10.2 Links between macroeconomic problems and their interconectedness

Question 1

Relationship between internal and external value of money

Answer 1

The internal value of money is the value of money when buying goods and services.
This is the real value of money and it is measured by the purchasing power of money.

The external value of money is what the currency is worth, as measured in foreign currency. This is the exchange rate.

Question 2

Relationship between balance of payments and inflation

Answer 2

The increase in AD might cause demand-pull inflation, which could make UK goods more expensive than elsewhere. This might increase imports, if they are cheaper than domestic goods, which could worsen the current account deficit. However, this means the UK has a capital account surplus.
If imported raw materials are expensive, there could be cost-push inflation in the UK, since firms face higher production costs.
When the pound appreciates, imports become relatively cheaper and exports become more expensive.
If the UK becomes more productive, the UK will be more internationally competitive.
This causes exports to increase relative to imports.

Question 3

Phillips curve - link between unemployment and inflation

Answer 3

During times of low unemployment, wages are high - workers are scarce and and have more bargaining power
During times of high unemployment, wages are low or even negative as workers took pay cuts

Curve shows in order to get low unemployment you sacrifice inflation
Whenever AD shifts, there is a movement along the phillips curve
The curve doesn’t explain high unemployment with high inflation

Classical economists say when SRAS shifts left, the curve will shift right and show higher unemployment