Order Out Of Chaos

Macroeconomics is the attempt to understand the long term trends of economic growth, inflation and international payments and the short term fluctuations that cause unemployment.

Growth is the expansion of capacity to produce goods and services, an economy's production possibilities. It is measured by increases in domestic real GDP, the actual production levels of output, the value in price terms of the output of all the farms, factories, shops and offices in a year. Potential GDP is the production capacity when all factors are used to their full potential. Business cycles are fluctuations of real GDP around the trend of potential GDP. It is not regular or predictable. The current recession has seen record lows of the pound against the euro, big cuts in interest rates, a rise in inflation and a predicted even greater rise over the next few years, job losses and businesses closing.

Many shops have been cutting prices to generate spending in the run up to Christmas and to increase sales generally to help control inflation. An increase in consumption expenditure will certainly help. The two recent cuts in interest rates will put the pound in a position in foreign exchange markets that will make exports more attractive.

People can borrow and so can countries. They can borrow to consume or to invest. Borrowing to invest in assets that create interest can be profitable. The income stream will help pay off a debt and the debt interest. As long as the interest rate on the investment is greater than that on the debt it is not a problem. We have probably been borrowing to consume to some extent. The actual percentages of borrowing to invest and consume are difficult to determine. Wise borrowing and an increase in exports will decrease the current account deficit, improve the capital account and put the balance of payments in a healthier position.

The good news is that the cyclic nature of these economic phenomena mean that eventually the recession will end and we will go into another period of expansion.