We are going to speak about the evolution of the British economy during the financial

crisis of 2008. Especially, we are going to talk about the period of 2008, when the
financial system falls, until 2018.

INTRODUCTION (before the crisis)

1. Unemployment:

The United Kingdom was a country with a very good unemployment rate before the
crisis, remaining at 5%. As we can see in the graph, in 2007 it was 5.3%. And instead,
already in full crisis in 2011, increased to 8.1%.

2. GDP growth:

The GDP of the United Kingdom in 2007 was 2.5%. Also, in 2007 the United Kingdom
was the 5th economy in the ranking of the 195 countries from which that publish GDP.
If they order the countries that are published based on their GDP per capita, the United
Kingdom was in a very good place in terms of the standard of living of its inhabitants,
since it ranked number 13 in the ranking of 195 countries of which these data are known.
The global crisis ended with these good data and as we can see in the graph, it took a
few years to
reach the pre-crisis levels.

3. Interest rate:

As we can see in the graph, the interest rate remained constant at 5% until the crisis
caused it to fall to 1% and still remains at the same level.
The Financial Crisis and the Great Recession have brought some interest rates in many
areas of the world to levels close to zero and even to negative interests.

4. Inflation:
Inflation in the United Kingdom remained at low levels but that was modified by the
outbreak of the crisis. This increase in inflation imply a significant decrease in
investments into the productive sector.
MONETARY POLICY:
The work of the bank of England is to fix the interest rate in order to avoid recessions
and stabilize the economy. Once they know that, they adjust the money supply in order
of achieve the interest rate that they want.
If we talk about the monetary policies during the crisis, we see that what the bank of
England did, in order of stimulate investment and as a consequence increase in
consumption and also in output, was to increase the money supply by buying bonds, so
putting more money in circulation and as a consequence the interest rate decrease. As
we can see in the data, the money supply in 2008 was 1.900.000 million pounds and in
only two years this increase until 2.420.000 million pounds. As a result, the interest rate
decreased from 5% to 0,5%. This change we can see that have an effect in the LM
model.

As we said before the main objective of this expansionary monetary policy is to boost
the economy through this decrease of the interest rate (so this stimulates the investment
and increase the demand of household but also of the firms) and by increasing the
money supply which means that now the banks have more money and they are able to
give loans and mortgages to people.

But, this monetary expansion policy didn’t have the effect that the policy makers
expected as, even though now banks had enough money, because of the increase of
money supply, household investment neither firms investment increase so we can say
that this policy didn’t have the effect that they were searching for. This no increase in
investment continued until 2015.

In this graphic, as we can see, the investment didn’t increase so much and as a
consequence the demand didn’t do it too.
As we can see this decrease in the interest rate had much more results in the household
sector than in the non-financial corporations, which are farms. This is because when they
borrow money, the farms not only take into account the interest rate, which is the price
of borrowing money, they also take care of the demand that they product will have so, if
demand doesn’t grow they won’t be as encourage to invest.
In order to solve this, we must stimulate and increase the demand using fiscal policy,
that will be anilise later.

At least, what we are going to analize is the evolution of the inflation during the crisis.
(evolution inflation)

As we can see in this graphic, once the crisis boom in 2008, the inflation rate started
increasing, from 2%, which is what the inflation should be to almost 5,5%. This is not
good and the bank of England must adjust the nominal interest rate to take into account
expected inflation.

In order to fix it, the bank of England used the formula of the real interest rate ri- which
tell us that the lowest real policy rate the central bank can achieve is the negative of
inflation.

So, for example, as we already see, the nominal interest rate during the crisis was nearly
0%
which tell as that the lowest that the real interest rate could be is the negative of the
current inflation.

Why is this important? Because they had to take this into account when they were doing
the expansionary monetary policy.
Also this is very important because, as we will study later, consumption depend
negatively on the interest rate, so by bring in it lower we could maybe achieve a
stimulation of the economy. That’s exactly what the bank of England did, it pushed the
real interest rate down, knowing the current inflation, in order of stimulate the
consumption.

evolution of the real

interest rate
FISCAL POLICY:

Fiscal policy is not frequently used in the UK. In theory, the government could use fiscal
policy to moderate economic cycle, but there are political difficulties to change it. The
government tend to leave economic management to monetary policy and the Bank of
England.

However, in 2009, the UK decided to use an expansionary fiscal policy by introducing a

temporary cut in VAT (value added tax) from 17.5 per cent to 15 per cent and increased
the government spending by £3 billion worth of capital. The main objective was
to stimulate aggregate demand and boost the rate of economic growth. This guarantees
a greater effect on GDP since the government spending multiplier is greater. As a result,
the budget deficit was expected to increase to a record peace-time level.

In May 2010 the Conservative government was elected. Although the economy was
starting to recover, they decided to reverse the policy to a fiscal austerity by cutting the
government spending. They argued that government borrowing, which was over 10% of
the GDP, was too high and needed to be cut. The intention was to bring the budget
deficit down from 10.1 percent of GDP in 2010/11 to 1.1 percent by 2015/16.They also
increased indirect taxation.This contributed to a double-dip recession and a slower
economic recovery.

Additional fiscal consolidation measures continued under the Conservative government

elected again in May 2015. The budget deficit needed to be reduced. A budget surplus
in 2020 was the new target.

IS-LM:
During the first period, investment and government spending were high while taxes were
reduced so the IS curve shifted up. As a consequence, the output increased.

Then, the fiscal austerity policy decreased government spending while increasing taxes
in order to reduce the budget deficit. This caused a shift down of the IS curve.
PHILLIPS CURVE:

Recent data for the UK suggests that the standard Phillips Curve model has changed.

The unemployment rate in Britain is currently at 4.3% of the labour force, the lowest it
has been for over 40 years. Unemployment has more than halved since the end of the
last recession yet the annual growth of wages (measured in nominal terms) has been
fairly stable at or around 2%.

Some economists believe that the Phillips Curve has flattened, so that the economy can
continue to grow and create new jobs without triggering a burst of above target inflation.
ACTUALITY:

The economic recovery has been altered in an exceptional way due to the current
political situation, the Brexit.

However, we will analyze these factors:

1. Unemployment:

We can see in the graph that in 2018 the unemployment rate is approximately 4% with
some tiny variations depending on the month. This number compared with the
unemployment rate in 2008 that is 5,7%, we can say that the economic policies have
worked because the unemployment rate has dropped by 1,7% since the crisis.

2. GDP growth:

In 2018, the GDP growth was 1.4%. We can see that since a few years ago,
approximately since 2014, which was over 3,1%, GDP growth has been falling
considerably. This is synomy of recession. During a recession, fewer goods and services
are sold, business profits are reduced, the stock market falls, government tax collection
decreases and unemployment rates rise. In the graph, we can see that since 2014, the
growth of GDP is falling.

If we compare it with the GDP growth during 2008 which was -0.5% or 2009 whitch was
-4.2%, we can see that the GDP growth has improved thanks to economic polices.

3. Interest rate:

United Kingdom has increased its interest rates by 0.25 percentage points, from 0.5% to
an annual rate of 0.75%. The key rates a tool used by Central Banks to implement
monetary policy. An increase in interest rates is used to slow down inflation and protect
the currency. This change is the first to have taken place since on November 2017, when
the Central Bank increase interest rates by 0.25 percentage points to 0.5%
During the financial crisis of 2008, people reduced their spending and many lost their
jobs. They had to cut interest rates to really low levels to support spending and jobs. We
can see in the graph that interest rate in 2007 was by 5,5%. Over the past few years,
the british economy has needed interest rates to stay very low as they recovered from
the global financial crisis.

4. Inflation

The annual inflation rate in the United Kingdom fell to 1.8 percent in January 2019 from
2.1 percent in the previous month and below market expectations of 1.9 percent. It was
the lowest inflation rate since January 2017, mostly due to a slowdown in cost of
electricity, gas and other fuels.

The UK experienced periods of cost-push inflation during 2008-2013. This inflation was
caused by rising oil prices, devaluation of Pound and higher taxes.
CONCLUSIONS:
 The first government applied a expansionary fiscal policy. As a consequence, the
output increased but the budget deficit was very high.
 The Conservatives in 2010 decided to apply an austerity fiscal policy in order to
reduce the government borrowing. It slowed the economy recovery.

 In order of stimulate the economy, they did an expansionary monetary policy by

decreasing the interest rate.
 As we had seen, this decrease didn’t have the effect expected by the policy
makers and as a consequence investment didn’t increase and consumption and
GDP neither, until 2015.
 And finally, we had seen that the Phillips curve doesn’t have any more as strong
relation as it had before.