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5 Main Objectives

  • Employment: create & maintain full or low unemployment (3%)
  • Economic Growth: improved living standards & levels of economic welfare
  • Fair Distribution of Income & Wealth: between regions & different income groups
  • Inflation: limited & controlled (CPI target 2%), to achieve measure of price stability
  • Balance of Payments: avoidance of external deficit stabalising exchange rate (imports=exports) Uk deficit
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Policy Instruments

Monetary (bank): interest rates, exchange rates & money suppy

Fiscal (government): taxation levels, government spending & budgetary position

Suppy-Side: gov making industries/markets more efficient & competitive

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Policy Conflict & Trade Off

  • Policy Conflict: 2 objectives cannot be achieved at the same time
  • Trade Offs: worsening one objective to better another

 employment/economic growth <-------> balance of payments/exchange rate

                 employment/economic growth <-------> inflation

                                       economic growth <-------> income equality 

  • National Income Equilibrium: planned saving (leakage) is equal to planned investment (injection)
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Economic Growth

  • Economic Growth: increase in potential level of real output the economy can produce over a period of time (long-run growth)
  • Measured by: 
    • PPF: shifting outwards PPF1    > PPF2
    • % Annual Increase in RNO: total of all goods & services produced over time period with inflation subtracted
    • National Income/Output: flow of new output produced by the economy in a particular period with INFLATION
    • GDP: value of all goods & services produced within country within specific time period
    • GNP: GDP with goods & services value from other countries added
  • Causes of Economic Growth: Investment & Technological progress
  • Economic Development: living standards, access to resources, access to opportunities, environmental sustainability
  • Seasonal Fluctuations: caused by changes in weather & climate e.g building & tourism
  • Cyclical Fluctuations: caused by fluctuations in AD or supply-shocks e.g technological progress
  • UK's trend rate of growth: 2.25%
  • Recession: falling GDP (negative economic growth) for 6 months or more
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Economic Cycle

Reasons for this cycle:(

  • Role of Speculative Bubbles: rapid economic growth    > speculative bubble (spike in asset value)    > people sell assets    > speculative bubble bursts    > destroys consumer confidence    > spending stops    > recession occurs
  • Political Business: election approaches    > political party  'buys votes' engineering pre-election boom    > after election party deflates AD to prevent overheating    > next election           > AD expanded
  • Outside Shocks: e.g war effecting demand    > collapse in consumer/business confidence and effecting supply    > increased oil price
  • Stabilising: fiscal: tax/spending (automatic stabiliser) or monetary: interest rates
  • Output gap: difference between actual output & trend
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Aggregate Demand

AD= C+ I + G + (X-M): total planned spending on goods & services produced by economy

  • Determinants of Consumption & Saving: Interest rates, Disposable income level, Expectations of wealth, Wealth, Consumer Confidence, Avaliablity of Credit
  • Determinants of Investment: Entrepreneurs & Investors expectations, Interest rates, Savings, Techonoligcal progress, Prcie of capital & labour
  • Leakages: unspent income/withdrawal from circular flow (savings, tax, imports)
  • Injections: investment into capital goods (investment, gov spending, exports)(
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Aggregate Supply

  • Aggregate Supply: level of Real National Output that producers are prepared to supply at different average price levels
  • Factors Affecting SRAS: (depends on average price level in economy)
    • Wage Rates
    • Interest Rates
    • Import Prices (raw materials)
    • Corporation Tax
  • Reason SRAS slopes upward: maximise profits & cost of producing extra output increases as more output produced
  • Factors Affecting LRAS: (reflects economy's production potential) (equilibrium on LRAS= full employment) (PPF=LRAS)
    • Techonological Progress
    • Attitudes & Enterprise
    • Macroeconomic Policies
    • Productivity (Labour)
    • Capital Investment
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  • Full Employment: 3%> unemployed, people wishing to work = number of jobs
  • Measuring Unemployment:
    • Claimant Count: counts unemployment benefit seekers, overstates unemployed due to people not looking for work & not actually unemployed ---> LOWER
    • Labour Force Survey: quarterly sample of 60k households in UK, unemployed= actively seeking work in last 4 weeks ---> HIGHER
  • Types of Unemployment
    • Frictional/transitional: 'between jobs' caused by frictions in labour market, georgraphical/occupational immobility of labour, search theory of unemployment ---> improve georgraphical/occupational IOL & reduce worker's search period between jobs
    • Structural: decline of industries, unable to compete with demand or new products, more competition abroad ---> increase AD
    • Seasonal/Casual: laid-off on short term basis due to season/weather e.g tourism
    • Cyclical: demand-deficient Keynesian (when point is inside PPF)
  • Consequences of Unemployment: economy's productive resources aren't being fully utitlised (fails to operate to full potential), reduce economy's international competitiveness, 
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  • Inflation/Deflation: persistent or continuing rise/fall in the average price level
  • Reflation: increase in level of real output following an increase in AD
  • Consumer Price Index (exludes housing): Collects price of 650 goods and services ---> next month collects same 650 items & new price ---> measures difference
  • Retail Price Index: the same, including housing
    • Not always correct: different income groups buy different items, can't show improvements in items = inflation overstated
  • Prices of services rise faster than goods due to more cheaply imported goods than services
  • Causes of Inflation:
    • Excess AD: demand-pull inflation to convince firms to keep up with extra demand
    • Increased Costs of Production: cost-push inflation by growth of monopoly power
  • Stagflation: rising prices & falling output (supply)
  • Inflation Disadvantages
    • Distibutional effects: fixed income lose, barganing positions gain
    • Distortion of Normal Economic Behaviour: hoarding of goods
    • Breakdown in Fuctioning of Money: goods worth more, hyperinflation
  • Inflation Advantages: growing markets, healthy profits, business optimism
  • Whether benefits exceed costs depends on: rate of inflation, stability & anticipation of rate
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Balance of Payments

  • All currency flowing into and out of a country made of 2 components: 
  • Capital Flows: capital assets/investment in other countries e.g factories, office blocks 
  • Current Account: measuring income currency flows, made up of:
    • Exports - Imports
    • Investment Income from abroad (factories, interest payments)
    • Transfers between countries (aid payments)
  • UK Current Account: deficit
    • Goods (visible): deficit (manufactured)
    • Services (invisible): surplus (financial)
    • Investment Income: surplus
    • Transfer Payments: deficit 
  • Deficit = Decrease AD
  • Surplus = Increase AD
  • Problems of Deficit: problem if long run, uncompetitiveness of industries, lowers living standards, may become means for 'champagne lifestyle' of elite in poor countries
  • Problems of Surplus: one countries surplus is another's deficit, can be inflationary
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