Why is Osborne adamant on a budget surplus?

Sawyer - budgetruleobjectionsI’ve just finished reading Malcolm Sawyer’s take on budgets surpluses (Malcolm Sawyer – Budget 2015 The budget surplus¬†– see image for his basic objections) which leads be to write the following post, questioning whether budget surpluses are as positive as Osborne would have the public believe.

A¬†government’s fiscal situation and that of an individual, or even a firm, are completely different. When a government decides to borrow then it must be the case that the private sector is saving, and when the government decides to save then it must be the case that the private sector is borrowing. [...]

Was OPEC’s price increase inflationary or deflationary?

In the 1970s OPEC, the oil cartel, increased prices which – it is often proclaimed – is responsible for the stagflation in Western countries. Whilst we would naturally expect such an increase in price of a vital commodity to lead to inflation (we will examine these effects shortly), is it possible that there could have been some deflationary effects too?

Naturally basic economic theory would tell us that the oil price increase would be inflationary:

Oil is a commodity which is highly price inelastic (meaning a change in prices isn’t met with much of a change in demand) and so a rise in its price will have to be absorbed by consumers. [...]

What is a Cobb-Douglas Function?

The Cobb-Douglas function has many applications in economics; from being a well-behaved preference in microeconomics to a production function in macroeconomics. It is named after Paul Douglas, an American Congressmen who was researching labour and capital shares and asked Charles Cobb, a mathematician, for help in formulating this into a function. In this article we will explore its use as a production function.


In its simplicity, a CD (Cobb-Douglas) function is just a function. A function, in mathematical jargon, transforms an input into a single output: it is a one-to-one mapping. For example Y=2X is a simple function. X is the independent variable and Y is the dependent variable, because Y is determined by whatever the value of X is. [...]

Yap and the Stone Currency

yapYap is an island in the Pacific Ocean within the Caroline Islands with a population of around 10,000. Despite being a tiny country which you have probably never heard of before, Yap teaches us some important lessons on the functions of money. That is because money on the island consists of large stone discs, made from limestone and shipped from an island a few hundred miles off the coast of Yap, called Rai. They made Rai there money which they would use for expensive transfers, such as for their daughters dowry. Because Rai is made from limestone it is a mix between fiat money and commodity money. [...]

Predictably Irrational

I have just finished reading Predictably Irrational, a book by Dan Ariely on why economic thinking is flawed due to its failure to include behavioural economic concepts. In economics the actions of people are summed up by Homo Economicus, an imaginary figure that is completely rational and bases all its actions upon these rational foundations. Obviously not all humans are as rational as Homo Economicus, and this causes inconsistencies in economic models.

Dan Ariely argues that if we use findings from behavioural economics (a branch of economics that incorporates psychology) and mould these into our economic models, then we will improve our models and will thus have a better understanding of how the economy actually works. [...]

The Expansionary Fiscal Contraction Hypothesis

Read this essay (http://www.econ.aueb.gr/en/uploadfiles/AllRP092012.pdf) about the theory of expansionary fiscal contraction. In a nutshell the theory proposes that austerity (fiscal contraction) can lead to economic growth as consumers might anticipate smaller taxes tomorrow, and hence increase their spending today, thus boosting the economy. It also proposes that austerity would reduce the effects of crowding out, but this point is only really relevant when the economy is at full-employment, and so can be ignored regarding the current situation we are in.

The introduction of the essay is extremely good at explaining this point.

UPDATE: A follow-up of this issue is available to read here. [...]

Why worry about having a low domestic exchange rate?

There has been a lot in the news recently about the weak exchange rates of countries such as Brazil and India, mainly as a result of the impeding action being taken by the Federal Reserve (US Central Bank) to taper its Quantitative Easing scheme (that is to say, they will be reducing the amount of money they pump into the economy). The reason for this, is that US investors who were using QE dollars to speculate in the Indian and Brazilian economy’s, are now removing some of that money in order to place it in other US bonds which are expected to increase in yield. [...]

US Default

There has been a lot in the news recently about the possibility of a US default – what does this mean? A default is a term used for when a country refuses to pay its debt. Generally this is because they can no longer afford to, however there could be other reasons, e.g. a change of government brings in a socialist regime whose policy was to default. A default may not be of the entire debt, debtors may be required to take a ‘haircut’ – which is considered a default – meaning they wont be paid back the entire amount they are owed. [...]