Global Economic Issues

Measuring the Crisis

At this stage of your study you have learned about a number of different economic measures. In order to determine the magnitude of the crisis, we will need to be able to assess some of those measures. We will also look at some that you haven’t seen before.

Gross Domestic Product

In Unit 1 you learned that gross domestic product (GDP) can be used as a measure of economic growth. When GDP falls in two consecutive quarters, we would say that an economy has experienced a technical recession. However, this definition is perhaps slightly too restrictive given the variability of economic conditions in the modern world.

Despite this, very small increases in GDP, or a measured decline in GDP, both represent a very bad economic outcome. This is because we need to see an increase in the output of goods and services so that living standards can increase, and also so that new jobs will be created. As the population of the world is always increasing, an increase in output will help to ensure that these people can sustain themselves without becoming reliant on government handouts. For these reasons, we will use changes in GDP as one measure when assessing the extent of the economic crisis.

The Unemployment Rate

Many countries experienced increased unemployment at this time When economic growth is very low or negative, it is very likely that the unemployment rate will increase at the same time. This can reduce the productive capacity of the economy. It also means that the people who have lost their jobs become reliant on government handouts for support. As fewer people are working, the government will probably be collecting less in income tax, and so funding the benefits for unemployed people can be an issue.

Related to this, often during an economic downturn we will see people stop looking for work. This will result in a fall in the participation rate. People become discouraged job seekers, and as a result they do not qualify as members of the workforce. This means that they can’t be classified as unemployed. As the crisis ends, these people generally start looking for work again. This can mean that the unemployment rate increases after the crisis is over.

The Government Budget

In every country the government operates with a budget. Here in Australia, the federal budget is handed down in May each year. During an economic downturn companies will make smaller profits. This means that collections from company tax will be lower. As outlined above, fewer people will be working, and so income tax collections will be lower.

At the same time, the government will be trying to spend more to stimulate the economy. In particular, they will need to provide unemployment benefits for all of the people who have lost their jobs. In general this will mean that the government ends up spending more money than it collects. This is known as a budget deficit. The bigger the downturn, the bigger the deficit. As a result, we will be able to use this to assess the severity of the downturn between 2007 and 2009.

Public Debt

When the government runs a budget deficit, they will need to find the money from somewhere. It is rare for a government to save money, and so they will not be able to call on money that was put aside in the past. It is far more likely that they will need to borrow the money in order to fund the deficit.

Public debt is money that is owed by the government. Therefore, if a country has experienced an increase in public debt during the crisis, we can take this as a sign that the crisis was perceived as being particularly bad by the government of the day. Public debt creates an obligation for future taxpayers, and so the government will only take this path if they believe things are genuinely likely to get worse without it.

The Sharemarket

One of the first signs of an economic downturn is often a fall in share values The sharemarket is an excellent measure of economic conditions. When people expect companies to be profitable, they will increase the demand for shares. This results in an increase in the price of shares, and therefore the overall value of the sharemarket will increase.

On the other hand, during an economic downturn it is likely that companies will make smaller profits (or perhaps even a loss). At this time less money will be available to be distributed as dividends, and so people will look for other investment options. In other words, when people expect that the economy is about to go “bad”, the value of the sharemarket will fall.

Bankruptcies

Finally, during the contractionary phase of the business cycle some businesses will find that their operations are no longer viable. While some will close for other reasons, many will find that they must close due to the fact that they are not making money.

Accordingly, we will be able to look at the number of bankruptcies that occurred during the crisis to assess the relative size of the problem. In countries where the crisis was very bad, we should see a marked increase in the number of businesses that were forced to close. On the other hand, countries that fared well during the crisis may have seen almost no increase in the number of bankruptcies at all.

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