Demand-Side Policies in 2007-08

Economics: Edexcel A A Level, topic 4.1.6

The Great Depression

Following the Wall Street Crash in 1929, there was a global depression. This period saw the rise of Keynesian economics.

The Great Depression saw the rise of Keynesian economics in the Western World.
The key idea is that economies should be left alone by the government other than in response to recession and depression where expansionary fiscal and monetary policy should be used to stimulate demand.

Governments paid out benefits and increased spending in order to increase aggregate demand and move the economy out of recession.

Government spending filtered to the workers through increased employment and wages and improved confidence in the economy.

The UK and US used different methods to tackle the financial crisis.

The UK response to the financial crisis in 2008 was referred to as ‘Austerity’.
The UK government saw excessive sovereign debt as a risk to the stability to the country and aimed for a government budget surplus in order to reduce the debt.

Policies included reduced government spending on infrastructure projects, reducing budgets of government departments and also a combination of pay freezes and caps on wage rises in public sector jobs.

The outcome of this was a reduced budget deficit however it took several years for the government to turn a surplus so the level of national debt was not reduced however it was not significantly worsened.
The side effects of this policy was a decrease in aggregate demand caused by reduced government spending and reduced incomes for public sector workers.
This compounded with the loss of confidence and availability of credit in the market and was a contributing factor to slow economic growth and wage growth since.

The US response was that of fiscal stimulus, aiming to spend their way out of a recession as they had done after the Great Depression of the 1930s.
The US government increased spending on infrastructure in an attempt to ‘jump-start’ the flagging economy.

The US saw a rapid return to the developed countries trend rate of economic growth of 2% in 2010 which has remained fairly stable since (which is marginally lower than the period before the crisis).