ECOM4000 Economics Trimester 3, 2014 Individual Assignment

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1 ECOM4000 Economics Trimester 3, 2014 Individual Assignment

2 Individual Assignment Short Answer Questions based on Economic Theory This assignment counts for 20% of your total marks Due Friday Week 11, 13 th February 2015 by 5pm AEST (Australian Eastern Standard Time) on the portal under Assignments Instructions Do this assignment individually. You may need to do research of your own as well as reading the articles provided. Marks are awarded for this. Address each question directly. You do not need to present answers in essay or report form. Make sure you explain your diagrams and answer all parts of each question. You do not need to write a huge amount for each question. The word limit is around words Reference your answers if you are using information from another source using in-text referencing and include a reference list at the end of the assignment. You do not need to reference lectures and tutorials. 5 marks are awarded for correct use of in text referencing and a reference list at the end of the assignment. A referencing guide is uploaded on the ECOM4000 portal page. The assignment will go through Turnitin and any plagiarism will be traced. As a result you can get 0 for your assignment. Penalties for plagiarism are serious. Please see p.4 of Student Misconduct Policy for a definition of plagiarism and the consequences: udentmisconductpolicy/tabid/445/default.aspx Doing this assignment will be good preparation for the exam. **Please submit your assignment on the portal as a word document (NOT A PDF) and insert any pictures/ diagrams that you draw as pictures into the word document. You can insert pictures by: o Drawing them in programs like paint and pasting it into the document o Drawing them by hand and scanning them in and then pasting them as a picture into the word document o DO NOT simply copy pictures of graphs from the internet. You have to draw them yourself 2

Some useful sources: http://www.budget.gov.au/2014-15/index.htm http://www.rba.gov.au/statistics/cash-rate/ http://www.rba.gov.au/media-releases/index.html http://www.tradingeconomics.

3 Some useful sources: Part 1: Firm Perspective [35 marks] Read the below two sources below and then answer the questions/ Source 1: Students trim University of Canberra's academic gown price monopoly Date: November 8, 2014 Matthew Raggatt It's the seemingly inevitable cost that goes with being handed a university degree, but two Canberrans have done their bit to save well-dressed students money on graduation day. As the debate over deregulation and soaring degrees costs continues around the nation, Australian National University (ANU) alumni Eric Liu and Haosi Zhang have started their own business selling discounted academic gowns. Their challenge to the established market appears to have forced a 30 per cent price cut from the University of Canberra. Mr Liu, 25, now studying a masters in law, said the pair's UniGowns business began in July and was motivated more by saving students than making profit. "Basically the idea came from some of our friends at the ANU and UC who were complaining about how ridiculously expensive [graduation gowns] are," he said. "We think of it as a business to challenge the universities' UC Union monopoly [previously there was only one supplier for ANU Australian National University] and collapse the price." A gown, hood and mortar board are a mandatory part of graduation ceremonies around the nation. UniGowns sold about 30 of their $89 sets in the company's first outing at the UC graduations last month. Mr Liu said the university has dropped their hiring price for the set from $130 to $110 as a result, which includes the mortar board to keep, but went further to offer a special $89.95 purchase at the October graduation. The UC Union, a wholly-owned entity of the university, has previously been the exclusive seller of the graduation wear. 3

4 Union chief executive Joe Roff could not be reached for interview this week, but said UC welcomed competition particularly where students benefit. Source: 1. Based on the article what market form did the market for graduation regalia (a gown, hood and mortar board) at ANU most closely resemble before Mr. Liu started his UniGowns business? Why? Represent this using an economic diagram and the relevant price from the article. (6 marks) 2. Once the students started their rival business (UniGowns) what form did the market for a graduation set at ANU take? Explain your answer with reference to theory. How does the price and quantity in this market compare to the price and quantity before the students started this business? (5 marks) 3. If as described in the article the only suppliers of gowns at ANU was the UC Union and UniGowns, would it be in both their interests to have a price war and compete with each other or to keep prices high? How does this relate the Nash equilibrium in game theory? (5 marks) 4. Describe a business that you and your friends can start this year. What market form (i.e. monopolistic competition) is the market you want to operate in? How will this market form affect your profits? Draw a diagram to represent the market your business will be operating in and your individual cost curves. You will need to do some research here. (10 marks) 5. What was the reason Mr. Liu have for starting the business in the article? Conduct some research into economic theory about the incentives which drive individuals and businesses. Do you believe his reason for starting the business? Why or why not? (9 marks) 4

5 Part 2: Macroeconomic Perspective [40 marks] Consider the sources below and answer the following questions: Source 1: Fiscal and monetary policy renewed international debate Robert Dolamore, Economics Key issue The global financial crisis has sparked renewed international debate about the roles and conduct of fiscal and monetary policy. The global financial crisis (GFC) has prompted renewed international debate about the roles and conduct of fiscal and monetary policy. The International Monetary Fund (IMF) has been at the forefront of this debate as economists try to identify the lessons from the GFC for macroeconomic policy. This note briefly sketches some of the key ideas from this debate. The pre-gfc consensus In the years prior to the GFC a consensus developed about the roles fiscal and monetary policy should play in economic management. Monetary policy was seen as the appropriate policy instrument to stabilise shortrun fluctuations in aggregate demand. Monetary policy can be adjusted relatively quickly and if delegated to an independent central bank is less susceptible to the influence of political considerations. In contrast, discretionary fiscal policy was seen as having less of a role in short-run demand management. Among other things, discretionary actions are less nimble than monetary policy and therefore less suited to managing normal fluctuations in activity. The effectiveness of discretionary actions tends to be blunted because their formulation and implementation can lag economic developments and are susceptible to political influence. Further, such measures are not easily reversed when they are no longer justified by economic conditions. Generally, fiscal policy was seen as more appropriately focused on the medium to longer term. For example, fiscal policy can help address medium term structural issues and ensure the long term sustainability of public finances. However, this was not seen as precluding a role for the automatic stabilisers. The automatic stabilisers can cushion short run fluctuations with practically no information and implementation lags, and relatively short impact lags. Importantly, if the automatic stabilisers are left to operate symmetrically over the economic cycle, they should not contribute to any structural deterioration in the budgetary position. A post GFC re-thi think The use of fiscal stimulus measures in response to the GFC has given greater prominence to discretionary fiscal policy as a countercyclical tool. It has been suggested that during the crisis fiscal policy had a sleeping beauty moment with conventional monetary policy rapidly reaching its limits and with the 5

financial system experiencing acute problems, the forgotten tool of discretionary fiscal policy was rediscovered as a way of supporting aggregate demand.

6 financial system experiencing acute problems, the forgotten tool of discretionary fiscal policy was rediscovered as a way of supporting aggregate demand. The GFC has also sparked a re-think about the limits of conducting monetary policy primarily through changes to official interest rates. A concern here is that official interest rates are too broad an instrument to deal with the situation where an asset price bubble is developing in one part of the economy but inflationary pressures in the rest of the economy are relatively subdued. In this scenario raising interest rates may successfully dampen the bubble but risks constraining economic activity more generally. Source: gbook44p/fiscalmonetarypolicy Source 2: Disastrous jobs data will create more work for the RBA Callam Pickering 7 Aug 2014, 2:36 PM The unemployment rate rose sharply in July -- and now sits higher than the United States unemployment rate -- but it might take a few months to sort the signal from the noise. Nevertheless, the Australian economy remains weak and the Reserve Bank of Australia needs to take decisive actions to support the economy. On a seasonally-adjusted basis, the unemployment rate rose to 6.4 per cent -- its highest level in twelve years -- and is 0.7 percentage points higher over the year. The result missed market expectations that the unemployment rate would be unchanged at 6.0 per cent. Today s data may reflect the next stage of Australia s downturn but it may also reflect volatility. It might take another month or two to separate the signal from the noise. As always, a correct assessment of Australia s labour market requires consideration of both the unemployment and participation rates. Considering either one in isolation can be misleading. 6

7 The participation rate rose slightly in July, following a modest rise in June, which has placed a little upward pressure on the unemployment rate. One possible reason for the recent surge is that it reflects renewed job-searching efforts following the federal budget. Unfortunately, that search has been in vain due to insufficient job creation. In the medium-term, the participation rate is set to fall further, with more baby boomers entering retirement. This will be partially offset by high population growth but that could result in a persistently high unemployment rate if the labour market cannot absorb that growth. Employment growth eased further on a trend basis, with part-time employment now declining consistently on a monthly basis. Employment among women continues to rise but is being partially offset by a fall in the number of men employed. What this means for monetary policy is unclear. At the same time, the result flies against expectations and provides further evidence that the economy is not rebalancing as quickly or successfully as the RBA has envisaged. The RBA still believes that the full effect of low interest rates has not yet been seen and it may be correct. Construction, for example, has only just started to rise. Low interest rates have supported lending activity but most of that has flowed through to mortgages on existing properties, which does little to increase the productive capacity of the Australian economy. Housing construction is beginning to pick up, which will support employment, but it remains an incredibly small share of real GDP. There is a lot riding on the next few meetings for the RBA. In setting rates low, they have wisely taken a forward-looking approach to policy, which has often been at odds with some market economists. However, with each passing month, it appears more certain that they have been too optimistic. Australia s unemployment rate is now higher than the United States -- which is at 6.2 per cent -- but the Federal Reserve is currently rocking emergency level rates that are stuck firmly at the zero lower bound. That doesn t mean that the RBA should follow suit; I believe the US could support higher rates. But it highlights the different philosophy that holds sway at each central bank. The RBA is optimistic because the Australian economy has proved resilient to economic shocks for over two decades. The Fed remains pessimistic because the US economy has suffered a once-in-alifetime financial crisis. Unfortunately, blind faith in Australian exceptionalism won t be sufficient to rebalance the economy. The RBA needs the dollar to decline, non-mining investment to rise and the household sector to strengthen. We need an economy that isn t entirely reliant on Chinese demand. 7

8 Facilitating this shift is difficult but manageable if the RBA is decisive. A couple of rate cuts, combined with macroprudential policies to curb mortgage lending, will boost confidence, ease household budgets and redirect lending activity towards the non-mining sector. A word in the ear of the federal Treasurer to develop a jobs plan wouldn t be a bad idea either. Source: Source 3: Economic Data (Trading Economics) 1. Explain how discretionary fiscal policy can be countercyclical and can be used to support aggregate demand. Us an AD/AS model to support your answer. (5 marks) 2. Use an aggregate demand and supply model to demonstrate where the Australian economy is currently operating in relation to full employment and explain the reasons for this. Based on your diagram, the above sources and 8

9 your own research what phase of the business cycle do you think the Australian economy is currently in? Explain your reasoning. (8 marks) 3. Based on your research evaluate the fiscal policy the government is currently pursuing. Do you believe this is appropriate given the state of the economy at the moment? Why or why not? Use an AD/AS diagram in your discussion. (7 marks) 4. Based on your research evaluate the monetary policy is the RBA is currently pursuing? Do you believe this is appropriate given the state of the economy at the moment? Why or why not? Use an AD/AS diagram in your discussion. (8 marks) 5. What effect do you think the lower dollar could have on inflation in Australia? Why? If in 2015 inflation rose to 4% and unemployment rose to 7% what fiscal policy would you advise the government to pursue? Why? Demonstrate the effects of your proposed policy using an AD/AS model. (12 marks) Do not forget to include a reference list for any sources apart from lectures or tutorials. You also need to include in text references. A referencing guide is available on the portal under assessments. Both of these will count for (5 marks) Total 80 marks 9

ECOM4000 Economics Trimester 2, 2014 Individual Assignment

ECOM4000 Economics Trimester 2, 2014 Individual Assignment Individual Assignment Short Answer Questions based on Economic Theory This assignment counts for 20% of your total marks Due Friday Week 11, 3