Introduction
As responsible citizens of the nation it is important to comprehend the economic decision taking of the government and understand how it affects the people in general. We must have an idea about whether a policy decision will have a positive impact on us or it will have any adverse effect. It may also have diverse impacts on different sections of the society. A policy may be taken to boost a certain sector but it may have a drag own effect on some other sector. To analyze the government policies we should have a sound knowledge about some key economic concepts. In this paper we present some key concepts and the impact of government policies on these economic variables. We evaluate the government policy in light of the impact on the key economic variables. We base our analysis on the economic terms and policy decisions discussed in the ‘Semiannual Monetary Policy Report to the Congress’.
Economic Issues Addressed
The discussion in the aforementioned report pivots round the issue of unemployment and inflation. We know that the economy was in severe depression during 2008-09. Employment had reached a very low level. The economy is now on the path of recovery and aims at reaching the full employment level . The recession of 2008-09 reached the trough in 2010 when unemployment was the highest. Since then the economy had started recovering. Labor market conditions have improved with 13 million jobs created since 2010. The unemployment rate now stands at 4.9%.
The impressive growth in the job market was not matched by an equally impressive GDP growth rate. The economy is growing consistently at a moderate rate of around 1%. This moderate growth can be attributed to the recessionary conditions prevailing in many countries of the world at present. The slowdown of a number of economies around the world has reduced the volume of US exports that has led to a somewhat subdued growth figure. Another dampener on exports was the appreciation of the US dollar. The higher dollar value means higher prices of US goods in the world market which has reduced the demand for US exports.
Reduced exports had been a drag on the growth of the economy, but the growth remained consistent, riding on the steady increase in consumer expenditure. The high job growth has led to a higher disposable income in the hands of the people. In addition to that lower fuel prices have led to higher consumer expenditure from the expenditure saved from fuel. The lower fuel prices have adversely affected some sectors like the mining sector where job cuts have been recorded. The financial situation in the US has also adversely affected the growth of the economy. Thus higher job growth and the consequent increase in spending, lower fuel prices have boosted the GDP growth while lower exports and dismal financial status has adversely affected growth. SO growth remained at a moderate level.
A rise in the employment rate leads to an inflationary situation. According to macroeconomic theory there is an inverse relationship between inflation and unemployment . Though unemployment in the US economy has come down significantly inflation still remains at a low level even less that the targeted 2% rate. This low inflation rate is due to the recent continuous plunge in the oil prices.
Thus we see that three major issues have been discussed in the report, rise in employment, GDP growth rate and the low inflation rate. The issues regarding falling exports, stronger currency, consumer expenditure and aggregate demand have also been dealt with in discussing the three major issues.
Part 2: Key Economic Concept
The report we are discussing have given a brief macroeconomic overview of the economy in terms of some important macroeconomic variable like the unemployment, inflation, GDP growth, consumer expenditure, exchange rate and exports. But the key element that the report addresses and finally takes a policy decision upon is the inflation rate. During a recessionary period an economy faces a situation of falling prices that we term as deflation. But as the economy starts recovering and poses itself on a steady growth path inflationary pressures start building up. Thus a steady growth is accompanied by rising apprehensions about rising inflation rate. If inflation reaches an alarming it calls for a drastic cut in the interest rate. But this drastic cut to curb inflation can lead to adverse effect on investment and pulls down the economy to a recessionary trough. This apprehension is reflected in the report. The high job growth that the US economy is experiencing at present should have already put an upward pressure on the price level. This inflationary trend has been checked due to the rapid fall in the fuel prices. Moreover the growth has also been subdued due to fall in exports. The moderate growth was also a check on the inflation rate.
Part 3: Impact of Inflationary Trend
The policy makers have expressed concern over the possible high inflation rate in near future. The high employment generation rate along with high consumer expenditure will ultimately lead to higher prices once the fall in the fuel prices is moderated. The report advocates a policy induced increase in the interest rate to check the possible future inflationary trend.
If the inflation goes uncontrolled, the rising prices will lead to fall in consumer expenditure which will reduce the growth rate due to lower aggregate demand. In addition to that the inflation will lead to a further fall in the volume of exports thereby affecting growth. Thus unchecked inflation can finally lead the economy towards another recession.
Conclusion
The Fed had hiked the interest rate in December, 2015 after seven years of low interest rates. The Fed had justified its stand by contending that it had confidence on the US economy which has a favorable job market situation and is on a sustainable growth path . The central bank opined that the economy now requires less central bank support by way of low interest rates. Since the rate increase in December had no adverse effect on the high employment growth rate and GDP figures as anticipated by the Fed, the central bank is considering further hike in the rates.
In this context it should be noted that the economy is going through a weak financial situation. This weakness has a dampening effect on the GDP growth. Rate hike by the Fed can further aggravate this problem and lead to a gloomy investment situation. Thus further rate hike should be taken with caution. Furthermore, with still a low inflationary situation a rate hike might lead into a deflationary condition if the employment growth cannot overweigh the effect of falling fuel prices.
References
Hilsenrath, J., & Leubsdorf, B. (2015, December 16). Fed Raises Rates After Seven Years Near Zero, Expects Gradual Tightening Path. The Wall Street Journal. Retrieved from http://www.wsj.com/articles/fed-raises-rates-after-seven-years-at-zero-expects-gradual-tightening-path-1450292616
Levacic, R., & Rebbman, A. (1982). Macroeconomics: An introduction to Keynesian-neoclassical Controversies. Macmillan.
Mankiw, G. (2013). Macroeconomics. Macmillan.
Yellen, C. J. (2016). Semiannual Monetary Policy Report to the Congress. U.S. House of Representatives, Committee on Financila Services, Washington, D.C. Retrieved from http://www.federalreserve.gov/newsevents/testimony/yellen20160210a.htm
