2022 JC2 H2 Prelim Essay Q5 (Suggested Answers)

5 Globalinflationhasbeenrevisedupwardsdueto risingfoodandenergyprices. (a) Explaintheconflictsbetweenthegovernmentmacroeconomicgoals.[10] (b) Discusstheotherfactorsthatcaninfluencegovernmentchoiceofpoliciesto tackle the rising prices.[15] Suggested answer for part (a) Introduction: ● Government aims to achieve the following 4macroeconomic goals: Highandsustainableeconomicgrowth, low inflation (price stability), low unemployment and healthy balance of payments.● Possible conflicts may arise in achieving the 4 macroeconomic aims . Body: 1. Low inflation vs actual growth/low unemploymentConflict arises when the economy aims to achieve low inflation and actual growth/unemployment. Forexample, as Vietnamexperiencegrowthfrom6.2%to7.0%growthandfall inunemploymentfrom2.33%to2.21%from2016to2018, her inflationrateincreases from2.6%to3.5%forthesameperiod. Thisisbecauseas ADincreaseclosetofull employmentfromAD1toAD2toAD3asseeninFig1,thiswill leadthereal national incomeincreasesfromY1toY2toY3,henceachievingactual growthintheshortrun. Inaddition, the increase inADwill alsoresult inanincreaseproductionlevel as firms will needtostepupproductiontomeet thehigher demand. This result inahigherneedforfactorofproductionandincreasein the hiring of factor of production like labour, thus reducing the cyclical unemployment. However, thetradeoff toeconomicgrowthandlowunemploymentisthatgeneral pricelevel increasesasAD increases close to full employment level, causing demand pull inflation. As AD increases, theeconomy moves closer to the full employment, thus resulting in higher competition for the depletingavailableresources. This pushes thepriceofresourcesupandresultsinfirmsexperiencingarisingcostof production. Thefirms will thentransfer therisingcost of productiontotheconsumer thereforepriceschargedfor their commodities will rise. GPLwill thereforeincreaseas real output increases. Hence,thisexplains for the conflict in achieving low inflation and actual growth/low unemployment. 2. Low inflation vs healthy balance of trade

When export revenue is increasing due to the increase in export demandand/or import expenditureisdecreasing due to fall in import demand, this will result in an increaseinnet export andimprovingthebalanceof trade. However,theincreaseinnetexportwill leadtotheincreaseinAD. AsADincreasesasseeninfigure1,theeconomymovesclosertothefull employment,thusresultinginhighercompetitionforthedepletingavailableresources. Thispushesthepriceofresourcesupandresultsinfirmsexperiencinga rising cost of production. The firms will then transfer the rising cost of production to the consumertherefore prices charged for their commodities will rise and GPL increase. 3. Economic growth vs low structural unemploymentEconomic growth involves changes in production bothinterms of thegoods produced, andtechniquesusedandtheskillsrequired.Hencethemorerapidtherateofgrowth,themorerapidtherateofchangeinproduction techniques. People may then find their skills are no longer relevant or their jobs may bereplaced by machines. Workers may thus find themselves unemployed as their skills donot matchtheavailable jobs. For instance, when the economy experience economic growth, firms are more likely toinvest inmachines suchas self check out/inmachines inretails stores or hotels, as well as technologylikecashless payment technology tostreamlinetheir productionprocess andincreaseproductivity,thesenew machines and technology increases the productive capacity andLRASof theeconomy, achievingeconomic growth. Yet at the sametime, workers may not havetherelevant skills tooperatethesenewmachines and technology, resulting in thembeing unemployed. Thus there is amismatchof skills andopportunities as economic growth brings about a change in the structure of the economy, causingtheconflict in achieving economic growth and low unemployment. Conclusion:Inaimingtoachievethe4macroeconomic objectives, government is likely tofacethepossibleconflicts:low inflation vs actual growth/low unemployment, economic growth vs low structural unemployment,economic growth vs healthy BOP and low inflation vs healthy BOP. Hence, there is a need forgovernment to implement the relevant macroeconomic policies to help achieve the macroeconomicobjectives. Knowledge, Application/Understanding and AnalysisL3 Answer showsathoroughandcompleteanalysisof at least 2possibleconflictsbetween the various macroeconomicgoalsof EG, inflation, unemployment andbalance of trade, with appropriate use of examples. 8-10 L2 Answer shows an under-developed analysis of possible conflicts between thevarious macroeconomic goals of EG, inflation, unemployment and balance oftrade, with some or no use of examples. Max L2 – 5m if only 1 conflict is given 5-7 L1 Full of conceptual errors and mere listing of possible conflicts between thevarious macroeconomic goals. 1-4

Suggested answer for part (b) Introduction Totacklerisingprice, government canconsider usingcontractionary demandmanagementpoliciessuchas contractionary fiscal policy or increasing interest rate or appreciation of exchange rate as well aspossibleuseof supply sidepolicies suchas subsidizingof factor of productionorencourageadoptionoftechnology etc. However, as mentionedinpart a, therearepossibleriseinconflict betweenthemacrogoals so the government will need to takeintoconsiderationwhether thepossibleriseof conflict whenchoosingtheappropriatepolicy touse. Apartfromtakingintoconsiderationthepossibleriseofconflictinmacro goals, thegovernment will alsotakeintoconsiderationof other factors suchas theroot causeofthe rising prices, openness of the economy and the time lag etc. Factor 1: Root cause of the rising inflationAs mentionedinthepreamble, therecentinflationthatmosteconomiesareexperiencingismainlyduetothe rising food and energy price. The rise in the food and energy priceis duetothesupply disruptioncausedby theborder andmovementrestrictionduringtheCOVID-19periodaswell astheriseinpoliticalconflict such as Russia – Ukraine war, which resulted in both fall in global food and oil supply. Thisresulted in the rising cost of production of all processed food items as well as transportation cost, soresulting in a rise in cost push inflation. As such, the government should choose to adopt short runsupply-sidepolicies suchas subsidy for fuel or energy soastohelpreducethecostofproductionforthefirms and increase the SRAS, thus reducing the general price level. Whereas the use of demand management policy such as contractionary fiscal may have limitedeffectiveness in reducing the inflationary pressure caused by rising food and oil prices. As thegovernment adopt contractionary fiscal policy like increase income tax, which cause householddisposableincomeandpurchasingpower toreduce.Thiswill thenreducetheconsumptionlevel andAD,thus reducingthegeneral pricelevel. But thereductionof consumptionmay belimitedas thefoodandenergy are essential for survival, so the reduction in consumptionfor foodandenergy may not reducesignificantly. HenceresultinginalimitedreductioninADandGPL,solimitingtheeffectivenesstotacklethe inflationary pressure as the policy does not tackle the root cause of cost-push inflation. Factor 2: Openness of the economyIf theeconomy isexperiencingrisinginflationmainlyduetotherisingAD,thenthegovernmentmayneedto the degree of openness of theeconomy. As economies (suchas SingaporeandHongKong) whichhave a small domestic market oftendependmoreonexports toboost their aggregatedemandandtherise of the demand-pull inflation. Domestic consumption is small inrelationtototal aggregatedemand.Due to the small relative size of domestic consumption and domestic investment and but a largerdependency of export, sotheuseof thecontractionaryfiscal policyofincreaseincometaxandcorporatetax or the use of monetary policy of increase in interest rate will have limited impact on aggregatedemand. As theincreaseininterest ratewill increasethecostofborrowing,whichreducesconsumptionandinvestment. Thiswill reducetheADandGPLbutthefall inADis