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Economics- Theme 2 > 10- Economic Growth > Flashcards

10- Economic Growth Flashcards

1
Q

Economic growth definition

A

A long term expansion of the productive potential of an economy.
An increase in real gross domestic product (GDP).

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2
Q

Objective of economic growth?

A

Increased living standards

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3
Q

What is trend growth?

A
  • Trend growth refers to the smooth part of long run national output.
  • Measuring trend growth requires a long-run series of data perhaps 20-30 years or more in order to calculate average growth from peak to peak across different economic cycles.
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4
Q

What are economic growth drivers?

A
  • Growth in physical capital stock- leading to a rise in capital per employee (capital deepening)
  • Growth in the size of the active labour force available for production
  • Growth in quality of labour (human capital)
  • Technological progress and innovation during productivity improvements i.e. higher GDP per hour worked
  • Institutions- including maintaining the rule of law, stable democracy, macro-economic stability
  • Rising demand for goods and services- either lead by domestic demand from external trade
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5
Q

Threats/ challenges to economic growth?

A
  • Change in the real exchange rate affecting competitiveness
  • Cyclical fluctuations in national output and external trade
  • Financial instability e.g. unsustainable credit boom and fall in savings
  • Volatility in world prices for essential imports and key exports
  • Political instability/ military conflicts
  • Natural disasters and other external supply shocks
  • Unexpected breakthrough in the state of technology
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6
Q

Features of short run/ actual growth

A
  • Cyclical changes in real GDP
  • Changes in AD (C + I + G + X - M)
  • Changes in short run AS
  • Short term external shocks to both supply and demand
  • Short term policy changes e.g. changes in interest rates
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7
Q

Features of long run/ potential growth

A
  • Potential output/ trend growth
  • Productivity of labour and capital
  • Technological progress and strength of enterprise
  • Changes in the labour force
  • Investment rates
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8
Q

Short run growth definition

A

Is the annual % change in real GDP. It results in aggregate demand without a corresponding increase in aggregate supply.

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9
Q

Long run/ potential growth definition

A

Shown in trend or potential GDP this is illustrated by an outward shift in a country’s long run aggregate supply curve (LRAS).

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10
Q

Key factors affecting long run economic growth

A

Q^2 CELL

  • Investment- CAPITAL
  • Productivity- LABOUR, CAPITAL
  • Labour supply- LABOUR
  • Research- CELL
  • Innovation- ENTERPRISE
  • Enterprise- ENTERPRISE
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11
Q

Key factors affect short run growth

A
  • Exchange rates
  • Interest rates set by central banks
  • Commodity prices such as oil
  • Fiscal policy- government spending and taxation
  • Trading conditions in other countries
  • Confidence of businesses and consumers
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12
Q

Showing short run growth on an AS/AD diagram

A

An increase in AD causes an expansion of AS and a higher equilibrium national output (i.e. higher real GDP)
(AD shifts right).

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13
Q

Showing long run growth on an AS/AD diagram

A

A rise in a country’s productive potential is shown by an outward shift of LRAS curve.
This means a higher level of AD can be met due to more spare capacity.
(LRAS and AD shifts right)

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14
Q

How capital investment leads to economic growth?

A
  • Injection of demand for capital good industries
  • Bigger capital stock can lift productivity/ incomes
  • Economies of scale and better competitiveness
  • Investment helps to sustain export led growth
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15
Q

Main benefits of economic growth?

A
  • Higher living standards: helps to lift people out of poverty and improve development outcomes
  • Employment effects: sustained growth stimulates jobs and contributes to lower unemployment rates which in turn helps reduce inequality.
  • Fiscal dividend: higher economic growth will raise tax revenues and reduce government spending on unemployment- related welfare benefits.
  • Accelerator effect: rising growth stimulates new investment e.g. in low carbon technologies. Better growth may attract FDI projects.
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16
Q

Definition of the Accelerator Effect

A

The accelerator effect states that investment levels are related the rate of change of GDP. Thus an increase in the rate of economic growth will cause a correspondingly larger increase in the level of investment. But, a fall in the rate of economic growth will cause a fall in investment levels.

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17
Q

Benefits from growth driven by technology

A

A rise in productivity:

  • Higher GDP per worker
  • Lower units costs
  • Higher wages and profits

New goods and services:

  • Lower real prices
  • Consumer welfare gains (lower prices)
  • Improved living standards

Improved health:

  • Healthy life expectancy
  • Labour force expands
  • Increased productivity
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18
Q

Factors contributing to rapid trade (in Africa)

A
  • Improvements in terms of trade- higher commodity prices have boosted export revenues
  • Improved governance
  • Increase in FDI
  • Increasing intra-regional trade including manufactured goods
  • Improved macroeconomic management- lower inflation, more credible banks, improved fiscal balances
  • Rising per capita incomes- growth of consumer markets- poverty rates continue to fall but social progress has been uneven
  • Less dependant on primary commodities
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19
Q

How best to sustain economic growth in the long run?

A
  • Building trust/ social capital
  • Growing intra-regional trade
  • Improving institutions
  • Growing a dynamic private sector
  • Sound macro policies in control of inflation
  • Focussing on addressing equity/ fairness
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20
Q

What policies to attract inward foreign investment?

A
  • Attractive rates of corporation taxes
  • Soft loans and tax reliefs/ other subsidies
  • Trade and investment agreements
  • Flexible labour markets
  • Special economic zones
  • High quality infrastructure
  • Open capital markets to allow remitted profits
  • Availability of low cost labour
21
Q

What are the economic and social costs of growth?

A

Risks of higher inflation and higher interest rates:
- Fast growing demand leading to demand and cost pull inflation

Environmental costs:

  • More negative externalities like pollution
  • Risk of unsustainable extraction of finite resources

Inequalities of income and wealth:
- Many of the gains from growth may only go to some people

22
Q

Some key constraints on economic growth

A
  • Infrastructure gaps
  • Primary export dependency
  • Macroeconomic stability
  • Endemic conflict and corruption
  • Human capital weaknesses
  • Insufficient private savings
  • Natural capital being depleted
  • Rising income inequality
23
Q

Importance of savings and investment for growth?

A
  • In poor countries, due to poverty therefore don’t have sufficient savings to fund capital investment.
  • Some poorer countries borrow to invest which can lead to higher levels of external debt
24
Q

The importance of skilled human capital?

A

Human capital weakness limits the positive impact of capital investment.
Investment increases capital deepening but often there is a lack of human capital.

25
Q

What is the trade/ business cycle?

A

Shows the trend rate of economic growth is the average rate of growth of GDP over time.

26
Q

Output gap on trade cycle diagram?

A

Difference between the trend rate and actual rate of economic growth.
Positive output gap- boom/peak
Negative output gap- recession/slump

27
Q

Can you produce above productive potential?

A

Yes, only in short run.

Through overtime, overworking machinery, etc.

28
Q

Recession definition

A

A period a negative economic growth for two consecutive quarters.

29
Q

Importance of export led growth

A
  • International trade is catalyst of export-led growth

- As UK firms target global markets there will be an increase in sales abroad.

30
Q

Importance of stimulating supply side as well as demand side?

A

If demand side is simulated and supply constrained. High levels of inflation will occur. But too much on supply side will leave lots of spare capacity and unused resources.

31
Q

Output gap definition

A

The difference between the actual level of GDP and its estimated potential level. It’s usually expressed as a % of the level of potential output.

32
Q

Output gap shown on AD/AS diagram

A

When SRAS and AD equilibrium output is less LRAS output (would be negative output gap).

33
Q

Negative output gap

A

When the level of actual GDP is less than potential GDP.

34
Q

Reasons for potential negative output gap

A
  • When some factor resources are under utilised e.g. demand deficient unemployment
35
Q

Problems with negative output gap

A
  • Higher unemployment

- Deflation risk

36
Q

Positive output gap

A

Actual GDP is greater than the estimated potential GDP.

37
Q

Reasons for potential positive output gap

A

Some resources working beyond usual capacity (shift work and overtime).

38
Q

Problems with positive output gap

A

Rising demand and cost push inflation pressures

39
Q

Problems/ difficulties in estimating the output gap for an economy?

A
  • We cannot observe directly the supply potential of an economy.
  • Inaccurate data on the labour force e.g. net inward labour migration
  • Problems in measuring productivity
  • Inaccurate surveys of producers about spare capacity
  • Gaps in knowledge about how much businesses are investing and potential output from new capital e.g. in digital sectors.
  • Uncertainties about ‘discharged workers’- people who may have left labour market
  • Hard to measure underemployment in the labour market at different stages of the economic cycle.
40
Q

Potential problems with growth

A
  • Externalities of growth: Pollution may increase and benefits of producing of more could be outweighed by the social cost of global warming.
  • Increasing marginal propensity to save increase income
  • Only small differences/ increases to income
  • Higher hours worked
  • Increased inequality
  • Increased health problems like obesity and stress from spending more on luxury goods and more hours
41
Q

How economic growth leads to higher living standards?

A
  • Higher consumption: greater utility, prosperity
  • Improved public services: more tax receipts can be spent by government on health and education
  • Reduced unemployment and poverty: it reduces unemployment and creates jobs unemployment can lead to crime and economic growth can reduce poverty.
42
Q

Causes of business/trade cycle?

A
  • Interest rates: lower interest rates stimulates consumption increasing growth and higher interest rates do the opposite
  • Changes in house prices: a rise leads to the positive wealth effect, leads to more spending and a fall in house prices leads to negative wealth effect
  • Consumer and business confidence: bad economic events discourage spending and investing, making a smaller downturn in a recession. But when the economy recovers this can cause a positive bandwagon effect. Growth encourages consumers to borrow and banks to lend
  • Multiplier effect: A fall in injections may cause a larger fall in real GDP. E.g. cut in public spending, fall in AD and rise in unemployment. These unemployed would consume less, leading to lower demand in the economy. Alternatively an injection could lead to positive multiplier effect.
  • Accelerator effect: investment depends on the rate of change of eco growth. If the growth rate falls, firms reduce investment because they don’t expect output to rise as quickly. Volatile growth is linked to volatile investment.
  • Lending/ finance cycle: like in 2008 with the credit crunch as there was a lack of liquidity when banks became overstretched.
  • Inventory cycle: when economy is doing well, people buy luxury goods causing more growth and the opposite causes a bigger downturn.
  • Real business cycle theories: emphasis on supply side cause business cycle, they go in cycles.
43
Q

Causes of recessions

A
  • Falling house prices causing negative wealth effect and lower confidence and spending
  • Credit crunch- higher cost of borrowing + shortage of funds
  • Volatile stock market and money markets undermining confidence
  • Higher interest rates
  • Tight fiscal policy- higher taxes, lower spending
  • Appreciation in the interest rates
44
Q

Impact of business cycle on economy?

A
  • A volatile business cycle is considered bad for the economy as high inflationary pressures tends to be unsustainable and lead to a bust
  • A recession represents a wastage of resources and high and long term unemployment could get discouraged and leave the labour force altogether.
  • The volatility causes lower investment and can lead to lower long term economic growth
  • Some economists argue that the creative destruction of capitalism can be a good thing as a recession can lead to inefficient firms going out of business and it acts as an incentive to cut costs.
45
Q

Moderations in business cycle

A
  • Monetary authorities tend to minimise fluctuations in business cycles. They aim to avoid inflationary risks and recessions. Interest rates and fiscal policy (increase gov spending/cutting taxes)
  • Effectiveness of monetary and fiscal policy depends on a few factors; central banks cannot always overcome a recession and cutting interest rates could not end a deep recession.
46
Q

Is the business cycle inevitable?

A
  • Many economists believe it is essential in weeding out inefficient firms and creating greater incentive to cut costs
  • However others argue, efficient firms can go out of business reducing/loss of productive capacity.
47
Q

Living standards alternatives to real GNI for per capita

A
  • Happy planet index
  • Genuine progress indicator
  • OECD better life index
  • Human development index
48
Q

Strategies to improve living standards

A
  • Improving human capital
  • Incentives to increase employment
  • A living boost to wage productivity
  • Accessible and high quality public services
  • Better/affordable housing to rent and buy
  • Wealth from successful businesses

Economics- Theme 2 (19 decks)

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