After reading this tutorial, you should have some insight into inflation and its effects. For starters, you now know that inflation isn't intrinsically good or bad. Like so many things in life, the impact of inflation depends on your personal situation.
Some points to remember:
- Inflation is a sustained increase in the general level of prices for goods and services.
- When inflation goes up, there is a decline in the value, or purchasing power of money.
- Variations on inflation include disinflation, deflation, hyperinflation and stagflation.
- Theories as to the cause of inflation are up for debate. Some common theories include demand-pull inflation, cost-push inflation, and monetary inflation.
- When there is unanticipated inflation, creditors lose, people on a fixed-income lose, menu costs go up, uncertainty reduces spending and exporters aren't as competitive.
- Lack of inflation (or deflation) is not necessarily a good thing and can lead to destabilizing deflationary spirals.
- Inflation is measured with a price index.
- The two main groups of price indexes that measure inflation are the Consumer Price Index and the Producer Price Indexes. The GDP- and Price-deflator are also used.
- Interest rates are decided in the U.S. by the Federal Reserve. Inflation plays a large role in the Fed's decisions regarding interest rates since it uses inflation-targeting as a policy.
- In the long term, stocks and precious metals are good protection against inflation.
- Inflation is a serious problem for fixed income investors. It's important to understand the difference between nominal interest rates and real interest rates.
- Inflation-indexed securities offer protection against inflation but offer low returns.
How To Write A Macroeconomic Policy Mix Essay In HSC Economics
Thinking about some of the harder topics in the syllabus, and a possible question that could be examined, I thought it would be a good idea to offer a step by step overview of writing an essay on macroeconomic policy.
Post written by Chloe Segal (10th in the state Economics, 11th in the state Business Studies and 4th in the state English Advanced 2015). See all articles first and personally get in touch with our state rankers here
I know a lot of people struggle with this topic due to the shear amount of content that has to be covered in a short essay, so if that’s you then take a look at this guide and hopefully I will clarify all your queries and leave you feeling confident to write this essay in the HSC!
For this guide, the sample question I have chosen is:
Assess the effectiveness of macroeconomic policies in achieving economic objectives in the Australian economy.
What to include in the introduction?
In the introduction you need to include three main points:
- Explain what constitutes macroeconomic policy — i.e. fiscal and monetary policy collectively represent macroeconomic policy tools
Example: Macroeconomic policies refer to fiscal policy and monetary policy, which have a countercyclical role in reducing fluctuations in the business cycle.
2. Define fiscal and monetary policy and incorporate a current statistic
Example: Monetary policy refers to actions by the RBA to influence the supply and cost of credit in the economy. The main tool of monetary policy is the RBA’s use of domestic market operations to influence the cash rate or interest paid of overnight loans from the cash market or short-term money market. This involves buying and selling second hand commonwealth government bonds and repurchase agreements. Currently, the RBA has set the cash rate at 1.5% in an effort to stimulate aggregate demand.
Fiscal policy is a countercyclical macroeconomic policy that involves the use of taxation and government expenditure to allocate resources to achieve economic objectives and general policy goals. These goals relate to internal balance and therefore aim to achieve price stability and a sustainable rate of economic growth. Currently, the government has adopted a contractionary fiscal stance, aiming to reduce the budget deficit which is currently 2.4% of GDP.
3. Explain what economic objectives fiscal and monetary policy target and briefly mention the effectiveness of current macroeconomic policies
Example: Recently, the effectiveness of monetary and fiscal policy in achieving objectives related to inflation, economic growth, unemployment and income distribution, has been hindered by external influences related to economic conditions in the global economy.
In terms of structuring your body paragraphs I recommend creating a table which has economic objectives as rows and fiscal and monetary policy as columns. Then for each cell write summary notes on policies to discuss and evaluate whether they were effective or not.
You can also structure your response in terms of time periods. As conditions in the economy fluctuate, economic objectives change so fiscal policy and monetary policy have to be flexible and adapt to meet new objectives throughout the different time periods.
Sample body paragraph on fiscal policy:
Fiscal policy can be deemed effective during the GFC as the Australian economy remained resilient in the face of external shocks. Cyclical unemployment was minimized as the rate of unemployment fell from a peak of 5.8% in 2009 to 5.2% by 2011, reflecting the positive impact of targeted education policies and unemployment initiatives. In addition, the Australian economy avoided a deflationary spiral as fiscal policy lifted inflation from 1.7% in 2009 to 3.3% in 2011. Fiscal stimulus lifted economic growth from 1.1% in 2009 to reach trend growth of 3% by 2011, shielding the Australia economy from the repercussions of a recession.
Sample body paragraph on monetary policy:
The effectiveness of fiscal policy was supported by a parallel approach taken by the RBA, which adopted an expansionary monetary policy stance during the GFC, through lowering the cash rate from 7.25% in 2008 to 3% in 2009. The objectives of monetary policy were akin to those of fiscal policy, with an added emphasis on achieving the inflation rate target of 2–3% over the medium term. To achieve the objective of price stability the RBA adopted a loose monetary policy stance by buying second hand Commonwealth government securities and depositing funds in exchange settlement accounts, increasing the supply of loanable funds. This boost to liquidity put downwards pressure on the cash rate.
Points to discuss when addressing effectiveness of fiscal and monetary policy
- More effective during a boom
- Quicker to implement but slower to impact (6 to 18 month time lag)
- Rarely effective when used on its own (needs to be supported by similar fiscal policy settings — currently working in opposite directions due to fiscal consolidation)
- Effective during the GFC (prevented recession — one quarter of negative economic growth)
- Independent from political pressure
- Breakdown in the transmission mechanism (banks don’t pass on interest rate cuts, consumers still reluctant to increase consumption, $A may not decrease)
- Limited as it is demand based and cannot target structural weaknesses (targets demand pull inflation not cost push inflation)
- Cannot successfully address the problem of a high CAD because it cannot bring about a structural improvement in international competitiveness or the level of national savings
- More effective during a downturn due to the shorter time lag
- Political constraints (election cycle, lobby groups)
- Avoided recession during the GFC
- Can target specific types of inflation and unemployment
- Slower to implement but quicker to impact
Incorporation of diagrams
Monetary policy diagrams
- Cash rate diagram
- Aggregate demand aggregate supply diagram
- Short Run Phillips Curve
- Deflationary gap diagram
- Inflationary gap diagram
Fiscal policy diagrams
- Inflation rate diagram (cost push or demand pull)
- Negative externalities diagram (social cost)
- Lorenz Curve
Incorporation of quotations
In terms of quotations always try to find something from the RBA’s website for monetary policy. You could use the following quotation to support an argument about effectiveness:
Glenn Stevens (on the reason why monetary policy in Australia is losing its effectiveness):
‘On the demand side, it seems more difficult to generate growth in spending in an economy where households are carrying significant debt.’
This means that the marginal return the RBA gets, in terms of an uplift in economic growth, for any given 25 point rate cut, is falling because Australian’s either are unwilling, or unable, to take on any more debt. Therefore, you could argue that rising levels of household debt are a factor constraining the effectiveness of monetary policy in achieving objectives related to economic growth and inflation targeting.
In terms of the effectiveness of fiscal policy you could quote Arthur Sinodinos (Australian political) who argues:
‘Structural reforms will release the handbrake on growth by improving the allocation of resources and relieving capacity constraints.’
Post written by Chloe Segal (10th in the state Economics, 11th in the state Business Studies and 4th in the state English Advanced 2015)