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Fiscal Austerity (Chain of Analysis)

AS, A-Level, IB
AQA, Edexcel, OCR, IB, Eduqas, WJEC

Last updated 20 May 2018

Here is an example of a chain of reasoning on the economic arguments for and against fiscal austerity

Fiscal Austerity (Chain of Analysis Revision Video)

Chain of reasoning (1)

Fiscal conservatives argue that a period of fiscal austerity is important for the long-term health of the economy. 

This is because a high budget (fiscal) deficit leads to rising national debt which can then lead to crowding out effects in financial markets and also the wider economy. 

If the government is borrowing more money, this increases the demand for loanable funds in capital markets made available by domestic and overseas savers…. 

….which then causes an increase in the equilibrium real interest rate for other agents wanting to borrow 

For example, a rise in government bond yields will cause mortgage interest rates to rise which lowers effective disposable incomes for home-owners 

And higher market interest rates also makes planned capital investment more expensive for businesses. Lower investment can hold back the growth of long run aggregate supply.

Chain of reasoning (2)

The extract says that government spending has dropped by 5.9% of GDP since fiscal austerity began in 2010. 

One reason for this is that the government has introduced caps on the growth of public sector pay with wages rising by only 1% a year since 2013 

A possible consequence is that it has become harder to recruit people into key public sector jobs such as nursing, midwifery & social care. 

This has led to a fall in the number of people choosing to work in the NHS because of the resulting decline in real and relative wages  

As a result, with growing demand for NHS services because of an expanding & ageing population, the NHS has had to use private supply agencies. 

Therefore, wage costs have risen anyway and staff shortages have also led to increasing delays for treatment e.g. in A&E departments.

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