Question

Macropoland is currently experiencing a recession--consumption and investment are very sluggish, and unemployment is quite high at 9%. Currently, inflation is very low at 0.4% (the historical average rate of inflation is about 2%). The Macropolish President has just hired you as her economic advisor. Your job is to prescribe policy that would enable the economy to recover from the recession. Explain how you could use the standard tools of expansionary monetary policy and expansionary fiscal policy to stimulate this economy towards economic growth.

Develop a response that includes examples and evidence to support your ideas, and which clearly communicates the required message to your audience. Organize your response in a clear and logical manner as appropriate for the genre of writing. Use well-structured sentences, audience-appropriate language, and correct conventions of standard American English.

  

Answer 1

Since the economy is experiencing very low inflation, the immediate response should be to pump in some more money into the economy so that prices can rise up to the point that is required to generate more supply into the economy. This would require lowering the interest rates so that less money would be saved and more would be spent. Not only will this increase the amount of money in circulation in the economy but also push up aggregate demand because with low interest rates, poeple will spend more than they save. This will also push up investments as there will be lower interest ono borrowings. With investments going up, it will accelarate aggregate supply as more investments will be made in the productive sectors. Thus, lowering interest rates will solve the problem of low consumption and low investment in the economy. However, if the nation falls into the liquidity trap, there is little that lowering interest rates can do to revive the economy. In this case, as Keynes pointed out after the Great Depression, government intervention in the economy is necessary. The government has to actively spend in the economy to revive aggregate demand, and also help create more jobs in the economy. This can be done by investing in more infrastructure projects that will help create more employment opportunities in the economy. This will increase the per capita incomes of the poeple and that will generate more demand for the goods.