Essay (Individual work; 1500 words maximum; include a list of references.) Remember that you are to write an essay – points a) to c) are to help you see what should be included. The essay should read...

Explaining the puzzle “dangerous imbalances”
The puzzle „dangerous imbalances‟ relates to how economies were operating in the fifteen years
preceding the global financial crisis of 2007-09. This was the period of „Great Moderation‟.
Despite oil shocks in the 2000s (as opposed to oil shocks of the 1970s), the period was
characterized by a very stable and low inflation rates and drastic reductions in unemployment
among many European economies. Policy makers and many economists credited these
improvements in performance to a decade long labor market reforms along with better policy
making and inflation- targeting. But the unfolding of the European debt crisis and global
financial crisis from 2008 implied that in the shadow of Great Moderation, imbalances (such as
mounting cu
ent account imbalances, different growth strategies etc.) were building up and with
them, the pre-conditions for crisis. It is these imbalances among member countries in the Great
Moderation period that were held responsible for subsequent crisis in the Eurozone and therefore
these imbalances were called „dangerous imbalances‟ among the members.
Mounting external balances of a number of large economies was one of striking features of the
global economy in the Great Moderation period. Courtiers like UK, US and Spain has rising
external deficit of significant size whereas these deficits were growing surpluses of countries like
China, Japan, Germany and many Oil-producing countries. At the same period, central banks in
oth developing and developed economies followed inflation-targeting policies and were
successful in achieving a stable and low inflation. In hindsight, imbalances that emerged in the
Great Moderation period (especially in 2000s) and inflation-targeting policies during that period
were unhealthy in the sense that ware held responsible for subsequent global financial crisis.
One way to explain these global imbalances in 2000s is to look at the outcome of the different
growth strategies by the major global economies. While countries like US, UK and Spain
adopted the policy of supporting growth through domestic demand, the countries like China and
Germany followed the policy of restraining domestic demand and thereby promoting net exports
through depreciation of their cu
ency. In other words, growth strategies of US, UK and Spain
were based on domestic demand whereas growth strategies of China and Germany were based on
export.
The other reason could be cheap labor in developing countries like China. Labor in developing
countries is often cheaper than labor in developed countries. Therefore cost of production in
developing world tends to be lower, which provide them competitive advantage over goods from
developed countries,...