Economics theme 2

  • Created by: lou123
  • Created on: 17-05-18 15:59

2.1.1 Econ Growth

Economic growth is the rate of change of output over a period of time. Measured by GDP. Negative economic growth for two quaters is a recession.

GNI = gross national income = GDP + income from abroad - income earned by foregniers on domestic investments.

GDP and GDP/capita can compare living standards btwn countries, however doesnt account for the extent of the hidden economy, how much different countries public spend, the extent of inequality.

Internationally compared figures therefore may use PPP - GDP is adjusted to take into account the purchasing power of each currency to give a more acurate comparison. 

There is supposedly a positive relationship between real incomes and happiness. however the Easterlin paradox suggests over a certain threshold of income an increase in real income doesnt make people happer. Relative income is more important that absolute income.

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2.1.2 Inflation

Inflation - increase in cost of living/price level Deflation - a fall in Disinflation - increase at a slower rate.

Inflation is measured using CPI - consumer price index (survey is done to find 750 most commonly bought goods each given a weighting and the average price change of the goods. Basket is updated annually) Limitations: -it is an average will not apply to all -different demographics have different spending patterns -slow to respond to new goods and services and it is hard to make historical comparisons

RPI is an alternate measure of inflation that includes housing prices/costs. It is therefore generally higher than CPI

The causes of inflation

  • demand pull - when AD increases unsustainabiliy putting pressure on resources and producers increase prices
  • causes: fall in exhange rate, increased govt spending and low tax, low interest rate, high growth in export market
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2.1.2 B

  • cost push - where businesses repond to higher costs by increasing prices to protect profit margins
  • causes: increasing costs of components e.g. oil, rising labour costs causes by an increase in wages, expectsations in inflation - people see prices rising so demand higher wages; higher indirect taxes, fall in exchange rate
  • growth in the money supply

Consquences of inflation:

  • Income redistribution - regressive effect on lower income people
  • falling real incomes if pay doesnt keep up with inflation
  • negative real interest rates
  • wage inflation - people aask for higher wages - this leads to lower porfits for businessess
  • competition - if one country has higher inflation its exports will be less competitive
  • business uncertainty - high and volatile inflation is not good for business confidence and may lead to lower investment
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2.1.3 Employment

Measures:

  • the claimant count - number of people claiming JSA benefits (UK only)
  • LFS - labour force survey is compiled by the ILO (international labour organisation) who survey 60,000 people of working age quaterly (international)
  • the LFS is higher than the CC because: LFS includes more people in terms of who is classed as unemployed - broader age range (16-67 vs 18-60); CC doesnt include people who voluntarily left work; CC has savings limits; CC requires proof

Unemployment is people who are willing and able to work but dont have a job. Underemployed are those who have a job but would work more hours or are employed under their skill level

unemployment represents and economic cost so reducing it is seen as desirable. some govt also want to reduce rates of inactivity (not working and not unemployed) as more people who enter the work force, the more GDP, fewer benefits payments.

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2.1.3 B

Causes and types of unemployment

  • structural - patterns of demand and production change leaving unemployed workers where demand has shrunk
  • frcitional - unemployed for a short time between jobs
  • seasonal - only employed at some points during the year
  • cyclical - insufficent demand - during a recession people lose jobs due to lack of demand
  • real wage - wages are too high to reduce unemployment further

migration can be arugued that migration decreases wage rates bc increasing the supply of labour reduces price of labour. UK workers with fewer skills have to compete more with migrants who are motivatve and will work for low wages. Many migrants will work for a lower wage rate and take jobs below their skill level. their consumption the economy may increase AD and GDP.

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2.1.3 C

Costs of unemployment:

  • Unemployed: lower income, stigma, social problems e.g. metal health issues, short term has relatively few costs, longer out of work the harder it takes to get a jon (reduction in human capital)
  • Communities - increase in crime
  • Governments - higher JSA payemnts, loss of tax revenue, have to provide help for them to get jobs
  • Economy - ris of deflation as lowever levels of demand, negative multiplier effects, loss of output, social costs
  • Firms: less demand, reduces pool of workers that could employ long term
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2.1.4 Balance of payments

BOP consists of current and capital accounts. The current is payments for purchases and sale of goods

4 sections of the current account:

  • trade in goods
  • services 
  • primary income (flow of money from employment)
  • transfers - movement of money thats not goods services or income e.g. aid, payments to family members
  • Current accunt balance = diffeerence between value of total exports and imports

a deficit = imports>exports; surplus is imports<exports

a long term deficit may leasd to a build up of debt 

causes of a feicit = poor competiveness, stong ex. rate, recession in major trade partner, volative global trade prices

policies to reduce: tight fiscal/monetary, supply side, protectionism

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2.1.4 Balance of payments

BOP consists of current and capital accounts. The current is payments for purchases and sale of goods

4 sections of the current account:

  • trade in goods
  • services 
  • primary income (flow of money from employment)
  • transfers - movement of money thats not goods services or income e.g. aid, payments to family members
  • Current accunt balance = diffeerence between value of total exports and imports

a deficit = imports>exports; surplus is imports<exports

a long term deficit may leasd to a build up of debt 

causes of a deicit = poor competiveness, stong ex. rate, recession in major trade partner, volative global trade prices

policies to reduce: tight fiscal/monetary, supply side, protectionism

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2.2 AD

AD = C + I + G + (X-M)

  • AD curve will shift showing changes in confidence, monteray/fiscal, external shocks, household wealth and supply of credit
  • a movement along the curve is due to a change in general price level

COMSUMPTION

  • largest component of AD
  • an increase in disposablie income = increased consumpution
  • the more saving the less consumption
  • higher interest rates decreaase consumption because the benefit of saving is higher
  • when consumers have more/less confidence they comsume more/less
  • wealth effects - a rise in household wealth due to increased house prices or share prices leads to a rise in consumer spending and less savings because consumers feel more wealthy so are more confident
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2.2 B

INVESTMENT

  • gross investment = all investment spending on new capital inputs
  • net investment = gross investment adjusted for capital consumption (replacing old worn out capital)
  • influences on investmet:
    • rate of growth (more growth more confidence and demand)
    • business expectations and confidence (if good = more investment)
    • keynes and 'animal spirits' (instinct, confidents, turst and emtions - decisions of managers and directors are not wholly logical)
    • demand for exports - increases investment
    • interest rates (if high and a business needs a loan they are less likely to borrow)
    • access to credit (how able they are to borrow money, if hard less investment)
    • govt and regulations (government incentives such as low corp tax and subsidies might increase; high levels of regulation will increase costs so discourage investment)
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2.2 C

GOVERNMENT EXPENDITURE

  • the main inflenuces on govt spending is the trade cycle and fiscal policy
  • the trade cycle: booms and busts
    • in a boom there is high growth and employment, less benefit spending, high confidence so fewer governent incentives like subsidies --> govt spend less
    • busts there is low growth and unemployment --> govt has to spend more on benefts and increase spending to improve AD
  • tight/loose fiscal policy will affect how much the govt spends so how it affects AD

NET TRADE (X-M)

  • Main influences:
    • real income - higher income if has MPI = more M
    • exchanfe rate - as currency app/depreciates the value of X and M change
    • state of world economy - if bad fewer X and M
    • degree of protectionism
    • non price factors such as trade embargos or quality of goods from abroad
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2.3 AS

Characteristics of AS

  • AS is the volume of goods and services produced
  • a movement along the AS curve is a change in general price level

short run

  • shifts caused by changes in the costs of production
    • costs of raw materials and energy 
    • exchange rates -> fluctations in price of imported goods and components
    • changes in tax rates 

two types of LRAS:

  • classical straight
  • keynesian bent 
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2.3 B

Factors influencing LRAS

  • quality/quantity of production
    • tech advances 
    • changes in relative productivity
    • changes in education and skills
    • changes in govt regulations
    • migration 
    • more people
  • at low levels of curvy there is completely elastic AS, spare capacity so output can be increased without affecting price level. at high levels it is at ful capacity, equivalent of PPF
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2.4 National Income

National income is the monetary value of the flow of output of goods and sercives produced in an economy over time

Measuring the rate and growth of income in an economy is important to observe the rate of gorwht, changes to living standards, and changes to the distribution of income.

Wealth is a total value of all a persons' assets, income is wages, interest, rent, profits earnt (monetary income).

Circular flow

  • injections: investment; govt spending; exports
  • withddrawals: svaing; tax; imports
  • when injections>withdrawals incomes rise
  • when with>inject incomes fall 
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2.4 B

Shifts in AD/AS curves show how changes in demand and supply affect the national output.

The Multiplier:

  • where an initial in/decrease in an injection will lead to a greater in/decrase of GDP than the initial amount
  • Marginal propensities:
    • MPC - consume
    • MPS - save
    • MPT - tax
    • MPM - import
    • 1/(1-mpc)
    • or 1/MPW.   (MPW = MPS+MPT+MPM)
  • an increase in ultiplier will increase AD
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2.5 Economic Growth

Causes of Economic Growth

  • Increases in AD - so consumption, investment, spending, and high x few imports
  • long tem econ growth also requires an increase in productive capactiry (AS ) as well as AD

Actual growth is an actual increase in the output of the economy. Potential growth represents an increase in the productive capactiy of an economy.

An increase in international trade, more exports, will cause an increase in AD so export-led growth.

Output gaps: 

  • An output gap is an indicator of the difference between actual output of an economy and potential out put
  • Shown using AD/AS diagram and a classical LRAS 
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2.5 B

  • A negative output gap is where actual GDP<potential GDP
    • resources are under utilised 
    • main problems likely to be higher unemployment and deflaitionary pressures
    • in a bust/recession
  • A positive output gap is where actual GDP>potential GDP
    • resources working beyond usual capacity
    • main problem is inflationary pressures
    • in a boom

difficult to measure output gaps because cannot observe directly the supply potential of an economy; inaccurate labour force info; difficult to accurately measure productivity and spare capacity; hidden economy

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2.5 C

The Trade Cycle:

  • shows booms and busts
  • busts of two quaters = recession
  • Peaks/Booms
    • national income is high
    • full employment
    • C+I and tax rev will be high as high AD
    • high GDP growth
    • wages rising and profits increasing 
    • high imports
    • inflation
  • Recession
    • econ activity is low
    • high unemployment
    • C+I and tax rev is low
    • prrices may fall
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2.5 D

Impact of Econ Growth on different groups

  • Consumers: raises incomes; better standard of living; if the benefits of high growth are only gained by richest average households will see no gain; easterlin paradox (happiness)
  • Firms; increase sales as increased demand; changing tech means some firms may see markets dissapearing; oppoutunity for new firms to estabish themselves
  • govt; tax rev should rise and lower spending on consumer goods
  • current and future living standards should improve but depends who gets the benefits of growth and the strength of link btwn gdp growth and living standards
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2.6 Objectives and Policies

Possible macro economic objectives:

  • Growth
  • Low unemployment
  • Low and stable inflation (2%)
  • balance of payments equilibrium on current account
  • balanced budget
  • protection of environment
  • greater income equality

Demand Side Policies:

  • monetary/fical
  • In 2008 they lowered intest rates to a minimum, and when that didnt work, used Quan. easing
  • Bank of england MPC targets the inflation rate, decides how quan easing will be managed, sets base rate on interest
  • indirect tax is on a good or sevice, direct is on the company
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2.6 B

Supply Side Policies

  • market based = removes barries to the free market, interventionist = correct market failiure
  • increase incentives - lower corp tax, tax on income, welfare benefits, sibsidising workers
  • promote comp - R&D and E&T, privatisation, deregulation
  • reform the labour market - improve flaxibility, trade unions, migration, minimum wages
  • skills of the labour force
  • inprove infrastructure

may not work, time lag, may cause inflation, may not work on own

Conflicts and tradeoffs between policies:

  • Inflation is high, reduce AD by cutting C/G, recession and unemployment, growth decreases
  • Growth is low, raise AD, unemployment witll be lowered, inflation will increase,
  • Unemployment too high, raise AD, conflict with inflation (philips curve)
  • CA deficiit, reduce consumption, unemployment, lower ad
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