How can inflation be reduced?

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How Can Inflation Be Reduced?

How Can Inflation Be Reduced?

Inflation is a persistent rise in  average price level over a year, it is measured through CPI (Consumer Price Index). CPI takes a basket of goods ,which are weighted due to expenditure in a household budget (so you spend more money on food then shoes therefore food has a higher weight). CPI  then looks at how the prices have changed and dictates a rate in accordance to the statistics. Inflation usually carries negative connotations as it usually comes in conjunction with economic instability therefore many different methods have been devised in order to avert the problems of inflation and reduce it. An example of high inflation which was reduced is in Britain. In the 1970’s inflation was phenomenal and peaked at over 20%, through successful monetary policy however this was mitigated. By raising interest rates it reduces the growth of aggregate demand it encourages saving (which would stifle consumer spending and investment) as well as reducing disposable income.

Monetary policy is a proven technique used to reduce inflation. Favoured by the US and UK it looks at the modification of interest rates in order to control inflation (and reduce) this is know as tightening monetary policy. Monetary policy is the control of money supply by the central bank (so in Britain it is the Bank of England and in the US it’s the Federal Reserve). Inflation can be caused because aggregate demand exceeds aggregate supply therefore by reducing consumer spending and investment it can alleviate inflation. To reduce inflation through monetary policy you must increase interest rates. By increasing interest rates it makes saving more appealing therefore reducing consumer spending, as one of the factors in aggregate demand by reducing consumer spending you ultimately reduce inflation. High interest rates not only reduce consumer spending but also investment, business will be concerned with high interest rates as it becomes more expensive to buy assets, this again reduces aggregate demand. Also people with mortgages will find themselves with lower discretionary income as they are spending more on their mortgage then before. Lower discretionary income again means lower consumer spending. For example if I was paying £200 a month for my mortgage and earned an income of £500 a month then my discretionary income would be £300. So if interest rates were risen it would mean my mortgage would also rise (unless I have a fixed rate mortgage). Now instead of paying the modest £200 a month I am now paying £400. My disposable income is now a lot lower therefore I will not be able to spend as much money meaning consumption will go down. Monetary policy is the most used method in order to lower inflation as it has been the most effective and is the most immediate. Monetary policy does have flaws though when trying to overcome inflation. One major problem is that its overused, in a time of crisis banks tend to immediately raise interest rates to try and avert the crisis. This overuse means people are less trusting of interest rates (meaning they are scared of banks) and also sometimes it is not the solution, fiscal stimulation as well as labour reforms should come in conjunction with high interest rates however due to the political climate these can often be neglected.

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Fiscal policy is government manipulation of the economy through spending policy, taxes and borrowing. Governments can choose whether or not to borrow money or increase/decrease taxes, this is done in March (in Britain) by the Chancellor he/she expresses how his party will be using their money (usually on Health, Roads, Defence etc). A high government spending will add to aggregate demand meaning high inflation (assuming it exceeds aggregate supply). So in order to mitigate the problems of inflation, governments (on budget day) should look to decrease their spending. Governments can do this by spending less on public projects therefore ...

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The structure is strong. There is a clear introduction defining the key terms, and a strong conclusion which weaves the argument together whilst posing justified judgements. I would note that putting the first person in a conclusion is unwise. For example saying "I agree more" suggests a personal view, and often these aren't backed up with analysis and strong arguments. By using phrases such as "the analysis clearly shows that" you won't be tempted to make assertions based on personal arguments. Technical terms are used fluently, and economic viewpoints are weaved into the argument well, rather than being forced. This style is sophisticated, and makes for a convincing argument. Spelling, punctuation and grammar are flawless.

The analysis in this essay is great. The definition of inflation is clear and precise, allowing for a focused argument throughout. What I particularly like about this essay is the explanation of the mechanisms. For example, "To reduce inflation through monetary policy you must increase interest rates" is not simply asserted. But, each step from an increase to interest rates, to the eventual decrease in inflation is explained well. This is where a diagram would've simply strengthened the analysis, as shifts in aggregate demand and supply could show the changes in the price level. The awareness of different schools of economic thought shows a very abled economist at A-Level. Examiners love to see that students don't simply accept what the textbook states, and this essay explores how classical and Keynesian views differ. There is some very perceptive and strong analysis here!

This essay responds superbly to the task. There is a clear engagement with fiscal and monetary policies being used to reduce inflation, and there is awareness of the limitations of both. There is clear understanding of what inflation is, and how the policies reduce it. However, I would've liked to have seen some diagrammatical analysis to secure this understanding, as this is the easiest way to pick up marks in an exam. The question does not ask for an evaluative response, however there is a clear justified judgement here. This is good, as it shows the ability to look for weaknesses in policies, and discuss the effectiveness. I do think this essay is overly long though, despite the breadth covered.