How do interest rates affect consumption and economics growth in UK?

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Literature Review How do interest rates affect consumption and economics growth in UK?


The role of the interest rates, particularly the real interest rates are evident in any nation that is seeking to improve its economic growth and development. Developed economies that have had their economies stagnate have blamed the performance of the government in failing to invest in public infrastructure, for example the USA (Stiglitz, 2016). This implies that there arises a need to improve the public investment that can improve the private investment necessary in improving national savings. This can be through relaxing the real interest rates to allow access of funds of investment. However, this has not always been the case considering that most nations, despite the low interest rates, are witnessing slow economic growth (United Nations, 2016). Most developed nations have sought to improve their economic stability through economic reforms that favour interest rate liberalization, which in our case is negative (Yang & Liu, 2016). This is because, instead of increasing high economic growth that favours macroeconomic benefits such as low unemployment rates, the economic growth is decreasing. The low economic growth is characterized by high unemployment rates.

The desire to achieve a higher economic growth has prompted the adoption of budget deficits among developed countries like the USA. In the short run, the budget deficit may improve the performance of the nation in question. In case there is a failure to repay the debt, there are consequences that arise as the interest rates may rise that affects the country’s economic growth (Ogawa, Sterken, & Tokutsu, 2016). Owing to the fact that this may erode the country’s economic growth, a need for interest rate stabilizer policies arises. In fact, this has driven the Conservative government of the UK to always promise to reduce budget deficits, though it has failed to honour this pledge (Berry, 2016). The UK government has withdrawn funds from some of its public entities, including the public services as announced on June 2015, by 6.2%. This affects the delivery of public services that may prompt the consumer to seek health services from the private sector as the level of service deteriorates (Devakumar, Mandeville, Hall, Sutaria, & Wolfe, 2016).

The 2008 global crisis affected the economic performance of the EU. The credit and the housing bubble contributed immensely with the role of the technology being downplayed (Stiglitz, 2014). Being in the Euro zone has prompted the UK to engage in the implementation of the Fiscal Compact Treaty, which will help countries to tame their budget deficits to protect their national welfare as indicated in Figure 1 (Lane, 2012; OECD, 2016). Historically, the performance of the UK has been pegged on current account deficits. The current account deficits have for long helped streamline the consumption in the UK that ensures that the consumer utility function is sustained (Forbes, Hjortsoe, & Nenova, 2016). Despite its importance in maintaining the consumer welfare, relying on the current account deficit can be affected by international activities like the Chinese economic growth in 2013 (Forbes, Hjortsoe, & Nenova, 2016). For example, a shortage in imports leads to an increase in the demand in the UK that bolsters high prices that demand high interest rates to eliminate the macroeconomic externalities like high rates of unemployment. Therefore, there is a need to possess larger capital reserves to insure the consumer against international economic crises (Frankel & Saravelos, 2010).

Current account deficit can posit the economy in a manner that allows consumer experience sustainable utility curves that are key to improving the quality of work life. Therefore, a need arises where the government can employ macroeconomic instruments like Quantitative Easing to reduce the cost of high interest rates on consumption (Gordon, 2015). Quantitative easing is expected to sustain the economic growth through macroeconomic benefits like reduced unemployment. However, this has not been the case as most advanced nations like the UK have had to adapt to low rates of economic growth in comparison with the period before the global recession (United Nations, 2016; Dijkstra, Garcilazo, & McCann, 2015). Maintaining the consumption level of the consumer demands a decreasing unemployment rate, though in most developing regions, including the UK, the unemployment rate has grown by 77.2%. This represents the unemployed who were out of work for more than 12 months (United Nations, 2016). Therefore, though influencing the performance of the interest rates to support economic growth is a reality, there remains an opportunity to explore the reasons why the consumer welfare is deteriorating in the UK; one of the worlds advanced economies. In contrast, an increase in the aggregate demand is expected in the presence of quantitative easing as the interest rates support investment that leads to the employment of factors of production (Istiak & Serletis, 2016).

Currently, most nations are striving to improve their economies as the level of macroeconomic uncertainties persists (Popp & Zhang, 2016). This demands financial and economic measures to restructure the economy in our case to ensure an increase in economic growth that lacks in the UK. Financial integration through restructuring interest levels to encourage international borrowing and lending is promising to improve the consumer welfare globally (Islamaj & Kose, 2016). Financial integration has helped ensure that the consumption is less sensitive to income changes that are affected by the changes in financial and economic attributes, for example the interest rates. Financial uncertainty is instrumental in macroeconomic uncertainty due to its influence on the economic growth (Popp & Zhang, 2016). Therefore, the need to cushion the consumer arises due to their negative effects on the consumerism.

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