The meaning of macroeconomic performance
- Macroeconomics considers the economy as a whole, looking at TOTAL demand and supply in the economy, aggregate demand and supply.
- The 4 macroeconomic objectives are:
1. Economic growth - rate of growth of capacity to produce g/s
2. Full employment - do we have wasted resources/ spare capacity?
3. Stable prices - to be competitive with other economies
4. Equilibrium in balance of payments
- Countries also compare their macroeconomic performance with other countries e.g. is our economy growing at a faster rate than that of France and are we or they the fifth richest country in the world?
- measured by change in the level of output/ real GDP. This can be shown on a diagram. The actual growth rate shows the performance of an economy at a particular point in time while the trend growth is the average performance over time, which for the UK, is thought to be around 2.5-2.75% per annum.
- In a negative output gap, the economy is said to be in a recession or when extremely bad, a slump. Here, the economy is underperforming and the govt. may take action to INCREASE AD to try and increase economic activity.
- In a positive output gap, the economy is growing more rapidly than usual and incomes are increasing. This suggests that most unemployed factors have been used up and if AD exceeds AS, prices will rise and the economy will experience inflationary pressures. Here, the economy is referred to as being in a recovery or if actual growth is largely in excess then a boom. Here, the economy is overperforming, leading to inflation so the govt. is likely to try and REDUCE AD. unemployment will be low and wage levels will be rising, leading to cost increases, inflationary pressures and less international competitiveness.
Employment/ unemployment -
Unemployment occurs in a negative output gap. As actual output is below trend output some workers will be unable to find jobs or will be laid off. Unemployment has a HUGE OPPORTUNITY COST as it represents a waste of scarce resources as output lost can never be recovered. [labour is derived demand for output]. Unemployment can have these effects:
- individuals can suffer a fall in confidence levels as well as their income, increasing with time. There is an increase in depression, alcoholism, domestic violence and family breakdown. The economic consequences: increased govt. expenditure on social services e.g. benefits
- the standard of living for families of those unemployed will fall and purchases that were taken for granted are now unafforable - less disposable income - less AD
- areas with high unemployment levels are likely to see shops shut down and crime increase. These cause negative externalities that impose a burden on society.
- govt. income from tax will fall while benefit expenditure will increase and tax may rise in order to decrease the budget deficit.
- occurs over time
- current rate of inflation recorded in Feb 14 is 1.7 (CPI) and 2.7% (RPI). The govt. set a target of 2% and the Bank of England need to ensure that this target is met. If ifnlation is too high, they will try and reduce AD to lower the rate.
- In a positive output gap, labour will be scarce and in a position to push for wages. Increasing AD means that firm will pass on their higher labour costs to consumers as higher prices.
- Economic cycle: eventually actual growth will slow as demand decreases due to high prices. Thus unemployment will rise, AD and growth will fall closing the output gap, maybe -ve.
- Inflation is an important measure of performance as it indicates whether the UK is price competitive internationally and whether govt. policies to control price rises are successful.
- Being competitive is important in order that overseas customers will pruchase goods from US rather than other OTHER ECONOMIES.
- UK is well placed to sell sophisticated financial services and higher valued manufactured goods due to its relatively well-educated population.
Problems faced by the governments:
x when income grows or prices of domestic goods increase, there is a surge in the no. of g/s imported. Reducing imports usually requires reducing spending in the economy. This will lead to rising unemployment and reduced rates of economic growth.
the economic cycle: gaps and trade offs
- In a negative output gap, there is an increase in the ecoomy's welfare and a decrease in the standards of living.
- exports are high butunemployment will be high too.
- Imports will be low as consumer's pourchasing power will decrease.
- Govts. will choose the appropriate solution to achieve economic welfare WHILST trying to get re-elected i.e. will pick demand-side policies rather than supply side.
- In a positive output gap, unemployment will be low
- however, the labour market may become tight and firms may not employ the right labour.
- workers may push for wage increases and firms will have to agree in order to prevent them going somewhere else.
- These increased labour costs for firms will cause inflationary pressures (higher prices).
- Both this and increased wages may lead to increased imports as they will appear relatively cheaper AND increased incomes leads to expenditure on imports.
- exports may be reduced due to inflation and domestic firms targeting the expanding home market.
- govts. have decided that controlling inflation is vital to increase econ. welfare and achieve the other macroeconomic objectives
Gross Domestic Product
- economic indicators provide info about the current state of the economy and its likely future direction.
- GDP used to measure the value of all g/s produced by the 3 main wealth creating sectors: manufacturing, agricultural and service industries.
- the value of GDP is usually stated in monetary terms e.g. current UK GDP is 0.7%
- Nominal figures e.g. 1bn , does not give a true measure of the actual increased output of the economy as some could be made up of price increases.
- Real GDP: if inflation was 3%, you minus 0.3% from the nominal GDP.
- a change in Real GDP is used to measure the change in econ. growth in a particular time period. Real GDP is known as a constant price measure.
- GNP - Gross national product: includes income that UK residents may achieve from abroad minus the amount the amount paid out of our economy to overseas. Overseas income comes from working abroad or owning shares in foreign firms
- GDP and GNP show the size of the economy compared with others BUT NOT the average spending power of the individual i.e. the amount that each person has to spend .
- to calculate spending power: divide GDP by population to get GDP/head (GDP per capita).
- GDP per capita is better at showing the pops. standard of living than total GDP as increases here may not be distributed among the population.
the Retail Prices Index
- the main domestic measure of inflation in the UK: measures the average monthly change in the prices of g/s comsumed by most households.
- it is a weighted price index, calculated by the Office of National Statistics (ONS) and used to measure the rate of inflation, usually over a year.
- it also gives detailed breakdowns for particular g/s incl. food, catering, alcoholic drinks, leisure services and holidays
- the ONS carries out about 120,000 price measurements monthly of around 600 g/s in 146 areas in the country. the final basket of goods contains around 650 items that are purchased in an average UK household.
- It is vital that the index is up-to-date as the entry of new g/s replaces older products and reflects changes in UK consumption patterns.
- The RPI was used to measure price changes, the govts inflation target until 2003. The chancellor then changed to CPI, like in the euro area so that we can directly compare our inflation with that of EU countries.
- HOWEVER, CPI does not include changes in house prices etc which are important to a large part of the UK population. Thus, some feel that inflationary increases have affected them more than CPI shows.
- The ONS published both RPI and CPI