Managing the national economy

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Explain the moneytary policy
It is controlled by the bank of England, they set interest rates with the aim of keeping inflation under control as well as controlling real money supply
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What are the consequences of high interest rates?
Reduce aggregate demand, discourages borrowing, increases the value of the exchange rate, decreases spending, high mortgage payments so less disposable income, decreased business investment, reduced growth of broad money, limit inflation
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What are the consequences of low interest rates?
Increased borrowing power for the consumers, natural growth in inflation as the economy grows
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Define the money supply
It is the total amount of moneytary assets available in an economy
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Explain quantitate easing
Is done by buying government bonds or assets as money supply increases the interest will decrease therefore increasing inflation
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Explain fiscal policy
This involves the government changing tax and spending levels to influence aggregate demand, To reduce inflationary pressures the government can increase tax and reduce spending
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Explain expansionary fiscal policy
Causes a rightward shift in aggregate demand which closes the recession gap allowing an economy to grow caused by decreasing taxes and increasing spending
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Explain contractionary fiscal policy
Caused by an increase in tax and a decrease in spending it involves a reduction in the amount the government borrrow
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Explain supply side policies
This is the bit of economics that considers how to improve the productive capacity and competitiveness of the economy, they can reduce inflationary pressures in the long run not short run. They shift aggregate supply rightward
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How can the government improve the productiveness and the competitiveness of an economy?
Use the tax system to incentivise workers, reducing axes , lower corporation tax incentivising entrepreneurs
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What are the effects of changing interest rates?
Expectations ( expectations of how the interest rate might change effects the inters rate), Asset prices ( A change in interest rate can change asset prices, effecting exchange rate and inflation) Saving and investment decisions, Supply of credit )
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What are the demand side policies used by the government to decrease unemployment?
Expansionary fiscal policy, Moneytary policy ( cutting interest rates)
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What does the effects of fiscal policy on unemployment depend on?
Other components of AD, Time lags, How close the economy is to full capacity, ability of the government to borrow, can cause crowding out
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What are the effects of using monetary policy to control unemployment and what do they depend on?
Decreases the cost of borrowing, encourages investment and spending, lower exchange rate making the economy more competitive. They depend on other components of AS and reluctancy of bankers to lend, if unemployment is for supply side reasons
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What are the supply side policies to reduce unemployment?
Education and training (more employable increases MRP, doesn't work if unemployed font want to learn), Employment subsidies ( Tax breaks for firms taking on long term unemployed, expensive and can encourage firms to replace workers), Reduce the power
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What are the supply side policies to reduce unemployment?
of trade unions ( unions bargain for higher wages meaning less are employed), Improve labour market flexibility ( make it easier to hire and fire workers, this can lead to job insecurity), Stricter benefit requirements, Improved geographical mobility
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Explain how monetary policy can be used to decrease deflation
Deep cuts in interest rates will stimulate demand and increase consumption, increasing quantitive easing will increase output and employment
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When are monetary policies used to decrease deflation ineffective?
If consumer confidence is low, if asset prices are falling, there are limits to how far the monetary policy can go as interest rates can't go too low
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Explain how fiscal policy can be used to decrease deflation
This is more effective when there is a deflationary recession and involves higher government spending and a decrease in taxes. It boosts spending but can increase national debt and decrease consumer and business confidence
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What are the 3 policies that can be used to fix a persistent balance of payments deficit?
Deflation, Direct control and devaluation
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Explain the deflationary policies used to fix a persistent balance of payments deficit
These are contractionary monetary or fiscal policies, they reduce demand for imports, the government might have to sacrifice full employment and economic growth objectives
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Explain the direct controls used to reduce a balance of payments deficit
These are import controls like embargoes and quotas , they don't fix the underlying cause of disequilibrium
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Explain the devaluation controls used to reduce a balance of payments deficit
This is a fall in the currencies exchange rate brought about either by the government or through depreciation of the exchange rate. It increases the price of imports relative to the price of exports
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What does the effectiveness of devaluation controls depend on?
When PED of exports and imports are high a devaluation can reduce a current account deficit.
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What are the policies to reduce a short term balance of payment deficit?
Cyclical factors ( when the economy entered a slow down), Higher interest rates ( less consumption decreases demand for imports), Fiscal policy ( increasing tax less disposable income), Lower exchange rates ( boosts overseas demand for exports)
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What are the policies to reduce the long run balance of payments deficit?
The economy would require a period of low inflation, low interest rates and a competitive exchange rate
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What is expenditure switching?
This occurs if the relative price of imports can be raised or if the relative price of exports can be reduce. This can happen through depreciating the exchange rate
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What are the there policies to reduce a balance of payments surplus?
Reflation, removal of imports controls and Revaluation
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Explain reflationary monetary policy
Lower interest rates encourage consumption and investment, the exchange rate falls. Increasing money supply so the exchange rate falls
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Explain reflationary fiscal policy
Lowering taxes so there is more disposable income increasing consumption leading to a decrease in the exchange rate. Increased governments spending leads to exports being more expensive leading to higher import demand.
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Explain the removal of import controls
Trade can also be liberalised by the removal of import controls like tariffs or quotas increasing the amount of imports there are
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Explain revaluation
Countries with large payment surpluses are called to revalue, the marshall lerner conditions must be met and it is usually unsuccessful
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What are the consequences of higher productivity?
Lower unit costs, improved competitiveness and trade performance, higher profits, higher wages, economic growth
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What is the exchange rate?
The price of that currency expressed in terms of another on the international exchange
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Explain a balance of payments deficit
This is when the value of imports is greater than the value of exports causing an increase int eh supply of points and the exchange rate to fall
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Define a fixed exchange rate system
This is when the government or central bank intervenes in the urgency market so that the exchange rate stays close to its target
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Define the freely floating exchange rate
It is left to the market and therefore is determined by demand and supply for that currency. Pure floating exchange rates are rare as most governments intervene through interest rates
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What are the advantages of a fixed exchange rate?
Avoids currency fluctuations, Stability encourages investment, keeps inflation low, effects on manufacturing ( if the exchange rate fluctuates it effects manufacturing firms), inflationary expectations (lowers inflationary expectations)
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What are the advantages of a floating exchange rate?
Automatic balance of payments adjustment, Absence of crisis, flexibility, lower exchange reserves
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What are the disadvantages of a fixed exchange rate?
Conflict with other objectives, Less flexibility, Join at the wrong rate, Current account imbalances
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What are the disadvantages of a floating exchange rate?
Uncertainty, lack of investment, speculation, lack of discipline in economic management
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Define supply side fiscal policy
This is fiscal policy used to increase personal incentives and is used along side privatisation and deregulation
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Define a budget deficit
When total government spending exceeds total government revenue at a particular point in time
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Define a budget surplus
When total government spending is less than total government revenue in a particular time period
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What is an automatic stabiliser?
A factor that changes in such a way as to stabilise aggregate demand and the economic cycle it dampens negative multiplier effects.
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Other cards in this set

Card 2

Front

What are the consequences of high interest rates?

Back

Reduce aggregate demand, discourages borrowing, increases the value of the exchange rate, decreases spending, high mortgage payments so less disposable income, decreased business investment, reduced growth of broad money, limit inflation

Card 3

Front

What are the consequences of low interest rates?

Back

Preview of the front of card 3

Card 4

Front

Define the money supply

Back

Preview of the front of card 4

Card 5

Front

Explain quantitate easing

Back

Preview of the front of card 5
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