Rbe Running The British Economy

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Running the British Economy

Being a chancellor is a huge and demanding job, as the chancellor of the United Kingdom; my job will be to use macroeconomic policies, to stabilize the economy, and to increase the welfare of the people.

Y = GNP = C + I + G + (X - Z)

WELFARE = 3[C0.6 x (I+ X - Z) 0.2 x G0.2] - U 2 - INF 2 - 5*BUD

From these equations we can see thatto achieve the highest welfare and sustainable growth I will try to keep:

a) Inflation as low as possible.
b) Unemployment at its natural rate (Real GDP= Potential GDP).
c) Sustain steady economic growth.
d) Smooth out short term fluctuations in Real GDP.
e) Increase net exports as much as possible by influencing the interest rate, and so the exchange rate, and hence netexports.
f) Stimulate Investment.

Fiscal policy is the use of government expenditure, and the tax rate to influence aggregate demand and so affecting real GDP in the short term. Monetary policy is the control of the money supply by the central bank, by selling and buying bonds, or increasing/ decrease bank reserves, and so changing the repo rate which is the rate at which banks can borrowmoney, the higher the rate is the less money there is at the banks, the higher is the interest rate for credit, and so the aggregate demand decreases, and vice versa. So the key economic variables are: VAT rate, tax rate, Government expenditure (fiscal policy), and M the money supply (monetary policy).

Inherited economy:

During the first five years the economy has beenperforming superbly, there has been steady economic growth, low inflation and low unemployment very close to the natural rate of unemployment. This is clearly reflected in the steady increase in real GDP(Y) and an increasing trend in the welfare of the people.
Summary of my performance:
|Year |6 |7 |8 |9 |
|6 |5|-3 |-1 |3 |

The shock’s implications are that net exports (X-M) will decrease, this with the fact that investment (I) will decrease by $ 20 billion, will make aggregate demand decrease a lot more than aggregate supple and so this would create a recessionary gap where real GDP is less than potential GDP, increase the price level(stagflation) where there is a recession and inflation at the same time. And so to counter the effects I have decided to use both an expansionary fiscal and monetary policy. The changes I have made will cause an increase in aggregate demand, to counter the decrease in net exports, and investment. Which is shown in the graph, Real GDP has not decreased as it would have without intervention.[pic]

2nd year:

|year |G ∆ % |Tax (t) ∆% |VAT ∆% |M ∆% |
|7 |-2 |1 |1 |-1 |

Because real GDP is higher than Potential GDP, the price level has increased and so there will be inflation, to combat this, I have used a contractionary fiscal andmonetary policy. In which the objective is to make Real GDP=potential GDP, decrease inflation, and increase the interest rate (exchange rate) and so increase exports.


3rd year:

|year |G ∆ % |Tax (t) ∆% |VAT ∆% |M ∆% |
|8 |-1 |1 |0 |-1|

Because real GDP and potential GDP are equal, and the economy is at equilibrium, according to Keynes theory you should not intervene with macroeconomic policies. Unfortunately I have intervened which I know I should not have done. My contractionary fiscal and monetary policy decisions have caused a huge decrease in Real GDP, below potential GDP i.e. my...
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