It is rising inflation that typically causes problems for countries, whether it is demand-pull or cost-push. However, one country that has not been subject to problems of rising prices is Japan. Instead, this economy has been suffering from the gloom of deflation for many years and many argue that this is worse than high inflation.
Falling prices are popular among consumers. If you see a product whose price has fallen from one day to the next, you can use your income to buy more goods. What’s the problem with this? The Japanese economy has experienced largely stagnant growth for two decades and a key cause has been falling prices. When the prices of goods begin to fall over and over again, people start to form expectations about the future direction of prices. If I expect the price of a good to fall next week, then why would I buy now, if I can buy the same good next week at a lower price? But, when next week arrives and the price has fallen as expected, why would I purchase the product, if I think that the price fall is set to continue? The problem of deflation is that with continuously falling prices, consumers stop spending. Aggregate demand therefore declines and economic growth all but disappears. This is the problem that the Japanese economy has been faced with for more than 20 years.
However, the latest data from Japan shows core consumer prices growing faster than expected in December 2013, compared to the previous year. This figure was above market forecasts and was the fastest rate of growth in the past 5 years. These data, together with those on unemployment have given the economy a much needed boost.
Recent government policy has been focused on boosts in government spending, with an aim of reducing the value of the currency (click here for a PowerPoint of the chart). Such policies will directly target aggregate demand and this in turn should help to generate an increase in national output and push up prices. If the price trend does begin to reverse, consumers will start to spend and again aggregate demand will be stimulated.
The future of the economy remains uncertain, though the same can be said of many Western economies. However, the signs are good for Japan and if the recovery of other economies continues and gathers pace, Japan’s export market will be a big contributor to recovery. The following articles consider the Japanese economy.
When the rest of the developed world went into recession after the financial crisis of 2007/8, the Australian economy kept growing, albeit at a slightly lower rate (see chart 1: click here for a PowerPoint). Then as the world economy began to grow again after 2009, Australian grow accelerated. Partly this was the result of a strong growth in demand for Australian mineral exports, such as coal, iron ore and bauxite, especially from China and other east Asian countries.
But in 2013, Australian growth slowed and jobs grew by their lowest rate for 17 years. Employment actually fell by 22,600 in December and unemployment was only prevented from rising by a fall in the participation rate. The Australian dollar, which has been depreciating in recent months, fell further on the news about jobs, reaching its lowest level for over two years (see chart 2: click here for a PowerPoint).
Chart 1 Chart 2
The following articles look at the reasons behind Australia’s slowing growth and at possible reactions of the Australian government and the Reserve Bank of Australia (Australia’s central bank). They also look at the link between economic performance and policy on the one hand and the exchange rate on the other.
Why has the Australian dollar been depreciating in recent months?
Why did the Australian dollar fall further on the news that economic growth had slowed and employment had fallen?
Find out what has been happening to commodity prices in the past three years (see Economic Data freely available online and especially site 26) How has this affected (a) the current account of Australia’s balance of payments; (b) the exchange rate of the Australian dollar?
If commodity prices are in US dollars, how is a depreciation of the Australian dollar likely to affect Australia’s balance of payments?
How are possible fiscal and monetary responses in Australia likely to affect the exchange rate of the Australian dollar?
What determines the magnitude of the rise or fall in demand for Australian exports as the world economy grows or declines? How are the determinants of the price and income elasticities of demand for Australian exports relevant to your answer?
Conservative Party leaders are considering the benefits of an above-inflation rise in the minimum wage. This policy has been advocated by both the Labour Party and the Liberal Democrats as a means of helping the lowest paid workers. From 2008 to 2013, minimum wage rates fell 5.2% in real terms: in other words, nominal increases were less than the increase in both the RPI and CPI (see UK minimum wage: a history in numbers).
Advocates of a real rise in the minimum wage argue that not only would it help low-paid workers, many of whom are in severe financial difficulties, but it would benefit the Treasury. According to Policy Exchange, a free-market think tank closely aligned to the Conservative Party, increasing the minimum wage by 50p would save the Government an estimated £750m a year through higher tax revenues and lower benefit payments.
But even such a rise to £6.81 would still leave the minimum wage substantially below the living wage of £8.80 in London and £7.65 in the rest of the UK, as estimated by the Living Wage Foundation (see The cost of a living wage). Although many businesses are now paying at least the living wage, many others, especially small businesses, argue that a rise in the minimum wage above the rate of inflation would force them to consider cutting the number of employees or reducing hours for part-time workers.
Meanwhile, in the USA 13 states have raised their minimum wage rates from the 1st January 2014 (see). Some of the rises, however, were tiny: as little as 15 cents. In a couple of cases, the rise is $1. Currently 21 states and DC have minimum wage rates above the Federal level of $7.25 (approx. £4.40); 20 states have rates the same as the Federal level; 4 states have rates below the Federal level. At $9.32 per hour, Washington State has the highest state minimum wage; the lowest rates ($5.15) are in Georgia and Wyoming. In 5 states there is no minimum wage at all. As the ABC article below states:
The piecemeal increases at the local level are occurring amidst a national debate over low wages and income inequality. Fast food and retail workers have been staging protests and walking off work for more than a year, calling for better pay and more hours. Currently, fast food workers nationally earn an average of about $9 per hour.
Workers from McDonald’s, Wendy’s, Burger King and other fast food joints are calling for $15 per hour. Wal-Mart workers organizing as part of the union-backed OUR Walmart aren’t asking for a specific dollar amount increase, but they say it’s impossible to live on the wages they currently receive.
President Obama has been throwing his weight behind the issue. Earlier this month, the President said in a speech that it’s “well past the time to raise the minimum wage that in real terms right now is below where it was when Harry Truman was in office.” But such legislation has a bleaker outlook if it reaches the Republican-led House of Representatives. House Speaker John Boehner has said that raising the minimum wage leads to a pullback in hiring.
So what are the costs and benefits of a significant real rise is the minimum wage on either side of the Atlantic? The articles explore the issues.
Draw two diagrams to demonstrate the direct microeconomic effect of a rise in the minimum wage for two employers, both currently paying the minimum wage, where the first is operating in an otherwise competitive labour market and the other is a monopsonist.
What is meant by the term ‘efficiency wage rate’? How is the concept relevant to the debate about the effects of raising the minimum wage rate?
What are the likely macroeconomic effects of raising the minimum wage rate?
What is the likely impact of raising the minimum wage rate on public finances?
Is raising the minimum wage rate the best means of tackling poverty? Explain your answer.
As of 31 October 2013, British households had a stock of debt close to £1.43 trillion. Economists are increasingly recognising that the financial well-being of economic agents is an important macroeconomic issue. The financial position of households, businesses and governments can be expected to affect behaviour and, hence, economic activity.
We can calculate the net financial wealth of households as the difference between their stock of financial assets (savings) and their financial liabilities (debt). The latest figures from the Bank of England’s Money and Credit show that as of Halloween 2013, British households had amassed a stock of debt of £1.4296 trillion. It is certainly a large figure since it not far short of the expected GDP figure for 2013 of around £1.6 trillion.
The chart above helps to show that of the aggregate household debt, £1.271 trillion is secured debt (debt secured against property). The remaining stock of £158.589 billion is unsecured debt (e.g. overdrafts, outstanding credit card debt and personal loans). In short, 89 per cent of the stock of outstanding household debt is mortgage debt. (Click here to download a PowerPoint of the chart.)
In January 1994 the stock of secured debt stood at £358.75 billion and the stock of unsecured debt at £53.773 billion. 87 per cent of debt then was secured debt and, hence, little different to today. The total stock of debt has grown by 247 per cent between January 1994 and October 2013. Unsecured debt has grown by 199 per cent while secured debt has grown by 254 per cent.
But, consider now the path of debt between the end of October 2008 and October 2013. During this period, the monthly series of the stock of unsecured debt has fallen on 52 occasions and risen on only 9 occasions. In contrast, the stock of secured debt has fallen on only 10 occasions and often by very small amounts. Consequently, the stock of unsecured debt has fallen by 22.8 per cent between the end of October 2008 and October 2013. In contrast, the stock of secured debt has risen by 3.9 per cent. The total stock of debt has risen by 0.1 per cent over this period and, therefore, it is essentially unchanged.
The amount of debt accumulated by households is example of the increasing importance of the financial system in our everyday lives. The term financialisation helps to capture this. Financialisation means that economists need to think much more about how financial institutions and the financial well-being of people, businesses and governments affect economic activity. There is little doubt that the financial position or financial health of economic agents, such as households, affects their behaviour. We would expect in the case of households for their financial well-being to exert an influence on their propensities to spending or save. But, just how is an area in need of much, much more research.
Outline the ways in which the financial system could impact on the spending behaviour of households.
Why might the current level of income not always be the main determinant of a household’s spending?
How might uncertainty affect spending and saving by households?
Explain what you understand by net lending to individuals. How does net lending to individuals affect stocks of debt?
Outline the main patterns seen in the stock of household debt over the past decade and discuss what you consider to be the principal reasons for these patterns.
What factors might explain the rather different pattern seen in the growth of debt since October 2008 compared with that in earlier part of the 2000s?
What do you understand by the term financialisation? Of what importance is this phenomenon to economic behaviour?
‘Deflation could be replacing debt as the main problem – and there’s nothing to suggest the ECB is up to the job.’ So begins the linked article below by Barry Eichengreen, Professor of Economics and Political Science at the University of California, Berkeley.
The good news in this is that worries about debt in eurozone countries are gradually receding. Indeed, this week Ireland officially ended its reliance on a bailout (of €67.5 billion) from the EU and IMF and regained financial sovereignty (see also).
The bad news is that this does not mark the end of austerity. Indeed, many eurozone countries could get stuck in a deflationary trap, with austerity policies continuing to depress aggregate demand. Eurozone inflation is less than 1% and falling. Broad money supply growth is now below that of the US dollar, the yen and sterling (see chart: click here for a PowerPoint).
The ECB has been far more cautious than central banks in other countries in acting to prevent recession and deflation. Unlike the USA, Japan and the UK, which have all engaged in extensive quantitative easing, the ECB had been reluctant to do so for fear of upsetting German opinion and taking the pressure off southern European countries to reform.
But as Eichengreen points out, the dangers of inaction could be much greater. What is more, quantitative easing is not the only option. The ECB could copy the UK approach of ‘funding for lending’ – not for housing, but for business.
It is rising inflation that typically causes problems for countries, whether it is demand-pull or cost-push. However, one country that has not been subject to problems of rising prices is Japan. Instead, this economy has been suffering from the gloom of deflation for many years and many argue that this is worse than high inflation.
But, when next week arrives and the price has fallen as expected, why would I purchase the product, if I think that the price fall is set to continue? The problem of deflation is that with continuously falling prices, consumers stop spending. Aggregate demand therefore declines and economic growth all but disappears. This is the problem that the Japanese economy has been faced with for more than 20 years.
Recent government policy has been focused on boosts in government spending, with an aim of reducing the value of the currency (click here for a PowerPoint of the chart). Such policies will directly target aggregate demand and this in turn should help to generate an increase in national output and push up prices. If the price trend does begin to reverse, consumers will start to spend and again aggregate demand will be stimulated.
Why Abenomics holds lessons for the West BBC News, Linda Yueh (18/12/13)
