Comment on the Extent to Which a Government Can Facilitate a “rebalancing of an Economy Away from Consumption and Towards Exports and Investment

To a certain extent the government can facilitate a “rebalancing of an economy away from consumption and towards exports and investment”.

For example the government could choose to use policies such as depreciating the exchange rate (monetary policy). This would reduce the price of our exports (for foreign consumers), thus increasing the demand for UK exports, thus increasing the value of exports. In turn, this increased demand for UK goods and services is likely to stimulate firms to invest in new capital in order to meet this additional demand.

The government could also seek to “rebalance the economy” by perhaps reducing corporation tax or perhaps even providing specific tax breaks for firms seeking to invest. As firms would have lower tax, they would have both higher retained profits and a higher incentive to invest (as they can keep more of their profits in the future). As a result investment would increase, resulting in higher quantity and quality of capital. This in turn should help reduce their prices and improve their quality of goods and services. This combination would increase international competitiveness, thus making UK products more desirable abroad and thus increasing exports.

However, “rebalancing the economy away from consumption and towards exports and investment” is difficult to achieve. Firstly, monetary policy such as manipulating the exchange rate is not typically used, due to the potential issues with other governments seeing this as a protectionist policy and thus retailiating. In addition, as exports are increased, typically real GDP increases, thus increasing national income, thus increasing consumption and imports. As a result, there is a conflict between increasing exports and investment and reducing consumption.