Description
Hong Kong is experiencing deflation. And it is becoming more serious after the
incident of the September 11 tragedy. It is expected that Hong Kong will record its
35th consecutive month of deflation.
The September 11 tragedy lead to economic recession in the UK and the export of
Hong Kong and tourism has also declined. With a view to this, the investment and
consumption has also decreased. It is expected that the consumer price index will fell
1.3 percent in Sept compared with a year ago. And the unemployment rate will rise
from 4.9 percent to 5.3 percent by year-end. As a result, the GDP will decrease and
deflation is resulted
Explanation
Deflation means a persistnet decrease in the general price level. It occurs when there
is a decrease in the aggregate demand of goods and services. And a deflationary gap
will be resulted which is defined as the excess of output over planned aggregate
expenditure at full employment level.
Price AS
Output
Unemployment
In the 4-sector Keynesian model, there is firms, households, government sector and
trade sector. Equilibrium occurs when Y=E or leakages = injections.
Y=C+S+T
E=C+I+G+(X–M)
C+S+T=C+I+G+(X–M)
S+T+M=I+G+X
Leakage Injection
Exports are exogenous and the export demand depends on the trading partner’s
income rather than on domestic income. USA is one of our biggest trading partners
and the export demand decrease after in Sept 11 tragedy. Also, there is the decrease of
USA tourists that comes to HK. The export of goods and services has declined. There
is an autonomous decrease in exports and the aggregate planned expenditure will fall.
The planned investment will also fall. The Sept 11 tragedy has caused a decline in
property market in USA and also HK. The bond price has decreased which means the
interest rate has increased in Hong Kong. The cost of borrowing money for
investment will be higher then and less investment will be made. Also, people expect
the interest rate to rise and they will hold more money to avoid capital loss. The asset
demand for money will increase. The planned investment will decrease.
The planned consumption will also decrease. The unemployment and cooperate
restructing hit fragile consumer confidence and dampen consumption. People expect a
decrease in future price and income and they will decrease their planned consumption
and increase planned savings. As a result of the uncertain market condition, the
precautionary demand for money will increase, leading to a decrease in aggregate
demand. The consumer price index, which reflects the price level of consumer goods,
has decreased. And deflation is resulted.
As export demand, planned investment and planned expenditure has decreased. The
aggregate planned expenditure has decreased. This causes a downward shift of the
planned aggregate expenditure curve.
Y,E S,I
As the export, investment and consumption have decreased the decrease in spending
of one party lower income for another party. Through the multiplier effect, the
decrease in output will be by a multiple amount. The decrease in income will be larger
than the initial decrease in income. The equilibrium level of income has decreased and
the deflationary gap is further widened. Thus, deflation is resulted.