NYJC_H2_ECONS_Macro_CS_Suggested_Answers

Question 2 Trade Slump and Deflation Extract 5: UK slips into deflation as prices fall 0.1% The UK has officially slipped into deflation for th e first time in more than half a century, but economists and policy makers are not concerned, say ing that a brief period of gently falling prices is more likely to help growth than harm it. The UK has been teetering on the brink of deflation for several months because of the slide in global oil prices, falling household incomes and th e strength of sterling, which has reduced UK’s export competitiveness. Suneil Mahindru, chief investment officer internati onal equity at Goldman Sachs Asset Management, reacted by saying: “We are not concerne d about the UK”. Falling prices are “freeing disposable income and many industries, such as retail, are benefiting”, he added. UK households have suffered from falling real wages over the past few years. Now that prices of consumer essentials like food and energy are stagnant or falling, many households are finally getting a boost in living standards. Chancellor George Osborne said the data were good news for family budgets and should not be mistaken for “damaging deflation” — a vicious cy cle of falling prices and wages which shrinks an economy. He added that once deflation sets in consumers would expect prices to fall and they would delay spending for as long as possible in order to save money. This would perpetuate the problem and is known as a deflation trap. The deflation trap would lead to falling economic growth. Source: Adopted from The Financial Times, 19 May 2015 Extract 6: Deflation risk and trade slump cast chill over global economy The world economy is at risk of slipping into a def lation trap and faces a historic slump in global trade that should serve as a wake-up call fo r governments around the world. The International Monetary Fund warned on Tuesday that a “broad-based phenomenon” of low inflation, fed by a collapse in commodity prices and faltering demand, risked deteriorating into a full-blown deflation trap, particularly in advanced economies. The fund’s warning, came as the World Trade Organis ation forecast global trade volumes would rise only 1.7 per cent this year. This would be the slowest increase since the 2008 financial crisis, and a big reduction from the 2.8 per cent growth it forecast in April. "The dramatic slowing of trade growth is serious and should serve as a wake-up call,” said Roberto Azevêdo, the WTO’s director-general. The trend was particularly worrying in the context of an increase in protectionism and anti- globalisation rhetoric seen in the US and around the world, he said, adding: “This is a moment to heed the lessons of history and recommit to open ness in trade, which can help to spur economic growth.” The twin warnings highlight mounting concerns over the world economy’s slow recovery from the 2008 crisis and the tepid response by policymak ers. They also