Posts Tagged ‘Nbsp’

The Respending Effect Underlying the Multiplier

Sunday, February 5th, 2012


forex 300x192 The Respending Effect Underlying the MultiplierIt has caused GNP and total incomes to rise by $200 million, as shown in Figure 8-9. In this example, the size of the multiplier is two, because an increase in investment of $100 million caused the GNP to rise by $200 million. So far, we have simply stated that the size of the multiplier in our example was two; next we will see how the size of the multiplier can be calculated.

 

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How a Floating Exchange Rate Operates with a Balance of Payments Surplus

Sunday, December 25th, 2011


Suppose Canada is operating on a floating exchange rate system, with the international value of the Canadian dollar at $1.00 US, when Canada develops a Balance of Payments surplus (say, due to increased exports of natural resources). As noted earlier, the Balance of Payments surplus will cause the international price of the Canadian dollar to rise, say, to $1.04 US.

This increase in the price of the Canadian dollar will set into motion and automatic adjustment mechanism, which will tend to eliminate the Balance of Payments surplus. Because the Canadian dollar is more costly to foreigner Canada’s receipts will fall: foreigners will buy fewer Canadian goods, travel less to Canada, and invest less in Canada. Also, because the international value of the Canadian dollar has risen, it will buy more foreign currency than before, making it less costly for Canadians to buy, travel and invest in other nations. As Canadians increase their purchases of imports and then traveling to and investing in other nations, Canada’s payments will rise. With receipts falling and payments rising, the Original Balance of Payments surplus will tend to disappear, with the international value of the Canadian dollar having moved to a new, higher equilibrium level which is more consistent with the high demand for Canadian exports.

 

 

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Long-Term Borrowing

Monday, December 5th, 2011


A major source of funds for capital investment is long-term borrowing, through the issue of bonds that are usually repayable after ten or more years. However, severe inflation makes it much less attractive to corporations to engage in long-term borrowing, by forcing interest rates to high levels. Inflation causes high interest rates in two ways: first, lenders demand an interest “premium” to compensate them for the declining value of their capital, and, second, the policies used by the government to restrain inflation involve increases in interest rates. In particular, the very high interest rates associated with the severe inflation of the 1970′s made many corporations reluctant to raise capital through bond issues that would commit them to paying very high interest expenses for many years.

It seems logical that such high interest rates would at least provide people with strong incentives to save, but this is not so, due to the effects of inflation and taxation. Figure 15-4 shows the return on $100 of savings invested at a 15-percent rate of interest for one year during which the rate of inflation is 12 percent. Although 15 percent seems like a high rate of interest, this is very misleading. While $15 of interest income is received, the purchasing power of the lender’s capital declines by $12 (12 percent of $100) due to inflation, leaving a real return of $3. Assuming that income tax is payable at a rate of 40 percent on the interest income, taxes will amount to $6 (40 percent of $15), leaving a net after-tax return of -$3.

 

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The Full Employment Deficit or Surplus

Thursday, September 15th, 2011


The extra government expenditure is a new injection and income will rise until a matching flow of withdrawals has been generated. Since taxes are only one of several withdrawals, it follows that the rise in taxes must be less than the rise in government expenditure.

It is not clear that we can talk not only about the actual (or “current”) budget deficit or surplus at the present level of national income, but also about the potential budget deficit or surplus at any other level of national income, given current rates of taxes and expenditures. The potential deficit or surplus of particular interest is the one that would occur if the economy were at full employment; it is called the full-employment balance. Notice that the current deficit will be larger than the full-employment deficit for any economy whose current income is less than full-employment income; the reason is that as income rises, the yield from a given set of tax rates rises and hence the deficit falls.

 

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Fine Tuning

Monday, September 12th, 2011


In the heydey of Keynesian fiscal policy in the 1950s and 1960s many economists throughout the world advocated the use of fiscal policy to remove even minor fluctuations in national income around its full-employment level. These economists felt that G and T could be changed frequently and by relatively small amounts to hold national income almost exactly at its full-employment level. When this is attempted, fiscal policy is said to be used to “fine tune” the economy.

The feasibility of fine tuning depends on, among other things, the length of the so-called decision lag-the lag between perceiving a problem and getting a decision to initiate these.
 

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Some Common Myths about Inflation

Monday, July 25th, 2011


Myth #1: Any increase in wages causes cost-push inflation

Wage increases will only force up labor costs per unit of product if wages rise faster than output per worker-hour (productivity). Figure 12-4 shows the example of a fradistat factory in which output per worker-hour is 100 fradistats in 1982, and 103 fradistats in 1983. Over the year, wages rise from $7.00 to $7.21 per hour, but labor costs per unit do not rise, because productivity has risen at the same rate as wages (3 percent per year). However, if wages rise faster than productivity, the situation is quite different, as Figure 12-5 shows. Here, wages have risen by 10 percent, while productivity has risen by only 3 percent. The result is that labor cost per fradistat rises considerably – by 7 percent. The productivity increase “absorbs” or offsets 3 percent of the 10 percent wage increase, leaving 7 percent to “spill over” into cost increases. The result will be pressure on prices.

Thus, only if wages rise faster than output per worker-hour will wage increases cause increases in labor costs per unit and thus put upward pressure on prices.

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