Inflation and Unemployment - Assignment Example

Name : xxxxxxxxxxx Institution : xxxxxxxxxxx Course : xxxxxxxxxxx Title : Inflation and Unemployment Tutor : xxxxxxxxxxx @2010 Inflation and Unemployment Introduction Inflation is defined as a trend in increase in prices for a certain period of time. Inflation is determined by considering the Retail Price Index (RPI) which involves comparing of prices per month for those goods that are commonly purchased by the customers. The value that is acquired is expressed as an index number of one hundred and then the total per month is compared. The government also uses RPIX to measure inflation, a tool that excludes the mortgage interests. Inflation may be classified into three classes depending on the cause of the inflation. The first one is the Demand-pull inflation which occurs as a result of increase in demands for goods and services that pulls the prices up. This results in an increase demand for wages and consequently the prices of commodities. Cost push inflation is where the prices of imports rise hence pushing the prices for all other commodities. For example a rise in the prices of oil may lead to a rise on the prices of many other commodities. Money supply inflation is explained by the monetary theory as an inflation that is caused by an increase in supply of money. The amount of money in circulation raises leading to a fall in its value (Hudson 1999). Inflation may have both negative and positive effects. To the lenders and borrowers of funds, the borrowers may benefit while the lenders loose. Borrowers may benefit since they will be paying little amount in real terms in times of inflation since the interests rate may be low. To the lenders, they will loose because the repayments will be little that expected in real terms. People demand a rise in wages form the government and the government may in turn require a rise in payment of taxes. Those people whose income rates are fixed may also be on the losing end since the prices of commodities rise and their incomes cannot be adjusted. Unemployment id defined as the number of people who are willing and are qualified to work but do not have the job to do. Employment is counted as the number of people who have registered with the government as unemployed and have forwarded their claims for benefits. Unemployment rate is therefore defined as the number of workers who have no jobs and are found in the official records. Unemployment may be in various forms depending on the cause. Seasonal unemployment results in the jobs that are determined by the seasonal or the time of the year, for example jobs in the agricultural or the tourism sectors. Frictional unemployment is where some people have been declared redundant or where people are changing form one job to another. Structural unemployment results where the demands for goods and services change followed by changes in technology. Cyclical unemployment results when the general demand in the economy is low and most firms require few workers. Technological unemployment is caused by automation of the work and improvement in technology. International unemployment is caused by high prices on low quality goods in the UK while regional unemployment is caused by concentration of a large number of the dying industries in a particular region. Voluntary unemployment is where the worker may decide to stay unemployed where they are getting more money from other sources other than employment. Effects of unemployment include loss of output since the opportunity cost of every unemployed person is equal to their foregone output. Another effect is increase in payment of benefits since unemployed person does not pay tax and is expected to receive benefits from the government of the UK. There is also loss of tax revenue because when one loses his or her employment, the rate of spending is reduced and the government will therefore receive fewer benefits from the VAT. Unemployment also has some human costs since those who remain unemployed for a long time feel isolated and alienated from the other member of the society. To combat the high rates of unemployment in the country, the government applies some policies such as offering grants to the affected areas, relocating its offices and issuing subsidies on employment (Romer 1997). Economic growth and its measurement Economic growth is an indicator of the raise in the per capita GDP (Gross Domestic Product) or nay other tool used to measure the total income. Economic growth is measured as the rate at which the GDP changes. Economic growth can come out either negative or positive. When the economic growth is negative, it is said that the economy is shrinking. This is related to economic recession and depression. A recession is a contraction in the business cycle characterized by a reduction in the economic activities for certain duration of time. Recession is usually caused by an extensive reduction in the rate of spending and the government may respond to this by increasing their supply of money (Barro & Martin 2004). Gross Domestic Product (GDP), is a figure that is obtained after measuring the total economic output in a country. It is the total value in the market of all the completed goods and services that leaves the border of the country. GDP has been used to directly determine the standards of living in the country but has however faced criticism from many countries and an alternative measures are being sought. GDP is therefore the tool that is used by the economists to measure the economic growth. There are three ways of measuring the GDP which are supposed to yield similar results. These are the product method, income method and the expenditure method. The output or the product method adds the total output of all the groups of ventures to reach to a total. In this method, all the units of production, both corporated and unincorporated ventures are constitute the business sector are put into different classes such as agriculture, manufacturing among others. The outputs of the various units are then estimated based on the surveys that indicate the businesses that fill out plus the services from the properties owned by various households (Sharp & Great Britain Government Statistical Service 1998). The expenditure method follows the notion that since all products have to be purchases by a person, the total value of all the purchased products should be equal to that of the people’s expenditure. In the existing forms of economies, most of the produced goods are usually for sale and production can therefore be measured by determining the total money spent in buying the produced goods. The income methods follows the principle that the total earnings of the factors of production, that is the producers, must have a value equal to that of their products and the GDP is therefore determined by adding all the incomes of the producers all together. When it is calculated by following this method, it referred to as Gross Domestic Income. In the terms GDP, Gross means that it is measure of all the production without considering the uses of the products. Domestic means that the production that is measured by the GDP is one that is produced within the home country not form imports (Shaw 2010). Economic indicators An economic indicator is defines as a statistic concerning the economy. They give way for the analysis of how the economy is performing and giving predictions about the future performance of the economy. Examples of economic indicators include economic summaries, earnings reports and various indexes. The major economic indicators in the United Kingdom are the rate of growth of the GDP, the rate of unemployment, the interest rate at the Bank of England, government borrowing, three month treasury rate, public debt, inflation rate and imports and exports (Grant 1999). Intense borrowing by the government of the United Kingdom over the past few economic cycles has resulted in a serious structural deficit, suggestive of the previous number of recessions in the United Kingdom which will certainly worsen the situation and place the economy of the United Kingdom in an undesirable position. However, there has been a sudden shot in the spending rate on investments following reduction in interest rates, leading to sudden increase in consumption as a result of tax reduction and all this has resulted to more than expected expansion in the economy. This has therefore affected inflation by reducing the inflationary gap in the United Kingdom. Inflation is also caused by the higher prices on commodities that make people demand for more wages and when this process repeats itself severally, it may lead to inflation. This has been indicated in the public sector borrowing graph that is produced by the office of national statistics in the UK (Rogers 1998). Latest figures on the economic indicators in UK Inflation From the report of changes in economic indicators posted by the report from the office for national statistics in UK, there is a positive value on the figure on inflation. For the period between April and May 2010, there is a monthly increase of consumer price index of 0.6%. This indicates that inflation is still on increase. Economists and monetarists forecast a further increase of 0.4% per month and an annual increase of 3.5%.Some of the reasons attributed to this were the high rise in the prices of oil and the reduction in VAT and other taxes by the government. Unemployment Unemployment also indicated a positive value on the report indicating that it is also on increase. Following the report by UK national statistics, the unemployment rate was 8.0% by 12th may 2010. The working age employment also reduced by 1.5% form the previous year. The reasons for the increase unemployment were increase in redundancy and few job vacancies in the industries. The performance of some industries went down due to high fuel prices thus reducing the number of workers required. Economic growth Economic growth indicated both positive and negative values. This means that there was rapid fluctuation in the economic growth. In the last quarter of the year 2009, the GPD in UK had increased with 0.4% but dropped the increase to 0.2% in the first quarter of 2010. This has been associated with weaker growth in the service industries. The service industries previously contributed greatly to the GDP of UK and the decrease in there performance led to a slow down in the economic. The GDP of the United Kingdom is composed of 76.2 percent from the services sector. This is the most dominant sector in the UK economy. The most dominant among the industries are the banking, insurance and the business services. The banking sector accounts for a quarter of all the profits form the corporate organizations. The second is the industry and manufacturing that accounts for 22.8 percent of the GDP. The other percentage is covered by the agricultural sector that meets 60 percent of the food needs of its people. The graph below represents the cumulative sector net balance and the net debt. The interest rates at the bank of England are also affected by the rate of inflation. In its quarterly report, the bank confirmed that it is expecting its rate of inflation to go below its target of two percent. This ended al the pressures that were put on the bank of England to raise their interest rates. The other indicator of unemployment has been affected by various factors such as geographical immobility where people face difficulties in moving to regions where they can easily get jobs. Another factor leading to unemployment is the change in technology that leads to labour saving equipments hence reducing the labour demand. Changes in the structure of the economy also led to unemployment for example where there was an end to coal mines; those who used to work there were left unemployed and could not easily get jobs in other industries (Frumkin 2006). The rate of government borrowing as an economic indicator in UK is represented in the graph below. Fiscal policy and tax spend Fiscal policy entails the use of government spending, borrowing and taxation with the aim of influencing the pattern of economic activities and the level at which the collective demand, output and unemployment grows. Fiscal growth changes usually have an effect on collective demand and supply. There is however a contrast of ideas between the Keynesian school and the monetarist economist. The Keynesian school explains that fiscal policy may have strong influence on the collective demand, output and unemployment at times when the economy is performing well and when there is a need to give the demand-stimulus to the economy. They therefore argue that the government has a clear role in making an active use of the fiscal policy measures in managing the level of collective demand. The monetarists however argue that government spending will only have temporary effects on the collective demand, output and employment (Walsh 2003). Reduction of VAT from 15 to 17 percent increased the rate of borrowing by the investors and consequently the rate of investing. The number of investments in the economy therefore increased and this helped in creating more jobs for the unemployed. The VAT is however being expected to return to 17 and a half percent and many people are busy shopping before the tax is back on increase. However this had a little impact on the unemployment which had increased form 5 to 8 percent since the economic crisis had began in UK (Makin, 2002). UK Car “Scrappage” scheme This was a voluntary scheme carried on by the motor dealers in the UK. The dealers would join and give to a person £2,000 discount on a new vehicle if the person allows them to take off his or her old vehicle. It was mainly an activity that was intended to scrap the old vehicles from operation. For example, Citroen, C3 range was being discounted to those people whose vehicles were registered before 1st September 2003. This scheme was set to run form mid May 2009 to March 2010. The reasons for the scheme included to boost the car industry in UK which had been greatly affected by the economic recession, to reduce carbon dioxide emission by the old vehicles and also for the safety features that were available in the new vehicles (Great Britain: Business and Enterprise Committee, 2009). Monetary policies / interest rates Monetary policy is the use of interest rates and money supply level by the government to manage the economy. The Chancellor of UK used to set the interest rates but this was changed by the incoming Labour Government since 1997 which gave the role to the Bank of England. The bank of England was let to operate independently such that it could set inflation targets and also the interest rates to a level that can help in achieving the inflation targets. If the Monetary Policy Committee foresees a decrease in inflation to such a level that they might meet their target, they consider reducing the interest rates. Interest rates have been reduced to as low as 0.5 percent. This has encouraged people and enterprises to borrow and has also helped those with mortgages to have money to spend as they pay their mortgages. All these efforts have led to an increase in the levels of investment and consumption. Since the two are the major constituents of aggregate or collective demand, a reduction in interest rates should bring an increase in economic growth and a decrease in the level of unemployment. However a reduction in the interest rates would mean that more money is allowed to be supplied and this might lead to inflation. The monetary policy committee is therefore the one that oversees the possibility of inflation and d they regulate this by controlling the interest rates. When interests rates are higher, people are discouraged form borrowing and there is less consumption. Effects of the recession on the economy of Blackburn with Darwen The Blackburn and Darwen council is in charge of managing tax payers’ money and making savings on their behalf where possible. The council is however trying to reduce the impacts of recession that had faced Blackburn. The recession had several possible impacts on the economy of Blackburn that includes high levels of unemployment. Unemployment takes time to rise and when it already occurs, it also takes time to go down. The ratio of the economically active citizens to the working age citizens in Blackburn and Darwen is below the average numbers in the regional and national levels. This has led to a great number of citizens who demand for benefits form the government for unemployment. Another possible impact of recession to the economy is increased borrowing. Recession leads to reduced revenue on taxes, a rise in the level of spending by the government especially on benefits to the unemployed. With the large number of unemployed people in Blackburn with Darwen, there is more spending on those benefits and consequently more spending by the government. Recession may also lead to a decrease in the rate of investments in Blackburn with Darwen. This is because f the high volatility of investments as compared to the economic growth. When recession slows down the rate of economic growth, the rate of investment also falls. Other impacts have already been noticed in Blackburn with Darwen where most of the houses are in poor condition as compared to other areas in England. This is due to the low income of the majority of the population making them to lead a low life standard. Business activity has also gone down since most of the jobs in Blackburn are in the manufacturing sector. The statistics collected in the year 2007 indicated an increase of nine percent of employment in the manufacturing sector. However, the manufacturing work s on decline in Blackburn with Darwen and this will claim jobs of several people on the area. The impacts of the recession were worst experienced by main working age group of between 25 to 49 years with their number doubling. Bibliography Barro, R., & Martin, X., 2004, Economic growth, MIT Press, Cambridge. Rogers, M., 1998, Handbook of key economic indicators, New York, McGraw-Hill Professional. Grant, J., 1999, A handbook of economic indicators, University of Toronto Press, Toronto. Great Britain: Business and Enterprise Committee, 2009, The automotive industry in the UK: ninth report of session 2008-09, report, together with formal minutes, oral and written evidence, The Stationery Office, Birmingham. Frumkin, N., 2006, Guide to economic indicators, M.E. Sharpe, London. Makin, A., 2002, International macroeconomics, Financial Times Prentice Hall, Boston. Hudson, J., 1999, Inflation: a theoretical survey and synthesis, Routledge, New York. Romer, C., 1997, Reducing inflation: motivation and strategy, Chicago, University of Chicago Press. Sharp, P., & Great Britain Government Statistical Service, 1998, GDP: output methodological guide, Office for National Statistics, Edinburgh. Shaw, B., 2010, GDP: A Business Perspective, VDM Verlag, New York. Walsh, C., 2003, Monetary theory and policy, Part 5; Parts 199-216, MIT Press, Cambridge. Read More