Answer to Question #112251 in Macroeconomics for Nihaad Mookith

Question

(a) Explain the COVID 19 effect on aggregate supply. As a result of this change in aggregate supply, what is expected to happen to national income? Illustrate your answer on an appropriate diagram. (11 marks)
(b) Discuss appropriate monetary and fiscal policy which the government can use to remedy this situation. Also discuss the limitations of the proposed policies. (11marks)

Answer 1

A)Effects of COVID 19 on aggregate supply.

The spread of covid 19 in the world will have a diverse effects on aggregate supply in general.As more productive population is affected by these disease. The following are the effects of covid 19 on aggregate supply:

1. The most developed countries have been affected and mostly to counter this pandemic, they have been forced to put lock down on their people and their industries. Also so many industries have been closed temporarily due to this virus, this in turn affects the production. Companies and industries that are left end up producing very few goods thus affecting the the aggregate supply.
2. This pandemic have also forced many people to stay at home and many businesses have been closed down. For the service industry, it is widely affected as the people who are supposed to be offering these services are at home. Therefore essential services will be on low supply in the market. This will in turn affect the economy of any state that is affected.
3. Most of the third word countries depend on the developed countries like China to import raw materials for their companies, since every countries have imposed lock down on its borders , therefore this means that also those industries will suffer and in turn their production will be affected, they may even be forced to close down as they are not producing anymore. This affects the general aggregate supply.
4. Most of the funds have been directed to counter this pandemic, therefore there is less funds from the government and private investors to fund production of goods and services. This will mean that the industries will have less funds to support their production activities. This reduces the general aggregate supply.

Effects on national income.

Covid 19 will have a very severe effects on national income. The GDP expected to decrease significantly due to this pandemic. Since the industries and companies are affected very much and even others forced to close down, the amount of revenue the are generated from the companies will be effected. The governments may also decide to reduce the taxation in that country therefore reducing the amount they get annually.

B) Monetary and fiscal policy which can be used to remedy the situation.

1. The government can reduce the bank rates so as to allow people and business to borrow and sustain their businesses during this pandemic period. They can also reduce the interest rates on loans.
2. The government can also come through to help the businesses and also support the most affected population by releasing funds to deal with the situation. Since a lot of people are not working, the government can decide to provide basic necessities to its citizens. They can also make some resources like water, electricity to be free during this time. To make all this happen, the government spending will have to increase i.e release more funds to cater for the needs of its citizens.
3. The government can also decide to reduce the prices of goods and services and services for its citizens during this time. This will make sure people get basic needs at lower cost.

Limitations

1. Increasing the amount of government spending will therefore results to more money in supply and it can cause inflation.
2. Reduction of price of goods and services will also affect taxes and hence low government earning from the businesses.
3. Decreasing interest rates can also be a problem because you will be encouraging people to borrow more money and it can affect the economy significantly . This can cause the price of goods to shoot.