Principles of Macroeconomics Final, Coursework Example

Explain the Deficit Reduction Act of 1993. What has been the result of this action?  Did former President Bush manage to achieve a “surplus budget”, “deficit budget” or “balanced budget”?  Is this economic philosophy being carried forward into the current Obama Administration?

The Deficit Reduction Act was passed by congress in 1993. The Clinton Administration aimed to increase revenues by $250 billion over a 5-year period. It equally planned on reducing Federal spending by a similar amount. The subsequent legislation increased the top income tax rate to 39.6%. It was the Clinton Administration that reduced the debt increase despite strong opposition from the Republicans. The Bush Administration expanded the Federal budget deficit by a staggering $700 billion.  The Obama Administration is accelerating this line of action even further..” President Barack Obama’s budget would produce $9.3 trillion in deficits over the next decade, an eye-popping figure that threatens his ambitious goals to overhaul health care and explore new energy sources, congressional auditors said.”  (Associated News, 2009).

State and explain the basic equation of monetarism. What is the major cause of macroeconomic instability, as viewed by monetarists?

The basic theory of monetarism was expressed using the equation of exchange. The assumption is that the velocity of money is predictable and as such can be treated as a constant. Hence the growth of money can equate to changes in the general price level. The quantity theory was designed by Irving Fisher when he identified total aggregate demand to total value of output (GDP) in the following expression:

MXV=PXY  (Riley, 2006)

M=Money Supply

V=Velocity of circulation of money

P= General price level

Y= Value of National Output of GDP

Macroeconomic instability is where we have a situation of non economic growth, a lack of price stability and a large unemployment situation. The monetary policy is also unable to control the inflation rates creating an unstable platform

What is meant by the Balance of Payments? Why does the United States constantly have a trade deficit? Do these trade deficits increase or decrease our living standards?

The Balance of Payments may be defined as the Accounting Records that a country maintains in order to record all of its transactions of foreign currency over a period of time; as expressed relative to domestic currency that is paid out.  The value of exports minus the value of imports equals the Trade Balance. Thus, where the values of the trade balance is positive we have a surplus. situation and conversely the opposite occur in a negative situation. The United States has had a trade deficit for the last ten years. The reason for this deficit is mainly due to the fluctuating currencies between the main trading partners of Japan, Canada and Mexico.

What are the economic functions of the International Monetary Fund and the World Bank?

The IMF and World Bank may best be considered as two pillars that support the world economic order.  They are both owned and managed by governments of member nations.  The main players are China, the USA and Japan.  The main distinction is that the bank is primarily a development institution, whereas the IMF is more of a Cooperative Institute, which seeks to maintain  an orderly control of receipts and payments between nations.  “The World Bank has one central purpose to promote economic growth and social progress in developing countries”  (Driscoll, 1996).

What is a monetary devaluation? Has the USA ever devalued the US $?  If so, why was it necessary?  Did it solve the problem?

Monetary devaluation is essentially a lowering of your currency in terms of the values of other foreign currencies. Market forces eventually cause a decline in the rate of depreciation in the exchange rate of a specific currency. The USA has historically not devalued the $ but the pressure is on relative to current economic conditions ” The amount of outstanding US debt has now reached levels that can never be paid off: … the United States government and its agencies have, by far, the largest pile-up of interest-bearing debts ($15.6 trillion), the largest accumulation of unsecured obligations(over $60 trillion), the largest yearly deficit ($1.6 trillion), and the greatest indebtedness to the rest of the world ($4.8 trillion).”(Schoon, 2010).

Why is the “gap” between developed countries and less developed countries getting wider ? What can be done to reduce the gap?  Explain the concept of the “brain drain”. Explain the economic concept of “capital flight”.

The gap between developed countries and lesser developed is getting wider.  There are inequalities in the life spans and income of the people, which creates a poverty gap between the two.  The richest countries represent just 5% of the population.  The largest of the poorer countries, i.e. China and India are experiencing phenomenal growth, which is faster than more affluent developed nations.  Rising incomes in the richer nations are shrinking the value of average incomes and poorer countries.  The concept of the brain drain is one whereby the intellectuals of a society failed to receive adequate recognition and award for their services.  This causes a level of dissatisfaction, and they look towards other countries where they feel they will be better remunerated and gait recognition for the services that they provide.  One example of this is whereby German scientists, at the end of the second world war, were persuaded to work for the USA in the rocket development program.  The concept of capital flight is an economics term whereby assets or money flow out of a country because of a lowering of their investments or assets in that country.   They quickly seek to move  them to a  zone where there  is more economic strength and viability.

Are you an advocate of ‘protectionism’ or ‘free trade’?  Support your position with economic examples.  How can the US compete with countries were significant amounts of cheap labor?  i.e. China?

Protectionism may be defined as a policy whereby you restrain trade between states. This is accomplished through tariffs or restrictive quotas. This sharply contrasts with free trade agreements where governments do not interfere with the free movement of trade. In the USA both of these are essentially regional issues. It was Friedman and Krugman who argued in favor of free trade, insisting that this helped the workers of developing countries. Economist Magee further stated that protectionism was a dead weight and the benefits of free trade outweighed protectionism by 100-1.  The Common Agricultural Policy in the EEC is an example of failed protectionism. ” Where President Obama has shown real weakness is in not using his rhetoric much more powerfully against protectionism”  (Murphy, 2009).

The USA has to invest in education and modern technologies if it is to outpace cheap manufactured goods being flooded onto the open market by the Chinese ” Management guru Peter Drucker says cheap foreign labor has less influence on America’s ability to compete and succeed globally than do our self-inflicted domestic costs for taxes, regulation, health care, energy and, especially, litigation.”  (Goodinson, 2005)

What factors have contributed to increased income inequality in the USA since 1975?

Since the mid 1970’s earnings in the USA have become more unequal between that of skilled and non skilled workers. It was estimated in 1979 that college graduates earnt on average 30% more than the school educated folk. Between 1995 to 2005 the situation further deteriorated owing to factors like increased immigration, low unemployment, increasing levels of education and general changes in the overall workforce composition. The baby boomers have equally caused a shift in the earning demographics.

What does the Lorenz curve really show?  What are the primary causes of income equality? Is this trend likely to continue?  What can be done to reverse this trend?

” A model developed by economist Max Lorenz in 1905. It represents a probability distribution of statistical values, and is often associated with income distribution calculations.”  (Investorword.com, 2010).  The primary cause of income inequality are attributed to that of poverty and one segment of society obtaining a greater portion of the distributable wealth of a nation. ” For example, in the United States in 2007, 80% of the households received 50.3% of the income, while just 20% received the other 49.7% of income. Of that wealthy 20% of households, 5% received 21.2% of the income. Obviously, the more you have the more you get.”  (Clay, 2010). In the short to medium term this is likely to continue as the current administration needs to get to grips with a number of elements that fuel inequality i.e. unemployment, social class divisions, poverty situation etc.

Based your understanding of economics was the US Government justified in bailing out General Motors Corporation?

Some of the main reasons that supported the government response in order to bail out General Motors are as follows;

Unemployment: 1:10 jobs in the USA is relied upon the car industry, either directly or indirectly.  Failure to bail out GM would’ve added to the USA’s already high unemployment situation.

Recession:  the USA is in a recession and the government needed to address the fiscal policy.  The collapse of GM would have resulted in a loss of market confidence and a sharp decline in overall economic growth.

Equity:   the government had already rescued the financial institutions, it would have been socially un acceptable to ignore the general work force.  It might be argued that GM workers were far more worthy than the reckless and somewhat incompetent management in the financial sector.

The counterargument is justifying a $25 billion bailout and 80 client the industry; as such, this is not a very good economic way to control unemployment.  A more prudent policy might be around education and training.  Thus, investing in more viable skills and trades

What were the chief causes in the decline of the housing market? Did the government pursue the correct action in order to solve the crisis? 

The USA experienced a sharp decline in its housing market in 2006/7.  The bubble burst when house prices reached their peak in 2006.  The increase in prices against that really income levels resulted in a market correction.  The danger to individuals being that the mortgage debt can result in negative equity.  Joseph Stiglitz, the noble winning economist warned that the sharp decline in house prices may well move the US economy into a recession.  One of the main causes of the housing bubble was a lack of growth in the regional economies; this despite relaxed lending policies and low interest rates.  The Fed chairman.  [Alan Greenspan] indicated that this was a nationwide bubble.  The US Government has poured money into the housing sector in order to try and stimulate the market. In 2008 it allocated over $900 billion in special loans and rescue packages.  In 2009 the Treasury stated that it would be providing Fannie Mae and Freddie Mac with unlimited financial support for the next three years. This sounds like a Government in crisis rather than a set of strategic options to solve the problem.

What were the primary reasons for the extensive banking failures?  Did the US Government pursue the correct economic actions by bailing out the US Banking Industry? Why or why not?

There are numerous reasons for this recent bank financial institution failures.  Most of these have stemmed from a lack of risk management to clean use of derivatives.  A number of banks have been using brokered deposits in the hopes of making large returns.  Others received advances from the federal home loan Bank system.  Thus weighing down the bank’s earnings.  Other complex investment particulars on centralized debt obligation and trade preferred securities will significantly contribution to the problem.  Summing up, all of that combined show a lack of proper risk management and banks characterized by the motivation of greed to make high returns on investment.

Government intervention and ownership in the banking system’s IP dollars billion injection, and taking share ownership is not necessarily wise economic moving along to.  Similar options have been tried in the UK and Europe and these have resulted in disastrous consequences.

In your opinion should President Obama devalue the US$ against the British Pound, Euro and Yen to strengthen the U.S. dollar?

The world looks at the US dollar as the safety net for the other world currencies.  It has recently gained strength against the UK pound, yen and euro.  When the other parent is stopped and the trouble traditionally investors purchase US dollars.  The US debt has now reached such a high level that it is considered unlikely that it can never be paid off.  An interest-bearing debt of $15.6 trillion.  Devaluation of the US dollar is but one of a number of options open to the president.  You would need the value of the dollar would fall relative to other countries, and hence the safety net will no longer be available.  Nevertheless devaluation looks like the only remaining option  available for the USA.  The USA now appears trapped in that it has increasing levels of mounting debt from which there appears no viable escape plan.

Works Cited

Associated News. (2009, 3 20). Projected deficit threatens Obama’s plans. Retrieved 5 22, 2010, from MSNBC: http://www.msnbc.msn.com/id/29791927/

Clay, J. (2010, 2 10). Income Inequality, The Cause Of Poverty . Retrieved 5 22, 2010, from Discovering Secular Humanism: http://discovering-secular-humanism.blogspot.com/2010/02/income-inequality-cause-of-poverty.html

Driscoll, D. D. (1996, 8). The IMF and the World Bank. Retrieved 5 20, 2010, from The International Monetary Fund: http://www.imf.org/external/pubs/ft/exrp/differ/differ.htm

Goodinson, S. (2005, 1 10). How The U.S. Can Compete With India And China. Retrieved 5 20, 2010, from SpigIT: http://www.businessweek.com/magazine/content/05_02/c3915142_mz030.htm

Investorword.com. (2010). Lorenz curve. Retrieved 5 22, 2010, from Investorword.com: http://www.investorwords.com/6570/Lorenz_curve.html

Murphy, C. (2009, 4 15). Jagdish Bhagwati: The Perils of Protectionism. Retrieved 5 22, 2010, from CBS Moneywatch: http://moneywatch.bnet.com/economic-news/article/jagdish-bhagwati-the-perils-of-protectionism/289065/

Riley, G. (2006, 9). Monetarism and the Quantity Theory of Money. Retrieved 5 22, 2010, from Tutor2u: http://tutor2u.net/economics/revision-notes/a2-macro-monetarism.html

Schoon, D. R. (2010). Will The Us Devalue The Dollar?