Sequestration and Its Effects on Multiplier Model

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Sequestration refers to the act of mandatory use of money cuts in the budget in a situation where the government cost of running becomes more than the amount provided for expenses¹. In this case, government expenditure becomes higher than the gross revenue in the yearly budget. The government is a body that has various expenses across the country. Even though the government receives money from the public and use it in its activity for the general good of the state, it sometimes becomes in need of funds for its expenses. In such situations, the government will need to get financial support from other sources. Therefore, Sequestration is one of the acts taken by the government in the time it is on a financial crisis to remedy the situation. It can also be defined as a general cancelation of the resources reflected in the budget in a given percentage.

A multiplier model is a type of model which makes use of the assumption that there is a constant price level for all products. This model is represented on a graphical display and shows the various effects of the multiplier with the AS/AD model. In this case, if an increase in expenditure is experienced, it means that there will be a decrease or increase by more than the original change of the real income because of the multiplier².

As stated earlier, sequestration comes about when there is a governmental increase in expenditure which leads to cutting of the budget prices. Therefore, this will mean that aggregate expenditure is more than the aggregate production in the multiplier model. Also, the multiplier equation will not balance. The multiplier model takes an assumption of assuming a constant leveled price in the long and short-run. The short-run equilibrium takes place when the aggregate income or production becomes equal to the found aggregate expenditure. Short-run refers to the small period with which the factors that affect the Multiplier model have not yet fully brought effect on the economy³. That is, some factors are variable and other fixed and have a direct effect on the model. The figure below shows a graph of real expenditure against real income. In this case, the equilibrium is at the point where AP intersects with AE. Here, the total expenditure (AE) is equal to the Aggregate income (AP) in the short- run. The forty-five degrees line provides the position within which the equilibrium lies. In the long-run (figure 2), when all the factors come in place, the actual income is equal to the expected income indicating the equilibrium⁴.

Sequestration and Its Effects on Multiplier Model — Figure 1.

Figure 3 shows the aggregate demand and aggregate supply model. This is a model that gives an explanation of the changes in the price level and the output in an economy. In a bid to explain this, it makes use of the relationship between aggregate demand and suppl⁵. Therefore, in explaining the effect of sequestration, when an economy tries to regain by increasing tax, it then leads to an increase in the general price of the commodities in the economy as shown above. The graph makes use of the theory of employment, money, and interest.

As stated earlier, sequestration comes about when the government expenditure increases than the revenue. Therefore, since the budget has been negatively interfered with due to sequestration, the government will tend to look for ways in which it can generate income to cover their expenses. In consequence, it will then increase taxes on goods and services produced as one of the ways of raising its revenue. If taxes increase on any goods and services, it will then mean that companies or business organizations will need to maintain their profit margin. As a result, they will in turn increase their prices for their products. A continuous and persistent increase in the prices of goods and services will lead to inflation. Inflation is the increase in prices of goods and services in a country in a given period⁶.

It should be noted that inflation is one of the worst incidents in any economy. Among other effects, inflation leads to the loss of value of the domestic currency of the countries experiencing it. There are two types of inflation. Cost-push inflation and demand-pull inflation. Demand-pull inflation refers to a situation whereby there is an increase in the prices of goods and services due to the increase in their demand. In this case, if the number of goods or services that consumers need rises, according to the law of demand, the price of this product will increase and vice versa⁷. The increase in price commodities and services then brings about inflation. On the other hand, cost-push inflation refers to an increase in the price of goods or services due to an increase in their cost of production.

An increase in the cost of production can be caused by various reasons which include unavailability of raw materials leading to an increase in their prices, an increase in transport costs of raw materials, increases in government taxes among others. The increase in the cost of production will mean that companies need to strategize on ways in which they can reduce the cost of production. Labor being one of the factors of production, many companies mostly focus on reducing the number of manpower in organizations in a bid to reduce the cost of production. In this case, they then retrench employees who now become unemployed.

Further, inflation can discourage investments. This is because many entrepreneurs who would want to start businesses will find it expensive for them to venture into a business. After all, they might not be having the required capital. If these people would venture into business, they would need workers who could work in the business hence creating employment. However, if they do not venture, it means that many people will remain unemployed. For those companies already in the field, In the short run, they may not feel the effect of their increase in prices immediately and if they feel, they will need to adjust and take time before they act. However, in the long run, they will have now the whole market information. They will then react by maybe reducing the number of employees⁸. Hence, this act if it continues will lead to many people without jobs.

Today, the sequestration and fed’s police are trying to work hand in hand to ensure that there is a reduction in inflation and unemployment. For instance, in the US economy, the government is trying to reduce the spending cut and the effect it has on the economy. While fed’s policy tries to ignore the anticipation of the great depression and the economic recession that happened in the USA, it is making an increase in employment and reduction of inflation as the major mission to be achieved⁹.

Bibliography

Banerjee, Mrityunjoy. Inflation: causes and cure: with special reference to developing countries. Calcutta: World Press, 1975.

Coates, Ben. The impact of the English Civil War on the economy of London, 1642-50. Aldershot, Hampshire, England: Ashgate, 2004.

FY 1986 budget sequestration: agency approaches to implementing reductions under formula grants : fact sheet for the Honorable Lloyd Bentsen, United States Senate. Washington, D.C.: The Office, 1986.

Geare, Randolph Iltyd. A list of the publications of the United States National museum (1875-1900): including the annual reports, proceedings, bulletins, special bulletins, and circulars, with index to titles. Washington: G.P.O., 1902.

Hubbard, Glenn and Anthony O’Brien. Student Value Edition for Microeconomics plus NEW MyEconLab with Pearson eText Access Code Card (1-semester access). US: Prentice Hall, 2011.

Hudson, John. Inflation, a theoretical survey and synthesis. London: George Allen & Unwin, 1982.

Livingstone, Darly.. Class, Ideologies and Educational Futures (RLE Edu L Sociology of Education). Hoboken: Taylor & Francis, 2011.

Footnotes

FY 1986 budget sequestration: agency approaches to implementing reductions under formula grants: fact sheet for the Honorable Lloyd Bentsen, United States Senate. (Washington, D.C.: The Office, 1986), 4-6.
Darly Livingstone,. Class, Ideologies, and Educational Futures (RLE Edu L Sociology of Education). (Hoboken: Taylor & Francis, 2011),18-19.
Glenn Hubbard and Anthony O’Brien, Student Value Edition for Microeconomics Plus NEW MyEconLab with Pearson eText Access Code Card (1-semester access). (US: Prentice-Hall, 2011), 6.
Ibid, 9.
ies Mrityunjoy Banerjee, Inflation: causes and cures: with special reference to developing countries. (Calcutta: World Press, 1975), 6.
Ibid., 4-7.
John Hudson. Inflation, a theoretical survey, and synthesis. (London: George Allen & Unwin, 1982), 14.
Ben Coates, The impact of the English Civil War on the economy of London, 1642-50. (Aldershot, Hampshire, England: Ashgate, 2004), 24.
Randolph Iltyd Geare, A list of the publications of the United States National Museum (1875-1900). (Washington: G.P.O., 1902), 24.

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Sequestration and Its Effects on Multiplier Model

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