in recessionary times.

Slump busters: jobs that beat the downturn BBC News Online (27/11/08)
Riding the recession: how some businesses are doing well in the downturn Times Online (23/11/08)

Questions

  1. Define the terms (i) “normal good” and (ii) “inferior good”.
  2. What will be the value of the income elasticity of demand for (i) a normal good and (ii) an inferior good?
  3. Discuss strategies that firms can adopt to minimise the impact of an economic downturn on (a) their total revenue and (b) their profitability.