Macro Policies to avoid an Economic Recession

In several countries, the risk of recession in 2020 has increased in recent months. The policy tools that might be used to prevent recession are explored in this video.

Recessions are rarely the result of one single economic event. In 2020, the UK might have to weather some of the fallout from the Chinese-US trade war, continued Brexit uncertainty, forecasts of a drop in average house prices and a downturn in Germany, Europe’s biggest economy.

A quote here from the Bank of England in their November 2019 Inflation Report:

“Underlying UK GDP growth slowed materially in 2019 as weaker global growth and Brexit-related uncertainties weighed on spending. Weaker world growth has been partly driven by trade protectionism and an associated rise in global uncertainty.”(Bank of England, November 2019)

Summary of key policy options:

• Monetary Policy – Cut Base Interest Rates
• Monetary Policy – Expand Quantitative Easing
• Monetary Policy – Intervene to achieve a Currency Depreciation
• Fiscal Policy – Reduce the burden of direct taxation
• Fiscal Policy – Lower the burden of indirect taxes
• Fiscal Policy – Increase planned government spending
• Trade Policy – Removing trade protectionism / tariff wars

Trade policy is rarely mentioned by students – but certainly a more favourable trade environment – for example moves towards agreeing a full trade agreement with the EU would help to mitigate some of the downside risks facing the UK at present.

Current situation

• Base interest rates are 0.75% - would the BoE consider the possibility of negative interest rates?
• QE stands at £435 billion – might we move towards a Green QE – to fund a significant increase in environmental investment?
• Exchange rate: Uk operates a free-floating system – no direct intervention in the current market is planned
• Direct taxes: Basic income tax is 20%, tax-free allowance is £12,500
• Indirect taxes: Standard rate of VAT = 20% - could this be lowered?
• Government spending: Main political parties are campaigning in the 2019 general election on promises of big hikes in state spending & investment

Avoiding Recession: Keynesian Counter-Cyclical Policies

• Keynesian economists argue for proactive counter-cyclical macro policies
• If private sector demand (C+I+X) is weakening, - case for active use of policy to stabilise demand
• Intense debate about which policies are most effective in stabilizing confidence and demand
• Much depends on the likely causes of a recession (domestic and external)
• Automatic stabilisers such as welfare benefits can help reduce / mitigate recession risk

Can recession be avoided? Evaluation Points

• The UK is an open economy susceptible to the impact of issues such as trade protectionism, Chinese slowdown, EU downturn
• Policy interest rates are at historic lows – therefore less scope to cut them in the event of a recession
• Bond yields are low – perhaps giving scope for a rise in state investment and borrowing
• In the long run, supply-side improvements can make an economy more resilient to external economic shocks.