Macroeconomics: How the IS-lM Model Can Help UK's Economy

The uk government sets monetary policy by adjusting the funds rate. This affects other short-term and long-term rates, including credit-card rates and mortgages. Governments define fiscal policy by setting taxation levels and writing legislation and regulation for everything from health care to the environment. Fiscal and monetary policy changes can affect businesses directly and indirectly, although competitive factors and management execution are also important factors.

Closed economy IS-LM analysis: The IS-LM model focuses on the equilibrium of the goods market and the money market. In other words, it shows the relationship between real output and interest rates.

The government has been implementing policies in the improvement of the growth in the UK. Such as improving economic growth during the Great Depression and the recent financial crisis. A brief history by (Pettinger, 2016) on the use of fiscal policy, Keynes promoted the use of fiscal policy as a way of boosting growth. Moreover, during 1970-1980s the government switched to using monetary policy in influencing the economy. However, the government later reverted to using the fiscal policy in the recession of 2008-2013. Whether or not fiscal policy is the key policy in the process of improving economic growth is the issue.

A macroeconomic policy is known at the government’s regulations to control or stimulate aggregate indicators for the economy. In other words, these are policies that focus on providing solutions to help stimulate economic growth and fight financial situations; in this case the recession. The macroeconomic policy that would be a legitimate solution to the recession would be Fiscal Policy, but more specifically, Expansionary Fiscal Policy. The reason why this would be a legitimate solution is because unlike Expansionary Monetary Policy, it has a more direct effect on aggregate demand. In other words, the government will aim to increase how much money is spent in order to stimulate aggregate demand. Furthermore, potential tax cuts will serve as a catalyst for spiking aggregate demand by granting people the capability to consume and invest (Forsythe, 2012). As an ultimate effect, the recession that America is going through will show more direct signs of economic growth, and will not have much of an influence in sparking inflation in the long

According to recent analysis from the International Monetary Fund (IMF), in 2010, the UK is estimated to have had the fourth highest level of structural government borrowing amongst the 29 advanced economies for which comparable data are accessible. This structural government borrowing is one of the main underlying issues that the Budget, over the reign of this current government, will try to address. However, at least according to plans published so far, the UK is intending the fourth largest fiscal consolidation among this same group of countries and so by 2017 the IMF predicts that the UK will have a lower level of structural borrowing than many other advanced economies, being below the average in the Euro area and below the average among the G20 and G7 countries.

Thus, critics argue that monetary policy is a more effective tool to fight recessions. Christina and David Romer demonstrated that fiscal policy rarely reacts with the immediacy necessary to enact change during a trough in economic activity. Romer finds that there has been no significance to discretionary fiscal policy during troughs, while monetary policy has a seemingly significant role during historical recessions. John Taylor agrees, stating that even in the face of the lower bound of zero on interest rates, additional measures such as quantitiative easing would prove effective countercyclical policy. Ultimately, both economists reach the conclusion that there is no significance to discretionary fiscal policy during a recession, instead determining that monetary policy is the more effective tool.

It widely recognized that the monetary policy within a country should be primarily concerned with the pursuit of price stability. However, it is still not clear how this objective can be achieved most effectively. This debate remains unsettled, but an increasing number of countries have adopted inflation targeting as their monetary policy framework. (Dr E J van der Merwe, 2002) This topic of Inflation targeting is a subject which immediately conjures different perceptions from different people. Many feel that low inflation should be a main aim of monetary policy, while others (such as trade union activists) believe that a higher growth rate to stimulate jobs should be the main concern.

The economic meaning of a recession is that the gross Domestic Product (GDP) has declined for two or more consecutive quarters. Unemployment rises, housing falls, stocks fall and the economy is in trouble. Whenever the government sees that the economy is entering a recession it is important for it to act. The U.S acted in two ways during the Great recession of 2008 through fiscal and monetary policies. Renaud Fillieule identifies that “ Monetary and credit expansions have been the main tools used by the U.S. government and central bank to try and recover economically from the Great Recession of 2008” (Fillieule r, Pg. 99 2016). These Keynesian policies are debatable among economist, none the less they were implemented and put the U.S on the road to recovery.

The “Great Recession” is commonly used to explain the massive economic contraction that occurred in the United States during the fourth quarter of 2007. However, the actions of the United States spanned to other nations, leaving massive effect on the global economy. One nation that took on serious financial burden during this recession was the United Kingdom. This nation first faced the effects of the Great Recession beginning in the first quarter of 2008. Overall, the initial mass effects on the nation can be attributed to the nation’s reliance on the financial sector. In fact, after partially stabilizing in 2009, the country struggled with a double-dip recession between 2010-12, and continues to struggle with some of these effects.

Inflation; ‘a situation in which prices rise in order to keep up with increased production costs… result[ing] [in] the purchasing power of money fall[ing]’ (Collin:101) is quickly becoming a problem for the government of the United Kingdom in these post-recession years. The economic recovery, essential to the wellbeing of the British economy, may be in jeopardy as inflation continues to rise, reducing the purchasing power of the public. This, in turn, reduces demand for goods and services, and could potentially plummet the UK back into recession. This essay discusses the causes of inflation, policy options available to the UK government and the Bank of England (the central bank of the UK responsible for monetary policy), and the effects

Inflation is a possible cause of higher unemployment in the medium term if one country experiences a much higher rate of inflation than another, leading to a loss of international competitiveness and a subsequent worsening of their trade performance. If inflation in the UK is persistently above our major trading partners, British exporters may struggle to maintain their share in overseas markets and import penetration into the UK domestic market will grow. Both trends could lead to a worsening balance of payments. The UK government believes that monetary stability (i.e. low inflation) is a precondition for sustained economic expansion.  As the chart below demonstrates, the UK has made progress in reducing the volatility of its inflation rate in the last decade. The era of high and volatile inflation may have come to an end.

Since the global financial crisis of 2008, the UK government has been implementing various policies to combat the recession and stimulate economic growth. This essay will look at how effective the fiscal and monetary policies used since the crisis are in achieving the four-macro economic objectives. In addition, I will provide my input on the best way the UK government can carry out these policies.

| Advocates of active monetary and fiscal policy view the economy as inherently unstable and believe that policy can manage aggregate demand, and thereby, production and employment, to offset the inherent instability. When aggregate demand is inadequate to ensure full employment, policymakers should boost government spending, cut taxes, and expand money supply. However, when aggregate demand is excessive, risking higher inflation, policymakers should cut government spending, raise taxes, and reduce the money supply. Such policy actions put

After the Global Financial crises of 2008, UK economy was severely affected and had dipped into recession. Thus, this led to a fall in market confidence, lower GDP growth and higher levels of unemployment. In order to boost the economy, expansionary monetary policies were adopted by the Bank of England. Interest Rates were cut to historic low of 0.5%. However, the economy was still not out of recession and conventional monetary policies failed to work even when interest rates were near zero bound. So, the central bank used unconventional monetary tools such as Quantitative Easing i.e. buying government bonds and injecting money into the economy. This policy was accompanied by a rather new policy known as the Forward Guidance in August,

Monetary policy involves manipulating the interest rate charged by the central bank for lending money to the banking system in an economy, which influences greatly a vast number of macroeconomic variables. In the UK, the government set the policy targets, but the Bank of England and the Monetary Policy Committee (MPC) are given authority and freedom to set interest rates, which is formally once every month. Contractionary monetary policy may be used to reduce price inflation by increasing the interest rate. Because banks have to pay more to borrow from the central bank they will increase the interest rates they charge their own customers for loans to recover the increased cost. Banks will also raise interest rates to encourage people to save more in bank deposit accounts so they can reduce their own borrowing from the central bank. As interest rates rise, consumers may save more and borrow less to spend on goods and services. Firms may also reduce the amount of money they borrow to invest in new equipment. A