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Policy Responses during the Great Recession Term Paper


Introduction

The great recession of 2008 led to monetary and fiscal policy responses to end the recession and prevent similar occurrences. Many policy responses were unconventional at the time of their proposal and enactment. They gained popularity because of the need for a solution in the shortest time possible.

After implementing the policies, countries and particular sectors of an economy would face inflation and GDP growth problems, while others that were favored by the policies would enjoy better circumstances of the same parameters.

The events that contributed to the occurrence of the great recession included inadequate monetary controls, global misconceptions, laxity in regulation, and misunderstanding of risk.

The impact of policy on recovery was diverse on the direct channels, transmission channels, and vulnerabilities of economic sectors to the recession and subsequent policy changes (Verick and Islam 2). Demand and supply numbers in any sector have a significant role to play in policy responses of governments.

At the same time, interested parties in governments’ reaction to a recession have to rely on the available microeconomic data to initiate programs and advise governments accordingly.

The United Nations, as an example, relied on the microeconomic data of several countries affected by the great recession to come up with new policy guidelines for high-income and low-income countries.

It measured the impact of policies on the increase in demand for labor. The UN used this as a means of verifying the overall impact of various policy interventions.

Stimulus package as a policy response, its motivations, and effects

The most common policy response by countries was to create a stimulus package that would target the most affected sectors of the economy.

Stimulus packages involved the release of funding by the government to act as cheap credit and stimulate demand for products and services in a particular sector so that there would be enough reasons to increase supply.

With the rise of the sectors out of the recession, economies would be able to return to their normal functioning as employment rates would improve, and people would find full employment and stop being in underemployment.

Increased demand would also increase government taxation base to provide funds for managing fiscal and monetary policies of the affected countries. The United Nations Development Program (UNDP) is a super-national organization under the United Nations.

It has been monitoring the effects of stimulus packages around the world. It advised governments on the effectiveness of the policy responses towards the significant recession. The organization provided various research reports used by Verick and Islam in evaluating policy responses by countries (34-38).

According to a report by the United Nations, global rebalancing after the great recession is taking place at the expense of the growth of economies (xv).

The report argues that the effects of policy responses have been welcomed as solutions to the great recession, but they have also created an economic growth problem.

Citing the United States as an example, the document shows that the current growth in the domestic savings rate is due to structural adjustments created by stimulus package policies.

However, in the same country, the government has increased its deficit and businesses have shrunk their investment rate significantly, which shows that the current economic growth can only last for a short while before succumbing to structural problems that will lead the country back to a recession.

The country will then recover as the government and businesses adjust. The report explains that policy responses in many countries only pave the way for a cyclic imbalance in the economy (United Nations xv).

Governments around the world responded to the great recession by initiating policies that boosted domestic consumption. China created monetary policies that increased the available money supply to consumers in an effort to spur domestic demand and reduce reliance on the export market.

Japan initiated similar responses, while the appreciation of its currency created an automatic buffer against increased consumption of imports. Nevertheless, the United Nations cautions against the imbalances in the global arena, which threaten the global exchange rate stability.

The global trade volume among countries withers with every country seeking to boost domestic consumption and limit dependence on exports. This affects the robustness of the market-based exchange rate equilibrium negatively.

An increase in global transactions is supposed to increase the reliability of the exchange rates as demand and supply match. However, specific country policies only increase imbalances in the demand or supply of global currencies and skews the exchange-rate equilibrium unfavorably (United Nations xvi).

As measured in 2008 in 48 countries, the UNDP confirmed that stimulus packages accounted for 3.9 percent of the global gross domestic product (GDP). It also accounted for 4.8 percent of national GDPs of 20 out of the 48 countries, which are developing countries.

The clearest beneficiary of the stimulus packages in developing countries was social services. One major aim of policy response in the countries was to provide social protection. Therefore, the stimulus package expenditures helped to meet the goal.

According to the International Labor Organization (ILO), as reported by Verick and Islam, the critical areas of stimulus packages intervention were stimulating job demand and supporting jobs, job seekers, and the unemployed (36).

Others were expanding social protection for food security and the use of social dialogue to protect the right to work. The findings of the super-national organization were that some policy interventions were more popular than others.

While support goes mainly to the small and medium enterprises for their role in providing jobs and stimulating GDP growth, there is less than adequate focus on the employed who need an income boost and job protection due to their vulnerability to the effects of the great recession (Verick and Islam 36).

Many policy responses in developing countries have been sector-specific and touching on businesses and public expenditure. Few policies touch on particularly vulnerable groups like youth, migrant workers, and public sector employees, as well as the informal economy workers.

As a result, the policy effects stimulate economic growth, but they do not immediately affect the most vulnerable groups. This creates an illusion of governments failing to do everything that is required to protect the welfare of the citizens.

It also explains some of the dissatisfaction with governments, as expressed through strikes in developing countries and different groups of employees demanded wage increases or reduction in the cost of living.

At the time of the great recession, many central banks introduced new credit facilities to ensure that their countries’ financial sectors had sufficient access to liquidity.

Central banks continued to increase their balance sheets from 2009 onwards, as they bought more assets from financial institutions to provide them with sufficient liquidity. However, their approach was gradual, unlike the immediate response during the 2008 financial crisis (Carvalho, Eusepi and Grisse 4).

An analysis of many stimulus packages by governments does not differentiate between tax cuts and public expenditure.

In the first case, the government provides more funds to businesses and individuals by reducing their tax obligations. In the second part, governments increase their expenditure in the economy to stimulate economic activity, mainly the demand for goods and services (Carvalho, Eusepi and Grisse 5).

The adoption of monetary and fiscal policies by authorities in response to the great recession was mainly endogenous. Decisions relied on external expectations on central banks to stabilize financial markets and the economies of their respective countries (Carvalho, Eusepi and Grisse 6).

The external sources of expectations included the banks and non-governmental organization concerned with policy advice and implementation at the national level.

At the same time, stabilization efforts were aimed at influencing microeconomic circumstances facing individuals in an economy, such as the availability of employment and demand for goods and services (Verick and Islam 40).

The United Nations notes that currency challenges are the biggest threat to policy implementations in developing countries (xvi). They can derail the outcome of the policy and cause the country’s exports to remain uncompetitive.

Dependence on global trade also comes as a disadvantage because other countries limit their imports as part of their responses to the great recession.

On the other hand, developed countries have to grapple with the unwillingness of policymakers to go for structural choices that create permanent shifts and use unpopular options.

Instead, they are likely to succumb to pressure from the electorate and financial lobby groups to create short-term policy changes that favor existing conditions and spell doom for the future.

After being bailed out by their more capable neighbors, countries in Europe are likely to enter into austerity periods where they avoid too much expenditure.

This can lead to reduced overall economic activity and increase the burden of government provision of social services. However, governments at the same time face resistance from the public on any action meant to raise revenues through increased taxation.

The United Nations calls for a pervasive and well-coordinated global plan for dealing with the effects of the great recession. It calls for an increase in short-term fiscal stimulus programs by countries most affected by the great recession.

The main reason for the support of the additional economic stimulus packages that rely on taxation policies of governments is that there are weak private demand and high unemployment rates. F

or developing countries, the situation is different as their main concern is to prevent a rise in food prices and handle volatility in commodity prices and exchange-rate stability (United Nations xviii).

Unfortunately, with the current response model, the only global coordination among countries in their policy responses is discussions in global forums. There is no tangible coordinated action among countries. Instead, every country goes on to implement its stimulus package, according to the domestic needs.

The reliance on domestic conditions affects the global balance of trade and policy and causes additional problems for countries in their exchange rates. Therefore, the United Nations wants countries to look beyond their domestic problems of unemployment and keep commodity prices low.

Countries should work with other countries or blocs to have a better exchange rate stability that will allow them to achieve their domestic goals (United Nations xix).

Meanwhile, Verick and Islam (42) explain that it is difficult for developing nations to rely on the trickle-down benefits of policies implemented by the G20 countries.

The systematically coordinated fiscal responses by developed nations will not create quick effects on the global scene to allow developing countries to reach their recovery goals fast.

The developing countries still have to grapple with their lack of social protection structures that can ensure the unemployed and the poor do not remain susceptible to the enormous costs of the global recession.

The International Monetary Fund (IMF) shows that responses to the great recession involved a mix of tax cuts and spending in the global nine largest economies. Even though the size of the stimulus package was large, it was not enough to offset economy output gaps caused by the recession.

Another finding was that delay in implementing the policies led to reduced chances of closing the jobs gap created by the recession (IMF 3-5).

Specific interventions in high-income countries on sustaining high employment levels in their economies were as follows.

The first intervention was to provide training for the people threatened by layoffs and those who are unemployed. The other solution was work sharing, while the third intervention was to increase public employment services. They included job search assistance and job/wage subsidies.

Most countries did not implement public work programs because their labor markets were less responsive to such interventions, as they relied more on private enterprise participation. This made the other interventions more popular (Verick and Islam 44).

Unfortunately, only countries that enjoy the high-income status also have the highest ability to implement labor relevant policies. As incomes decline, the financial constraints for implementing such policies also set in.

As a result, many low and middle-income countries can only rely on training as a policy response to ensure that a large number of citizens remains employable, in addition to reducing economy-wide effects of the recession.

In countries that were most affected by the great recession, firms that were most affected tended to participate most in lobbying for the inclusion of favorable provisions in their countries’ stimulus packages.

According to the research by Adelino and Dinc, the effect of lobbying for the implementation of stimulus packages was skewed in favor of the most active firms in the lobbying process (257).

The effect of this was that the stimulus package implementation in some sectors did not provide full recovery of all firms; instead, it created competitive advantages for some firms over others.

Supporting evidence on the effect of lobbying and allocation of support in stimulus package came from Adelino and Dinc, who showed that the allocation of stimulus funds was correlated to stale-level economic distress, but weakly (258).

Instead, it strongly associated with congressional politics. Therefore, non-financial institutions that were the most active in lobbying the US Congress for assistance got the most out of the stimulus packages in the United States.

The goal of the Stimulus Act of 2009 in the United States was to increase federal investments so that there would be a subsequent decrease in overall unemployment in the country.

However, the differing effects of the recession on some sectors of the US economy and the predominance of the sectors in some states more than others also ensured that there was skewed application of the stimulus package (Adelino and Dinc 264-265).

Other than lobbying, in any country, firms can appoint politically connected directors or increase their campaign contributions for a political party that wins elections and provides favorable treatment to the firm or the sector (Adelino and Dinc 270).

Supplying credit was a major intention of the various stimulus packages developed by states. In the classical economics sense, an increase in credit does not influence asset prices. According to Mian and Sufi, the great depression was caused by an outside shift in the supply of credit from 2002 to 2006 (55).

The main reason for the outside shift was the global imbalance in savings. There were also subsidies for mortgages through government home ownership initiatives. At the same time, the research by Mian and Sufi showed that companies in the US mortgage industry increased their campaign contributions significantly (55).

The contribution likely affected voting behavior in the Congress. In relation to that, representatives from the most affected constituencies voted for various bailouts for companies in the mortgage and financial industry.

This finding increased support for the claim that microeconomic indicators played a role in influencing decisions on the distribution of economic stimulus packages.

However, the participation of firms and political leadership in decision-making affected the reliance on economic fundamentals in allocating funds and intervention measures.

The availability of microeconomic data on many economic sectors helped to shape the stimulus package in many countries. Governments could pinpoint the expected responses of industry and firms when allocating assistance.

For example, employment numbers in small and medium enterprises in a particular economic sector could tell the severity of the recession on the sector and the opportunity of recovery presented by a particular intervention.

In such cases, increasing training or providing job sharing opportunities could work based on data showing consumer spending, borrowing, and repayment burdens.

Conclusion

The highlights of this paper are that the governments that were affected most by the great recession responded to domestic circumstances before evaluating the existing options in a globally coordinated policy response.

There was a big difference in the response approaches adopted by the high-income countries compared to those taken by the low-income countries. For instance, most of the economic activities in high-income countries are formal.

It was easy for governments to collect relevant data about employment and causes of employment or unemployment rate fluctuations.

An increase in unemployment was caused by reducing demand for labor, which arose out of reduced demand for goods and services. Thus, a cyclic relationship existed in the microeconomic conditions affecting economic performance.

Focusing on one aspect without taking measures to control other economic conditions creates short-term solutions and long-term systematic problems. Based on analysis and advice from various super-national organizations, a globalized outlook is important, even when responding to domestic economic problems.

For example, the global effect of trade on the world currency exchange affects the affordability of goods and services in an import-reliant country. This goes on to affect demand for capital or labor as substitutes in the production process.

Thus, when a country is seeking to increase demand for in a particular sector, it has to consider the ongoing dynamics of its economic policies and those of other countries.

Lastly, this paper shows that domestic policy interventions after the great recession depended on the amount of the supply and demand for their goods and services in various sectors, which also affected their demand and eventual allocation of funds from economic stimulus packages.

Works Cited

Adelino, Manuel, and I. Serdar Dinc. “Corporate Distress and Lobbying: Evidence from the Stimulus Act.” Journal of Financial Economics 114.2 (2014): 256-272. Print.

Carvalho, Carlos, Stefano Eusepi, and Christian Grisse. “Policy Initiatives in the Global Recession: What Did Forecasters Expect?” Federal Reserve Bank of New York: Current Issues in Economy and Finance 18.2 (2012): 1-11. Print.

IMF. . Washington, DC: International Monetary Fund, 2009. Web.

Mian, Atif, and Amir Sufi. “The Great Recession: Lessons from Microeconomic Data.” American Economic Review 100.2 (2010): 51-56. Print.

United Nations. . New York, NY: United Nations, 2012. Web.

Verick, Sher, and Iyanatul Islam. . Discussion Paper. Bonn: Institute for the Study of Labor, Germany, 2010. Web.

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IvyPanda. "Policy Responses during the Great Recession." July 10, 2019. https://ivypanda.com/essays/policy-responses-during-the-great-recession/.

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IvyPanda. 2019. "Policy Responses during the Great Recession." July 10, 2019. https://ivypanda.com/essays/policy-responses-during-the-great-recession/.

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IvyPanda. (2019) 'Policy Responses during the Great Recession'. 10 July.

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