ANSWER:

a) Discuss the functions of government in economics.

The economic role of the government can best be defined by a classification of its
economic policy aims. In short, the government ensures full employment, price
stability, and stable economic growth. Some of the economic functions of the
government are:
i. Providing legal and social framework
Sets legal status of business enterprises, ensures rights of private ownership,
and allows the making and enforcement of contracts. Services provided
include police powers to maintain internal orders, a system of standards for
measuring the weight and quality of products, and a system of money to
facilitate the exchanges of goods and services.
ii. Creating a business environment that promotes healthy competition
Competition is a basic regulatory mechanism in a market economy. A healthy
business environment has to be created in the market to promote the
competition. Competition will lead to efficient usage of resources and in turn
will satisfy the consumer’s needs. A higher price and profit for goods shows
that the value of the goods is high, while a lower price and profit shows that
there are too many of the goods in the market. Therefore, economic resources
should focus on profitable industries.
iii. Redistribution and reallocation of income and wealth
The market system is impersonal. The market price mechanism merely
distributes goods and services to consumers with an income. It may distribute
income with more inequality than society desires. It does not guarantee a fair
distributions of income and wealth to all citizens. This is because not all
citizens from the upper classes. Some are from the lower classes. Therefore,
the government has to play its role to ensure that income is distributed more
fairly among the people. Price mechanism can only reallocate the good and
services to the consumers that have the resources and income to obtain them,
but it cannot guarantee the allocation of the income and wealth be done fairly
among the population. Therefore, the government has to play their part in
order to reallocate the income and wealth in a fair way. Society chooses to

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 redistribute income through a variety of government policies and progress:
The New
Economic Policy and National Development Policy have been implemented
by the government to ensure the fairer distribution of income.
iv. Increasing the efficiency of the allocation of resources
The country’s economic resources should be utilize efficiently to increase the
output. Capital, labour force, land, and other inputs should be utilize
completely without waste. For example, to ensure that the workforce are
utilize completely in this country, the government endeavours to make sure
that the resources are utilize meaningfully. This is done by giving incentives to
promote the growth of some industries and imposing text on discouraged
usage.
v. Creating a stable economic environment
A stable economic environment is important to encourage investment,
especially foreign investment. Usually, investors earn for a stable rather than a
chaotic economic environment. This is to guarantee the expected investment
returns. In addition, a peaceful environment and political stability are
important to the livelihood of the citizens and to improve the standard of
living.
vi. Controlling the price of necessity goods
Continuous price increase or inflation not only affects the economic growth of
country but will also reduce the purchasing power of the consumers.
Therefore, the government needs to monitor the price movement of basic and
necessity goods. The steps taken by the government in monitoring the price
movement will ensure the standard of living and the real value of money is
declining because of the inflation, e.g. the monitoring pf price level of basic
goods during the holiday season by the government through the Ministry of
Domestic Trade and Consumer Affairs.
vii. Increasing government welfare activities
The government has the responsibility of providing public facilities for the
low income consumers. This is because the lower classes are unable to afford
luxurious facilities such as medical services, health facilities, and education.
For example, the lower classes cannot afford high medical costs. Thus, the

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 government continuous the subsidies a large portion of the medical costs so
the public has to pay only low charges.

b) In your opinion, what is actually happen to the Malaysia economics today and shows
the evidence by using an appropriate statistical data.

Malaysia has implemented the 6 % GST on 1 April 2015 impose by the government for
several goods and services in the market. It has affect hike the price dramatically. The
government tried to help reduce the burden of the people by providing assistance such as
BRIM, book vouchers, subsidies. After a few months later, the country also experienced a
drop in world oil price and it’s will also effect to the currency value crisis. However as the
year progress our country ends up in a situation where inflation happens on a higher rate. It is
reported at 2.8% in the fourth quarter of 2014. This is rise when the GST in introduced.

I. Inflation rate (CPI, annual variation in %)

Inflation refers to an overall increase in the Consumer Price Index (CPI),
which is a weighted average of prices for different goods. The set of goods
that make up the index depends on which are considered representative of a
common consumption basket. Therefore, depending on the country and the
consumption habits of the majority of the population, the index will comprise
different goods. Some of goods might record a drop in prices, whereas others
may increase, thus the overall value of the CPI will depend on the weight of
each of the goods with respect to the whole basket. Annual inflation, refers to
the percent change of the CPI compared to the same month of the previous
year.
The table below shows annual inflation by country for the last five years.

INFLATION DATA 2010 2011 2012 2013 2014

Lithuania 1.3 4.1 3.1 1.1 0.1

Luxembourg 2.3 3.4 2.7 1.7 0.6

Macedonia 1.6 3.9 3.3 2.8 -0.3

Malaysia 1.6 3.2 1.7 2.1 3.1

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Malta 1.5 2.7 2.4 1.4 0.3

II. EXCHANGE RATE (vs USD)

An exchange rate between two currencies is the rate at which one currency
can be exchanged for another. That is, the exchange rate is the price of a
country’s currency in terms of another currency. An exchange rate has two
elements: a base currency and a counter currency. 
The table below shows the exchange rate versus the U.S. dollar (USD) by
country for the last five years.

EXCHANGE RATE DATA

2010 2011 2012 2013 2014

Lithuania 1.34 1.30 1.32 1.38 1.21

Luxembourg 1.34 1.30 1.32 1.38 1.21

Macedonia 46.86 47.65 47.20 44.67 50.61

Malaysia 3.08 3.17 3.06 3.28 3.50

Malta 1.34 1.30 1.32 1.38 1.21

Mexico 12.36 13.95 12.87 13.04 14.75

Moldova 12.15 11.74 12.12 13.06 15.61

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III) ECONOMIC GROWTH ( GDP, annual variation in %)

GDP, short for Gross Domestic Product, is defined as the total market value of all final goods
and services produced within a country in a given period. It includes private and public
consumption, private and public investment, and exports less imports. GDP is the most
commonly used measure of economic activity and serves as a good indicator to track the
economic health of a country. Economic growth (GDP growth) refers to the percent change
in real GDP, which corrects the nominal GDP figure for inflation. Real GDP is therefore also
referred to as inflation-adjusted GDP or GDP in constant prices.

The table below shows the percent changes in real Gross Domestic Product (GDP) per
country for the last five years.

ECONOMIC GROWTH DATA

2010 2011 2012 2013 2014

Lithuania 1.6 6.0 3.8 3.5 3.0

Luxembourg 5.7 2.6 -0.8 4.3 4.1

Macedonia 3.4 2.3 -0.5 2.7 3.5

Malaysia 7.2 5.3 5.5 4.7 6.0

Malta 3.5 2.2 2.6 4.1 3.7

Mexico 5.1 4.0 4.0 1.4 2.3

Moldova 7.1 6.4 -0.7 9.4 4.6

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IV) MALAYSIA ECONOMIC OUTLOOK
In Q2, GDP increased at the slowest rate since the global financial crisis hit the economy in
2009 and growth is likely to remain sluggish in the coming quarters. The deceleration was
within expectations as net exports and the agricultural sector continued to drag on growth in
Q2. Domestic demand nevertheless remained resilient, driven by broad-based improvements
in both public and private consumption. Likewise, industrial production registered a sharp
improvement in June, growing at the fastest rate since July 2015.

Malaysia Economy Data

Malaysian Economy Data 2011 2012 2013 2014 2015

Population (million) 29.1 29.5 29.9 30.3 30.8

GDP per capita (USD) 10,282 10,883 10,785 10,737 10,222

GDP (USD bn) 299 316 324 340 298

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Malaysian Economy Data 2011 2012 2013 2014 2015

Economic Growth (GDP, annual variation in %) 5.3 5.5 4.7 6.0 5.0

Consumption (annual variation in %) 6.9 8.4 7.3 7.0 6.0

Investment (annual variation in %) 6.4 19.0 8.2 4.8 3.7

Industrial Production (annual variation in %) 2.4 4.2 3.4 5.1 4.5

Unemployment Rate 3.0 3.0 3.0 3.0 3.3

Fiscal Balance (% of GDP) -4.7 -4.4 -3.8 -3.4 -3.2

Public Debt (% of GDP) 50.0 51.7 53.0 52.7 54.5

Money (annual variation in %) 14.7 9.7 7.7 7.5 2.9

Inflation Rate (CPI, annual variation in %, 3.0 1.3 3.2 2.7 2.7
eop)

Inflation Rate (CPI, annual variation in %) 3.2 1.7 2.1 3.1 2.1

Inflation (PPI, annual variation in %) 12.0 -0.2 -2.4 1.3 -7.5

Policy Interest Rate (%) 3.00 3.00 3.00 3.25 3.25

Stock Market (annual variation in %) 20.7 0.1 7.0 10.8 -1.3

Exchange Rate (vs USD) 3.17 3.06 3.28 3.50 4.29

Exchange Rate (vs USD, aop) 3.06 3.09 3.15 3.27 3.91

Current Account (% of GDP) 10.9 5.2 3.4 4.3 2.9

Current Account Balance (USD bn) 32.6 16.4 11.2 14.5 8.8

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Malaysian Economy Data 2011 2012 2013 2014 2015

Trade Balance (USD billion) 40.5 31.1 22.4 25.1 24.0

Exports (USD billion) 228 228 229 234 200

Imports (USD billion) 187 197 206 209 176

Exports (annual variation in %) 14.4 0.0 0.4 2.4 -14.6

Imports (annual variation in %) 13.5 5.0 4.9 1.4 -15.8

International Reserves (USD) 134 140 135 116 95.3

External Debt (% of GDP) 56.7 62.3 65.6 62.9 65.1

c) In your opinion, what is actually happen to the Malaysia economics today and shows
the evidence by using an appropriate statistical data.

I) Monetary Policy to Combat Inflation

 The government applies contractionary quantitative and qualitative monetary

policies which will decrease the money supply and credit creation and hence,
decrease the aggregate demand in order to stabilize the economic situation and to
control economic inflation.
 Contractionary Quantitative Monetary Policy
 There are various instruments of tools policies which the central bank employs to
achieve the goals of the economic policy, i.e. to combat inflation.

1. Raising statutory reserves requirement

During inflation, the central bank will increase the rate of statutory
reserves where the needs for savings of financial institutions will
increase. Following this, the liquidity state of financial instituations
will decrease and this would reduce the ability of banks or other
financial intermediary to prove loans to the public.This has the
effect of decreasing the money supply in the economy.

2. Raising minimum requirement of liquidated assets

During inflation ,the central bank will increase the rate of minimum
liquidity assets reserves requirement.Besides cash reserves

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 commercial banks also have to keep liquidated assets issued by
Bank Negara Malaysia such as treasury bills and government
securities.The more the required liquidared assets that are held,the
lesser the credit that can be created.The requirement minimum
liquidated assets are fixed by Bank Negara Malaysia and are used as
monetary policy tool to control the Malaysian economic stability.

3. Sell government securities in the open market operations

In times of inflation, the money supply has to be reduced.As such,
the central bank will sell government securities such as short-term
bonds treasury bills to commercial banks or to the public through
the banks.This results in the transfer of a part of bank deposits to
the central bank account and reduces the cash reserves and the
credit creation capacity of commercial banks.Cheques are also
made payable to the central bank.The result is a decrease in
consumer expenditure.

4. Increase bank rate or discount rate

During inflation , a high bank rate will be imposed by the central
bank to reduce the loans to the banking sector.This will lead to an
increase in the cost of borrowing which reduces the money owned
by financial institutions thus reducing loans to the
public.Consequently,the flow of money from the commercial banks
to the public gets reduced.Therefore increase in the bank rate
discourage borrowing.Following this, the liquidity state of financial
institutions will decrease and this will cause the financial
institutions to reduce loans to the public.

5. Raise interest rate

During inflation , the central bank may persuade commercial banks
to increase their rate of interest on deposits from the public.This
actions from commercial banks will increase the level of savings
and decrease the purchase of goods and services from the
public.Consumers look at the interest rate as costs of loans.The
higher the interest rate the lower the wish of consumers to
borrow.The same applies to loan repayment periods.Interest rate
can also be used to influence the cost of borrowing for
consumption.When money supply decrease the interest rate will
increase .This will cause the savings to increases,but discourage
investment and consumption.The central bank will raises interest
rates when it is trying to slow down the economy because of a fear
of accelerating inflation.

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 6. Funding (funding buying long-term bonds)
Funding is a process by which the government sells long-dated debt
rather than short-dated debt.Succesful funding of the national debt
means that the general public buy liquid securities,which causes a
fall in the general public’s deposit and affects the money supply.

II) Fiscal Policy to Combat Inflation

 Contractionary Fiscal Policy or Surplus Budget Policy

1. Decrease government expenditure

The reduction in government expenditure will directly affect the aggregate
demand. The government will cut the salary of all the civil servants and
postpone its development its projects to reduce the purchasing power of the
public. A decrease in government spending and an increase the government’s
total tax revenue will produce the surplus budget.

2. Lower transfer payment

Decreasing transfer payment, e.g. decreasing payment to the tose affected by
recession, is another strategy as they will now have less money in heir pockets
thus reducing their spending which will eventually decrease aggregate demand
in the economy.

3. Increase tax
By increasing direct (not indirect) taxes, aggregate demand will drop and thus,
prevent the increase in the price of the goods and services. This means that
there will be a fall in demand, and with falling demand, price will fall, ceteris
paribus. Consequently, the people’s disposable income and their consumption
of goods and services will fall. A highly regressive tax structure can
successfully can reduce the impact of inflation on the economy.

III) Direct Control Policy to Combat Inflation

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  Direct control measures is government intervention on economic activities to
ensure fiscal policies and monetary reconsideration will be effective in
controlling inflation. Direct control exercised by the government include the
following.

 Measures to Overcome Demand-Pull Inflation

1. Price control
The prices of certain goods can be controlled whereby the
government can implement a ceiling price policy, which sets
the maximum price for certain goods. This will prevent sellers
from selling the goods at a higher price than stipulated. As
such, procedures will not be able to increase prices according
to their wishes. The government will control the prices of
goods by fixing a floor and a ceiling price.

2. Rationing
At the time of inflation, government can control purchasing of
essential goods by implementing policies that involve
rationing. Rationing can be done by issuing coupons to the
public whereby consumers can purchase limited goods and
services using coupons. Total goods that can be purchased is
limited to the amount stated on the coupon. The policy
guarantees that the goods are also obtained by the needy and
poor groups.

3. Anti-hoarding campaign
This arises when reports are made against procedures and
consumers who store goods unnecessarily because such storing
can cause an artificial shortage and push prices up.

4. Compulsory savings
To control inflation, it is essential to introduce a compulsory
savings plan. This could be by way of a deducation from the
salary of workers that is credited to workers’ accounts. In
Malaysia, this body is know as the Employees Provident Fund
(EPF) where 11% of the workers’ wages and deducted every
month. The amount credited into the workers’ savings account
can only be withdrawn upon retirement.

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 5. Increase the production of necessity goods
At the time of inflation, governments can provide the
economic resources and undertake the manufacturing of
essential items so that people can enjoy the output. So, the
output level of the essential items can be increased and the
prices will be controlled.

 Measures to Overcome Cost-Push Inflation

1. Control the increase of salary and wages

Controlling the increase of salary and wages in the market too
can assist in the efforts to control inflation. If wages and
salaries are not raised, the cost of production and household
income will not increase. Thus, producers are not inclined to
increase prices. Government can implement maximum wage
policies to control the continuous increment. Wage controls
are intended to curb manufacturers from increasing the
production costs. The government could also negotiate with
trade unions to control wage increases.

2. Control prices of raw material

Increase in the price of crude or fuel will increase production
costs for firms. The prices of final products will go up as input
prices keep on rising. To control the prices of raw materials,
the government may declare the raw materials as a controlled
item. The government could also subsidize the production of
raw materials so that the raw materials are now available at a
price lower than the equilibrium price.

3. Reduce import tax on intermediate goods

The imports of intermediate goods are Malaysia’s most
important and the percentage of the total imports has increased
as a result of the rapid development of the manufacturing
industry. Reduction or exemption of import tax on raw
materials, components, machinery and equipment will reduce
production costs and reduce cost-push inflationary pressures.

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 4. Encourage the development of technology and labor productivity
Tax incentives are given to creative and innovative firms to
promote technological development and improve efficiency
and labor productivity. The will, in turn, reduce production
costs. When production costs fall, the aggregate supply curve
will shift from left to right.

 Measures to Overcome Import-Push Inflation

1. Control prices of consumers goods

The government intervenes to control prices of imported
consumer goods especially prices of food such as sugar and
beef. The government will also set the policies on the
maximum price for consumer goods that are regarded as
controlled items. Producers must obtain prior permission from
the government to raise the prices of these items.

2. Promote import substitution industries

To reduce dependence on imported goods, the government can
take steps to diversify the economy and encourage the
development of import substitution industries. Development of
import substitution industries allows the country to be more
self-reliant and less dependent on foreign countries for
industrial materials.

3. Increase local products to reduce imports

Increasing agricultural production not only reduces the current
account deficit but also addresses the problem of inflation,
particularly rising prices of imported food. By increasing local
food production, the dependence on imported food, which is
vulnerable to the risk of fluctuating international prices, will be
reduce.

4. Diversify sources of imports

The government and manufacturers may seek to find sources
of imports which are relatively cheaper in order to overcome
the problem of imported inflation. For imported foods and
agricultural inputs that cannot be produced locally, there must

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 be an effort to diversify sources of imports, particularly in
terms of finding the cheapest one.

5. Strengthen currency value to reduce the cost of imports

The appreciation of currency could affect the competitiveness
of exports, but the value of a strong national currency can also
reduce the cost of imported goods, especially raw materials
and fuel.

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