Explain the factors which are contributing to the slow growth response of the economy and using the AE model show the effect of this on equilibrium output.

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Explain the factors which are contributing to the slow growth response of the economy and using the AE model show the effect of this on equilibrium output.

Economy crying out for stimulus, say analysts

THE underperforming economy desperately needs more stimulus to rediscover its mojo, economists say, after the latest growth figures fell short of modest expectations.

The sluggish December quarter gross domestic product all but locks in another cut to the official interest rate within months, they said.

It also means an Australian dollar closer to US70c now appears necessary to speed up the painful transition from mining-led to broadbased growth.

The sobering assessment came after official seasonally adjusted figures revealed the economy grew just 0.5 per cent in the three months to December 31 and by 2.5 per cent throughout 2014.

Annual growth at that rate is too low to arrest a slide in unemployment, which has already ticked up to 6.4 per cent and appears headed higher.

Tailwinds in the form of lower rates, a weaker currency and cheaper petrol were helpful, economists said, but the nation was proving slow to respond.

Capital Economics senior Asia economist Daniel Martin warned worse was to come, with the effect from the deep decline in prices for Australia’s key commodity exports such as iron ore and coal yet to fully wash through the economy.

“While a worsening terms of trade doesn’t directly affect real GDP . . . it will have an in- direct effect as lower profits prompt firms to invest less and employ fewer workers,” Mr Martin said.

The numbers from the Australian Bureau of Statistics weren’t all downbeat, with consumers doing their bit by lifting household spending 0.9 per cent in the quarter, and net exports growing 0.7 per cent for a full-year contribution to GDP of 2 per cent.

And the latest headline figures extend a remarkable era of prosperity for the nation, which hasn’t suffered a recession in 23 years.

ANZ senior economist Felicity Emmett said the missing ingredient was confidence. Consumers have some but among businesses it’s in short supply.

They’re yet to boost spending, a situation that appears likely to worsen as more resource projects, such as in the liquefied natural gas sector, reach completion, she said.

“Crucially, non-mining activity is not growing strongly enough to fill the gap,” Ms Emmett said.

HSBC Australia chief economist Paul Bloxham said May’s Federal Budget risked further dampening confidence levels should the Abbott Government attempt to serve up another round of belt-tightening measures.

 

 

Questions:

 

  1. Use the Aggregate Expenditure (AE) model to explain the potential impact given by the statement “Tailwinds in the form of lower rates, a weaker currency and cheaper petrol were helpful” on short-run equilibrium output. In your answer make sure to explain the linkages affecting the components of aggregate expenditure.

 

  1. The article argues that “the nation was proving slow to respond” due to certain conditions existing in the economy. Explain the factors which are contributing to the slow growth response of the economy and using the AE model show the effect of this on equilibrium output.
  1. Use the dynamic Aggregate Demand/Aggregate Supply model (dynamic AD/AS model) to explain the situation where Annual growth at that rate is too low to arrest a slide in unemployment”. In your graphical analysis make sure to explain/show how unemployment can rise despite aggregate demand growth overtime. Also explain what you think is happening to the price level.

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