1.2- How The Macroeconomy Works Flashcards
1
Q
Reflationary policies
A
-policies that increase aggregate demand with the intention of increasing real output and employment
2
Q
Inflation
A
A continuing rise in the price levels
3
Q
Economic shck
A
An unexpected event hitting the economy
-can be supply-side (2014 storms damage to infrastructure OR covid-19 pandemic meant labour unused in order to limit spead)
-or demand-side
4
Q
Consumption
A
Total planned spening by households on consumer goods and services produced within the econmy
5
Q
Rate of interest
A
Reward for lending savings to somebody else (eg. Bank) and the cost of borrowing
6
Q
when looking at growth in gdp- identify two key features
A
-period of time it spans
-largest increase- by how much and when
-largest decrease
7
Q
Essay on various stages of economic cycle using key economic indicators
A
-GDP growth
-unemployment
-cpi inflation
-current account of the balance of payments
-equity
8
Q
Gross National income
A
Total income earned by countries residents inc income oevrseas investment
Includeds income earned by residents overseas
9
Q
National capital stock
A
Stock of capital goods in the economy that has accumulated overt ime and measured at a point in time
10
Q
National wealth
A
Stock of all goods that exist at a point in time that have value in the econom
11
Q
Open economy
A
Economy open to international trade
12
Q
Withdrawals
A
-leakages
-flow of spending out of the circular flow of income
-tax, savings, inports
13
Q
Injections
A
Spending entering the circular flow of income
Eg. Gov spending, injections, exports
14
Q
Saving
A
Income that is not spemt
15
Q
Closed economy
A
Economy with no international trade
16
Q
Injections>withdrwas
A
-expansion of circular flow of income
-positive multiplier
-increase GDP and national income
17
Q
Injections<withdrawals
A
-reduction/contraction of circular flow of income
-negative multiplier
-gdp fall andn ational income fall
18
Q
Sum of planned injections+withdrawals
A
Circular flow of income in equilibirum
S+T+M+I+G+X
19
Q
Multiplier effect explanation -negative
A
-proportional decrease in spending as net withdrawals greater than injections
-investment falls
Workers in firms producing capital loose jobs- spend less
-demand for goods and services decrease- spend less
More loose jobs
-cycle repeats
-contraction of econmy
-gdp decreases
20
Q
Increase in GDP=
A
Multiplier x increase net injections`
21
Q
How to calculate multiplier
A
1/1-MPC + 1/MPS+MPM+MPT
MPS+MPT+MPM+MPC=1
Save tax import consume
22
Q
Marginal propensity
A
Proportion of income
23
Q
When does the multiplier take place
A
Disequilibrium between net withdrawals and net injections
-not when consumer spending changes
24
Q
SRAS
A
Short run aggregate supply
-total supply of goods and service w/in an economy at one moment in time
-time period in which the quanity of atleast one factor of production is fixed
25
AD
Aggregate demand
-total demand for all goods and services w/in an economy
26
AD=
C+I+G+ (X-M)
27
What cuases a shift in AD
-change in consumption, investment, gov spending, or imports/exports
-which often changes the economic cycle
28
LRAS curve shift
-v slow over time
-not affected by changes in prices
29
What cause a LRAS shift right
Increase in quantity or quality of factors of production
-casuing ppf to shift
30
which curve is affected by chanegs in price
SRAS as producers are incentivised to sell products at higher price in short term
31
There is an output gap when
National output is higher or lower than it would have beejn if the country had grown continously at its trend rate of growth
32
The gov is concerned that without any change to its current economic policy, the rate of growth of the economy will fall below its trend rate. Which of the following policy changes is most likely to prevent this from happening
An increase in gov expendatiture (increase aggregate demand)
33
The policy most appropriate to close the positive output gap by influencing aggregate demand would be
An increase in the rate of interest (reduces demand)
34
The underlying trend rate of growth in an economy is declineing and the economu is also experiening an increase in its rate of unemploymenyt
What is most effective in dealing with these problems
An expandionary monetary policy and supply-side policies
Boosts demand and increases supply
35
Real growth/other measure calculation
Nominal/money (gdp)- inflation = real (gdp)
36
An economy is currently operating inside its ppf. In th ehsort run if the rate of growth of aggregate demand is less than the rate of growth of productive capactity, then the economy is most likely to experience
An increase in unemployment
37
If a gov’s primary objective is to increase the growth potential of an economy, it mught also simultaneously
Think bigfeet
Aim to balance its spending and tax revenues over the long term
38
The main economic reason that a gov is likely to have the objective of minimising unemployemnt is to
Avoid the waste of a scarce resource
39
Conflict can arise between the various gov objectives, at least in the short run. For example, when attempting to achieve economic growth through reduced interest rates, this can lead to
Demand-pull inflation
If interest rates reduced- likely to cause increase in consumption and investment- both components of aggregate demand
This will increase aggregate demand which will give rise to deman-pull inflation
40
Care must be taken in comparing gdp over a period of time because
It is presented in money terms, and therefore, reflects changes in prices as well as output
41
One way in which retail price index differs from the cpi is that
It includes mortgage interest payments
42
The level of unemployment is a reliable measure of economic performance because
It provides a relative measure of how an economy is performing in relation to its productive potential
Since a measure of unemployment using a particular methodology is retained for a significant period of time, relative assessments can usefully be made about how well an economy achieves its productive potential
43
An improvement in an economy’s factor productivity performance, all other things being equal, will contrubute to
An increase in exports and a reduction in a trade deficit
An imporvemnt in an economy’s factor productivity reduces average costsm thereby allows g&s to be more competitively proced. Exports are more attractive to foreign buyers and imports are relatively less attractive to domestic buyers. As a result the trade balance will improve-eg. Reducing a trade deficit
44
In order to calculate the retail price index a ;basket of goods’ bought by the ‘average family’ is drawn up and a set of ‘weights’ are calculated and applied to each iotem. The reason for calculating the weights that are applied to each item in the construction of the rpi is
To reflect the relative importance of the items in the average family’s basket of goods
45
What does the LRAS curve show about the economy
Potential output
46
The shift of the LRAS right can be explained by an increase in
Government expendaiture on education and training
47
What is the position of an economy’s lras determined by
Production capacity of the economy
48
The real national output of OY (OY being on x axis- y being lras)
The economy is on its production posibility frontier
49
What is likely to move the economy to a new equilibirum- LRAS shift right
An increase in capital stock
50
When does macro-economic disequilibrium exist
Aggregate supply is not equal to aggregate demand
51
The shift of LRAS is likely to be caused by a fall in
Capital stock
52
All other things being equal, which one of the following is most likely to cause a simultaneous shift to the right in LRAS and SRAS
An increase in
The number of immigrants entering the country
53
Short run as
Time perio
54
Short run AS- explanation
-unlikely to hire new workers
As may not be needed longer term
Also expensive to sack and hire people
-demand increases- firms try to get existing workers to work harder or longer
But overtime is costly- costs rise as output expand
Higher price, needed for supply
-extra demand- bigger increase output than in prices
55
Factors which shift SRAS
-raw materials, high wages, interest wages- costs increase
Sras- moves to left- gives lower profit margin and fims increasingly less incentive to priduce
-higher businesses taxes- sras left
Eg. Corperation tax, rates or vate
Add to final costs
-productivity increasingly reduces cost
Sras right
56
LRAS
Normal position for an economy
Operation of free market- cause economy to move natural capacity of output- ppb
-any changes in q and q of factors of production cause shift
57
Neoclassical lras -shape
Vertticle line
58
How can gov policies affect lras
-high corperation taxes
-incentives- business start up schemes
-new technologies
-more motivated workforce
-banking system- cheap and available funding for investment
-supply side policies
59
How high corperatuion tax affect lras
Firms reluctant to invest in uk or even more abroad
60
How business start up scheme cause lras shift
Encourage enterprise
61
How more motivated workforce- lras
Increase productivity- right
62
Economic growth
Increase real output over time
63
Expaknation LRAS
-if ad shift right- sr- higher natural rate of output and positive output gap
-long term equilibrium will return to old output, but at a higher price
-in response to high prices- ad shift left- negative output gap, lower natural rate of output, prices drip
64
Sras beyond ppb
Not sustainable
Eg. Workers 24h/dzy
65
Ppb
Long run move output
66
Neoclassical explanation
-as ad decrease (eg. Sharp decrease bank lending)
-gdp fall and so does price level
-unemployment increase0 economy under natural rate of output- negative output gap
-negative multiplier effect- injections less withdrwal
-economy- recession /(if fall 2 consequtive quaters)
-rising unemployment, falls ad
Cause wages and price fall
Reduce cost production
Sras to right
-firms encouraged to expand output and increase workers-lower wages and costs
-economy lift out of recession and return to lras but at lower price
67
What lras show- neoclassical
Verticle
Can go over in sras- increase wages persuade more workers to enter job market
68
Economy not full potential-why not
Voluntarily unemployed- dont want to work at current wage rate
69
What does necoclassical assume
-mobility of factors of production- eg. Labour market flecibilyy
-assumes economy wil revet to natural rate of output and employment
Given state of technological develipment, skills of workforce, barriers to entry into market (influences competition on micro level)
70
What does neoclassical suggest
-deregulation as much as possible and reduce taxes- reducing barriers to entry
-no need for gov intervention as return from recessiuon
If prices down,
Down cost of production
Decrease wages
Increase finding employment
71
Labour flexibility
Easy to alter quantuty and structure of workforce
72
Why is labour flexibility sucessful/important
Allows firms to alter their workforce as condition sto change and workers adopt new practises
-economy related lr capacity more easily
73
Characteristics of labour flexibity
-flexibly employment practises
Skills w/in workforce
Hours
-ease and cost of hiring and firing worker
Reduce cost of employment
Modifications to suit labour force
Output and employment more easily matched
-switch to shorter term employment contracts
Eg. 6 month or zero hours
-greater flexibility on policy arrangements
Expanision of performance related pay
Or regionalisation of pay- vary diff region based on productivity
-increased locational flexibility
Many businesses now expect worker to be able to move within and between diff regions
74
Performance related pay
-some of total pay (remuneration) package linked to productivity, compacy profit- indicators of performance
75
Keynsian beliefs
Not necessarily automatic forces at work- naturally return an economuy to its natural rate of output
-economies get stuck in recession- great depression 1930s
76
Keynsian graph
One as curve- horizontal at low levels output
Psoitivly sloped as economy nears full capacity
Verticle when economy operates at full capacity
77
Economies stuck in recession -how keynes
Consumer and business confidence lwo, falling prices lead to lower wages, not enough to encourage consumers to spend
Encourages firms to take on more workers and expand output as cheaper
Income- key determinate of consumer spending
Real incomes falling- higher unemployment
Causing spend less- ad less
Firms cut back on investment- no incentives to take on more workers to expand produvtivity
Despite lower cost labour
Ad less
78
Keynes what to do
Govs should intervene- kick off positive multiplier
If gov spend on large infrastructure proejcts- often labour intensive construction
Creating jobs to increase ad
Gov spending counteracts decision in investment (Fiirms)- gdp rise, unemployment decrease
79
How is gov spending- keynes - sorted
Funded issuing gov bonds(loans)/borrowing
Paid off during growth stage of economic- aim for gov to balance burget over course of economic cycle
80
What may cause increase in capital
Lower rate of interest
Increase investment
81
Impact natural disaster on economy
Wipe out caputal stock, reduce output, lead rise unemployment levels
82
Anything that increases labour output
Shift curve rught
Increase investment eductation, training, more efficient working practises, improved technology
83
What is SRAS drawn on the assumption of
Investment in the economy are constant
84
What is taxation
A withdrawal from the circular flow
Increasing total net withdrawals
Negative multiplier
85
What is consumer spending
Not an injection
But is componsent of ad
Most likely saving less if spending more
So less withdrawals
86
Are savings a component of ad
No
But are a withdrawal
87
What is investment
A component of ad
An injection
88
Aggregate demand- chian of logic q
Definition of change
Injections and/or component of AD?
Increase or decrease in ad- shift of curve
Net injections net withdrawal
Negative/multiplier effect
Annotated diagram-change in price level and real gdp
89
Impaact of rise in income tax on consumer spending
Fall in disposable income
Subsquent fall in consumeer spending
90
Unemployment rate
The labour force survey unemployment rate measures all those without paid employment and actively seeking work
Irrespective of whether they are entitled to claim job seekers allowance (or universal credit) or not
This may include those unemployed who have savings or are supported by working partners as well as those claiming job seekers allowance or universal credit
91
Ceteris paribus
All things being equal
92
What are the impacts of high gov borrowing
Can be detrimental to longer term economic growth
If borrowing not paid off as the economy recovers and unemployment falls
93
Demand deficient unemployment
Same as cyclical unemployment
94
Lras- high levels of unemployment and environment
Lower economic growth may reduce the resources available for research and development into environmentally friendly technologies in the longer term
95
Social problems associated iwth unemployemnt
Rising crime rates
Poor health
Low educational achievement
Family breakdown- implications for social cohesion, social mobility and priciple of fair society
96
What is most likely to cause a fall in aggregate consumer spending
A reduction in gov spending on welfare beneifts
97
‘Close to £20bn is expected to be spent using credit and debit cards by the end of dec, up 10% on last year’
The most likely consequence of this increase in spending is a rise in
Imports
98
How can savings be beneficial
Saving can finance investment expendaiture
99
As a component of ad, consumption is best defined as total expendaiture in the economy…
By housholds on all goods and services
100
Disposible income
Income recieved after paid taxation + any benefits (uc)
Statutary deductions- tax, national inocme\
Further reduced if take out pensions.mortageges to buy new house
101
Discretionary income
Income that’s left over after paying for essentials
Eg. Mortgage, foo, bills
So is spent on non-essentials, holidays or saved
102
Low income groups spenidng
Spench higher proportion of income
Much less %income saved
Less discretionary income
103
High income groups spending
Spend less
Save more
104
Changes in consumption caused by
Income
Wealth effect
Inflation
Rate of interest
Expectations
105
How income impact consumption
According to keynes-most important determinant of consumptioon
106
How wealth effect impact consumption
Consumers change level of consumtiion if see change in value of their wealth (stock of assets)
Eg. Value of house may increase, borrow against it
Or value of shares increase, spend more as feel wealthier
107
How wealth impact inflation
-expectations accelerate inflation in future, consumers may spend more in short term in anticipation of increasing prices
-long term inflation, negative wealth effect
108
How does rate of interest impact consumption
Increase interest, save more as rewarded more
-if decrease- consumers save less and spend more
109
How does expectations impact consumption
-feel confident about job security- incomes likely to rise in future- spend more
-economy growing strongly, consumers spend more, virtuous cycle of expansion- fuelled by positive multiplier
-negative expecttations- spend less and save more
Eg. Fears of recession, loose job/ earn less (decrease bonuses and less sales commission_- spend less
-life cycle theory of consumption
110
Life cycle theory of consumption
Borrow lots early on as expect to pay back when have higher income
111
Consumer spending as component ad
-largest- 60%
=dont directly cause multiplier effect- change in consumer spending likely to lead to change in investment
-change impacted by- income/wealth/confidence effect
112
Mortgage equity withdrawals
Homeowners borrow extra money against value of home
113
Consumer durables
-provide flow of services to a consumer over a period of time
-eg. Cars, electrical goods
-income elastic
-increased demand recently due to decrease prices- rapid advances in technology and the effects of globalization- import cheaply
114
Non-durables
Short term benefit
Eg. Chocolate
115
Onsumer services
Provision of someting non-physical, yields benefit
Eg. Insurance, education
116
Savings ratio
Actual savings/disposable income. X100
117
Factors that affect level of saving
Same as with consumption
Interest rates
Income
Wealth
Consumer confidence
Availabilty of credit
Inflation in future
118
Inflation rates on saving
If increase, more saving- bettwer reward
119
Income on savings
Increase, increase savings
Earn more, save more
120
Wealth on savings
Increase, less saving
-already have signs of wealth
Feel can spend more and save less
121
Consumer confidence on savings
Increase, decrease savings
-more willing.comfortable to spend more
122
Available credit on saving
Increase, decrease
-easier to borrow so less incentive to save
123
Inflation in future on saving
Increase, decrease saving
As in short term, consumer spending before increase prices
124
Impact of decreased savings on economu
Reduces funds available for investment
Undermine long-term economic growth
Britain doesnt save much but germany and japan do
125
Impact of increased savings
Damaging esp in recession
Consumers w/ jobs concerned with job security, decrease consumer confidence, save more
126
V. High levels inequality damaging to economu
Low levels economic growth
High icnomem- save more- ad fall but more funds for investment
Low income- spend more domesticaly
127
Impact aging population
More likely to save - proportionatley
Worsen econ growth
128
Transfer incomes
Not included in ad
Grants eg. Pemsions
Social security- welfare payments
129
Why higher gov spending than pre war
Increade welfare- esp. old age pension
Nhs post ww2
Education- school leaving age increase, university tuition subsidised
130
Budget defecit
Plans for gov to borrow in one year
= public sector spending - taxation
131
National debt
Toatl accumulated debt over years
Gov borrownibg over time
132
Why does gov borrowing increase in recession
Cushion impact
Increase benefits as more unemployed
Less tax
133
Investment
Total planned spending by firms on real output production in economy
Expendaiture generates further income
Opportunity cost- short term sacrafice (financial) for long term gain
Spend new machinery
134
Replacement investment
Swap worn out capital for new machinery
Capital stock same level, AS unmoved
Depreciatiuon
135
Net investment
Add capital stock
Increase q and q
Improve productive caoacity- shift AS right, PPF out
136
Investment on ad
Right
Invrease demand on machienery from companies
137
Investment on as
Shift right in long term’
But may take long time to yield rewards
138
Labour saving investment
Robots instead of workerS
Structural unemployment
139
Labour using investment
New product development/ innovation
Requires labour for different market- eg. Wifi equipment
140
Overall impact advanced econ
on labour
Advanced economies absorb labour in tertiary sector as manufacturing falls
141
Factors which cause investment to change
Interest rate
Capacity utilised
Business expectations
Technologucal innovation
Gov policies
Forign direct investment
142
Impact interest rate on invbestment
Increas,e decrease investment as more expensive to borrow, or may use retained profits to invest if not
143
Impact capacity utilisation on investment
If near full capacity- invest new capital
Spare machinery- put into action before investing
As ad increase, so does investment
144
Business expectations on investment
If expect future sales to increase, perhaps due to increase as, may increase investment
0negative expectations- reluctatnt to spend on capital- dongt need extra supply
145
Technological innovation on investment levels
Spark growth economic cyle
Improved technology- esp cheaper or better quality
Firms forced to improve, upgrade to keep up with competition
146
Gov policies on investment
May give grants to firms to invest
147
Foreign direct investment on investment
Occurs when multinationals set up productions in other countries
Increaseing skill and workforve
Eg. Nissan micras in sunderland snet to france
148
Acceleration gdp
Cause an increase in investment
149
Net investment this year=
Capital-interwst ratio x (current ni - ni last year)
150
Increase income each year same
No change in investment
151
Sped up increase gdp/ni
Investment increase
152
Decrease rate of griwth- gdp/ni
Investment decrese
153
What does acceleration show
How volatile component investment is of ad
154
What is likely to cause firms to increase the amount of investment they undertake
A fall in company taxation
155
All other things being equal, if gov policies succeed in raising the level of investment in the economy then
The future productive capacity will be affected
156
A rise in level of domestic investment will most likely result from a rise in
Company profits
157
Increase exports
Foreigners buy more uk goods
Uk firms more likely to produce more output
Exports are injections to circular flow of oincome
158
Exports increase- impact on ad
If net injections > net withdrawals
Set off positive multiplier
159
Imports function
Dont add to demand
Included- subtracted (-M)
=consumer spending on british goods and imports
160
Causes of increasing uk exports
-world income up
-more innovation
-sterling exchange rate depreciates
-uk incomes fall due to recession
-export led growth
161
Impact of increasing world income on uk exports
Increase
Foreigners buy more products and sevices overall- so some likely to be british
162
More innovation impact on exports
Or high quality products
Eg. Sattelite dishes, wind turbine, land rovers
163
Sterling exchange rate depreciates- exports
-uk goods bought cheaper from overseas- more likely to be bought
-imports more costlier- less likely to purchase
164
Uk incomes decrease in recession- impact on exports
Uk imports decrease
And current account of the balance of payments improves
-poorer uk consumers buy fewer goods and services from abroad
165
Export led growth- impact on exports
Boost gdp
If imports are increased at expense of domestic good- import sistitution
-cause problems for domestic firms
166
Import substitution
When increasing imports at sacrafice of domestic goods
167
Examples of birtish exports
Pharmaceuticals
Armaments
Cars
It, transport, entertainmet and financial services
168
What is the impact of increasing net imports on AD/AS graph
AD shift left
Price level decrease
P1 to p2 d
Gdp decrease
169
Which would lead to a new equilibrium position with a fall in the price level
A FALL IN exports
170
When planned injections equal planned leakages
There will be macro economic equilibrum
171
If exports were to increase, but, over the same period, imports were to increase even more, an economist would expect the economy to settle at a new equilibrium where
The price level and real output were lower
172
The fall in the price level (as a resulkt of sras shifting right), is most likelly caused by
Productivity increasing faster than money wages
173
If exports were to increase by 3% and imports were to increase by 8%
Real output would fall by more than the changes in ad
174
What forms part of the institutional structure of the economy that is important in determining aggregate supply
The banking system
175
Factors which may effect low interest rates
Saving and borrowing- loans and mortgages
Consumption
Investment
Exchange rate
Confidecne
176
Benefits of low interest rates
Growth
Unemployment
Inflation or avvoidance deflatuon
Bop
177
Reflationary policies
Policies that increase ad with the intention of increasing real output and employment
178
Life cycle theory of consumption
A theory that explains consumption and saving in terms of how poeple expect their incomes to change over the whole of their lifespan cyces
Ie when buy house
179
Determinants of investmen
Certainty
Relative prices of capital and labour- if labour cheap minimal investment
Nature of technical progress- keep machinery up to date
Adequacy of financial institutions in supply of investment funds- interest rates and how wiling banks are
