Question

Suppose that you are an economic adviser to the government of Country A. The country has a current account surplus and is facing gathering inflationary pressures.
a. Show the location of the Country A on the II-XX diagram
b. What would your advice be on how the exchange rate should be adjusted?
c. What would be your advice about the fiscal policy? In that regard, you are given three
pieces of data. First, the current account surplus is big, in excess of 9% of GDP.
Second, Country A provides a rather low level of government services to its people.
Third, the government would like to attract workers from the rural countryside into
manufacturing employment, so officials would prefer to soften any negative impact of their policy package on urban employment.

Answer 1

(A) Here we have four quarters which interpret differently. Country A lies in the quarter which states Underemployment and excessive current account surplus. Underemployment comes from inflationary pressure, when there is inflation in the economy firms would be willing to pay more wages to workers, creating more supply of workers in the market. When supply of workers exceed demand of its, underemployment starts.

(B) This II-XX graph shows that your imports are greater than exports for the quarter in which you are currently. When imports are greater than exports, you are habitual to the goods of importing country, here importing country will have strong economy. Take example of India and USA, when imports from USA exceed, the exchange rate($/Rs) increases. So to keep a balance on exchange rate while you are having underemployment and excess surplus, you can impose some tariffs on imports and give some subsidies on exports. Giving subsidies is more feasible as in this globalized world, imposing tariffs is not easy. After all economy have surplus so get benefit of it in giving subsidies. Market will come back to its equilibrium in some time.

(C) Fiscal policy is the formulation of government spending and collection(taxes) to monitor economic impact. Collecting the three pieces of data. If government is spending less in country, it can increase its spending in following areas in providing education to the society focusing majorly on urban sector because as you are inviting rural workers for manufacturing process because they can be hired in low wages. giving education to urban sector will land them in best suited job or they will start their own venture. For opening venture you can give them loans in minimal interest rates. Keep in mind that you have enough surplus so you should keep tax an minimum level so anyone do not have any disincentive to earn.