Exchange Rates (Macroeconomics)

Exchange rates are something that affects all of us, be it directly or indirectly. Exchange rates are basically the value of a currency compared to that of another currency. They fluctuate a lot, which leads to price changes.

I'll be using the Sterling (£) in my examples throughout. Firstly, let's look at what determines the value of a currency. The value of the £ is determined by the free market, so therefore the powers of demand and supply dictate the value of the £. The majority of the demand for the £ will come from trading partners demanding the U.K's exports and therefore needing the £ to buy them. The majority of the supply of the £ comes from us demanding foreign imports, and needing to sell the £ to get foreign currency to buy the imports.

An increase in the demand for the £ will increase the value compared to other currencies. This is often referred to as a "strengthening of the £" or an "appreciation". Obviously, a fall in demand for the £ will have the opposite effect. An increase in the supply of the £ will decrease the value compared to other currencies. This is often known as a "weakening of the £" or a "depreciation". A decrease in supply will have the opposite effect, raising the value.

Another key factor that influences the demand and supply of the £ is interest rates. If interest rates in the U.K. are high, then we will see a high demand for the £ as people will make a better return off of it in U.K. banks. This will increase the value of the currency. A decrease in interest rates will see money flow out of the U.K. in search of a better return on their investment and therefore demand and the value of the £ will fall.

There are two different exchange rate mechanisms. The first one is the floating mechanism. This is when the value of the currency is determined by the free market - the powers of demand and supply. The advantage of this mechanism is that theoretically the exchange rate should automatically adjust which will eliminate any imbalances withing the Balance of Payments. The other is the fixed mechanism. This is when the exchange rate is fixed and determined by the government or central bank of a country. The bonus to this is that it gives more stability to the value of the currency but runs the risk of goods becoming to un-competitive if it's too high or the market can be flooded if it's too low.

That's the lot for exchange rates, thanks. Also, any requests for what to come next? Post it in comments and ill see what i can do. Thanks for reading, follow the blog if you enjoy!

Monetary Policy (Macroeconomics)

Monetary policy, liked with fiscal policy is another tool the government can use to control the economy. Monetary policy involves the use of exchange rates, interest rates and the money supply to manage the economy.

Firstly, interest rates. These are set by the MPC and are mainly used in the U.K to try and achieve the inflation target of 2.0%. The theory is that a reduction in interest rates will give consumers more disposable income through lower loan repayments and this will boost the consumption factor of Aggregate Demand. Also, it should make businesses take out loans more willingly as borrowing money becomes cheaper and thus the investment factor of Aggregate Demand will rise also. Overall, a fall in in interest rates should create a rise in the real GDP of the country. It works the opposite way with a rise in interest rates, this should reduce the real GDP of the country as well as control inflation.

Interest rate changes also effect the Balance of Payments. Interest rates in the U.K. rising will cause a flow of 'hot money' into the economy as people will benefit from the higher returns of putting their money in the U.K. This flow will increase the demand for the pound, so the value will appreciate. The knock on effect of an appreciation in the value of the pound is that our exports become more expensive and it becomes cheaper for us to import goods. This will worsen the Balance of Payments. Obviously, the opposite will occur with a fall in interest rates.

Exchange rates was another tool under the title of 'Monetary Policy'. By managing the exchange rate, the Bank of England can buy and sell pounds to influence the exchange rate. This will control the competitiveness of U.K. exports and therefore help control the Balance of Payments. However, the government doesn't generally take this approach as they let the free market determine the value of the pound. One instance where this is sometimes done is in China.

The final tool under the 'Monetary Policy' heading was the money supply. This is where the government can increase or decrease the amount of money in the economy. The idea behind increasing the money supply is that it should stimulate Aggregate Demand as people have more money to spend and businesses have more money to invest. However, this method is very inflationary and is widely avoided. Decreasing the money supply will have the opposite effect to the above.

That's it, the three parts involved in the 'Monetary Policy' tool the government has at its disposal. Thanks for reading.

Fiscal Policy (Macroeconomics)

Right, this post will discuss the basics of fiscal policy. Basically, fiscal policies are any policies that relate to government spending and government taxation - the government uses these two tools to manage the economy and redistribute resources.

The budget plays a big part in fiscal policies. Depending on what fiscal policies have been employed by the government depend on the position of the budget. If the government spends more than it receives through tax receipts then it will have a budget deficit. If it receives more than it spends then there will be a budget surplus.Two other terms that come about when talking about the budget are the following:

• Public Sector Net Cash Requirement (or PSBR) - This is an account of how much the government has to borrow in order to balance the budget.
• Public Sector Debt Repayment (or PSDR) - This is when the budget is in surplus and the government can pay back some loans.

When using taxation as a fiscal policy, the government can change the rates of direct taxation or indirect taxation. Direct is tax paid straight from the income, wealth or profit of individuals or firms (income tax or corporation tax). Indirect is tax paid on goods and services (VAT or council tax).

The effects of fiscal policies are as follows, generally:

• A rise in taxes / a cut in government spending leads to a fall in aggregate demand.
• A cut in taxes / a rise in government spending leads to a rise in aggregate demand.

Now for the rules. "The Golden Rule" is a rule relating to the Labour parties thoughts that fiscal policy should be stable and consistent. This rule states that tax receipts should cover all government spending and that borrowing by the government should only be done for investment purposes. This rule applies over an economic cycle, not on an annual basis.

Another rule is the "Sustainable Rule". This states that government debt should be kept at a stale level. This means that debt shouldn't rise above 40% of GDP, this target is to be met every year.

Fiscal policy basics complete. Thanks. 

Unemployment (Macroeconomics)

So, unemployment - another well known phrase.

The definition of unemployment is the number of people in the workforce who are willing and able to work and actively seeking employment, but are not currently employed. It is measured in two ways: The Claimant Count and The Labour Force Survey.

The Claimant Count measures the number of people that are in receipt of unemployment related benefit. It's the cheapest way for the Government to measure unemployment, but not the most accurate method. The measure doesn't include anyone under 18 or anyone over 60, as well as many other social groups.

The Labour Force Survey is a survey of 60,000 people taken every 3 months. You are classified as unemployed if you are out of work, of working age, available to work in the next two weeks and in search of paid employment. This is more accurate than the Claimant Count and allows for European comparison as it's the method used in the rest of the continent.

The main types of unemployment are as follows:

• Structural/Occupational - Caused by changes in an industry.
• Frictional - Caused by people leaving their job ready to start a new one.
• Seasonal - Caused by the seasonal nature of some jobs.
• Cyclical - Unemployment caused by the economy, bust periods mainly in which there is low consumer demand.
• Regional/Geographical - Job vacancies in different locations to the people actually seeking jobs.

There are many consequences of unemployment. Firstly, tax receipts for the government fall, meaning they get less income and have less available to spend on public goods. Also, unemployment leads to a fall in demand levels in the economy and because of this businesses suffer a fall in revenue and profit. The Government, during periods of unemployment, has to spend more money on welfare benefits - leaving even less money to be spent in the economy. Finally, it can lead to an overall fall in peoples living standards. 

Unemployment, in a nut shell. Thanks.

Inflation (Macroeconomics)

Inflation is a term that is thrown around a lot, so therefore it's a well known term. However, i'll still write this post to add some details and other information.

Inflation is defined as a rise in the general level of prices over a period of time. It is measured using The Harmonized Index of Consumer Prices (HICP). It measures the average weighted increase in the prices of a typical basket of goods. Inflation was previously measured using the Retail Price Index (RPI).

Inflation can be caused by either demand-pull or cost-push factors. Demand-pull inflation occurs when there has been an increase in the level of demand in an economy - basically there are too many people chasing too few goods. This is illustrated by a rightward shift of the AD curve on an aggregate demand/supply graph.

The other type of inflation, cost-push inflation, is caused by firms raising their prices because of increased wage costs, cost of raw materials or components. Basically, anything that makes production more expensive and causes the firms to raise prices. This type of inflation may be down to imported inflation, which is when we import from abroad a good that's price has risen because of inflation in the country it came from.

To summarize: Inflation is when prices of goods rise over time, caused by either demand-pull or cost-push factors. That is all, in brief.

Thanks for reading.

The Trade Cycle (Macroeconomics)

In the economy, there are times in which people spend more and manufacturers produce more. There are also periods in which the opposite occurs.. telling us that the amount of economic activity fluctuates over time. Economic activity refers to the level of spending, production and employment in the economy at any given time. More economic activity normally means increased economic growth.

Economic activity is measured by GDP, which stands for Gross Domestic Product - the value of all goods and services produced within the economy in a given time period. The trade cycle describes the fluctuation in economic activity over time.

Here we have a diagram that maps out the fluctuation in economic activity. At the peak of the trade cycle there is high levels of demand and investment, pay increases, profits are high, increased house prices and strong inflationary pressures. 

In the recession period there is negative growth, meaning GDP is falling.. for two successful quarters (6 months). In this time there is normally falling demand, low investment, rising unemployment and a fall in profits and confidence. 

The slump is when the economy has hit the bottom of the trade cycle.. The only way is up after that (hopefully!). Here we have high unemployment, very low levels of demand and investment and low inflation. 

Finally, the recovery period. This is when the economy starts growing again - GDP rises again. We'd expect a rise in incomes, output and employment here. Also, there should be increases in demand and investment as the economy starts to grow again. 

One of the government macroeconomic goals is to achieve stable economic growth - meaning these fluctuations aren't desirable. Therefore the government takes measures to try and avoid the worst effects of the trade cycle - these are called counter-cyclical policies. They are: 

• Changes in the tax levels.
• Changes in public spending.
• Interest rate changes. 

That is the lowdown on the trade cycle, hope it helps. Thanks for reading. 

Economic Growth (Macroeconomics)

Economic growth is when an economies Real GDP increases, so a sustained increase in real output and income in a period of time. It can be shown by an outward shift on a PPF curve or a rightward shift of AD on an AD/AS diagram, providing there's enough spare capacity in the economy.

Economic growth is caused by anything that increases AD, providing there is enough spare capacity available. What also causes it is increases in the efficiency in using factors of production. What can cause this is improvement in education and training, improving labour mobility, increasing competition and obtaining more factors of production.

The benefits of economic growth include:

• Increased output, employment and income.
• Improved standard of living.
• Improved health, education and public services.

However, there also costs of economic growth. These are:

• Degrading of the environment by using up resources and creating waste.
• Increased stress and a faster pace of life.
• Increased inequality, difference between rich and poor.

That's the basics of economic growth, you can come to your own conclusion about whether it is desirable in large quantities etc. Thanks.