1.3- Economic Performance Flashcards
Increase exports impact
Foreiegners buy more uk goods
0uk firms more likely to produce more output
injection to circular flow of income
How increase exports can increase ad
If net injections > net withdrawals
Set off positive multiplier
Imports
Consumer spending on british goods and imports
Dont add to demand
Included -m (subtracted)
Causes in increase uk exports
World income increase
More innovation
Sterling exchange rate depreciate
Uk imports decrease
Export led growth
World income incrrease- how affect uk exports
Uk exports increase
Foreigners have more moeny to spend on g&s
Some likely to be british
More innovation- how increase uk exports
Or high quality products- desirable
Eg. Sattelite dishes, wind turbines, land rover
Sterling exchange rate depreciates- how increase uk exports
Uk goods bought cheaper- more likely to be then
0oimports more costly- so less likely to be bought
Uk incomes decrease- how causes increase in uk exports
When uk incomes decrease in recession
Positive current accout of the balance of payments imporve
Poorer uk consumer buys fewer g&s from abroad
Export led growth- how increase uk exports
Boost gdp
- import substitution
0causes problems for domestic firm
Import substitution
Increase imports at expense of domestic goods
Examples of british exports
Pharmaceuticals
Armaments
Cars- production for nissan
It services
Impact of increase net imports on ad graph
Ad shift left
Price level decrease
Gdp decrease
Unemployment
All those able and willing to work who cannot find a job
Doesnt include those who are economically inactive
Economically inactive
Too young,old, ill/disabled or those who aren’t seeking employment- stay at home parents
Economically active
In or seeking work
Labour force survey
Peope w/out a job who were availabe to start work within the next 2 weeks, and had been looking for work 4 weeks prior to an interview or waiting to start a job
May include looking for work and unable toclaim benefits
Unemployed but supported by higher earning partner
Frictional unempoyment
Individuals inbetween jobs for short period of time
Natural or modern market economy- such as uk- not a cause for concern
Structural unemploymwnt
Caused when workers dont have the skills required in new expanding industries- structural economic change
Occupationally immobile
Or geographivally immobile- london to liverpool- too expensive
Technoligical unemployment
Form of structural unempoyment
Workers replaced by machines
Car manufacturers- by robots
Seasonal unemployment
Caused by a lack of seasonal demand
Agricultural labourers- fruit pickers
Tourist job- beach lifegaurd
Natural rate of unemployment
Level of unemployment consistent with the trend rate of output of economy
Neoclassical- keynes not agree with
As=ad for labour
Made up of - structural, voluntary, some frictional
What does natural rate of unemployment not include
Demand deficient/cyclical unemployment
Demand deficient/cyclical unemployment
Caused by lack of ad
Voluntary unemployed
The unemployed who are unwilliing to work at goung wage rate
Usually because of high welfare benefits
Unemployment trap and high replacement ratio
High in fr and spain due to having high welfare benefits
Unemployment trap
Work not/little financially rewarding (compared to welfare benefits)
Replacement ratio
Out of work disposible income/in work di
What does high replacement ratio mean
Closer to 1
Greater unemployment trap
What does low unemployment trap mean
Closer to 0- more financially rewarding to work
How to achieve lower replavcement ratio
Decrease unempliyment benefits
Increase min wage
Decrease taxes
Classical unemployment/real wage unemployment
-caused by high minimum wage
Above equilibrium wage rate- high supply- willing to work, low demand, wiling o employ
Decrease in min wage
High demand, low supply
Why do neoclasscial economists dislike min wage
Causes classic unm=employemnet
Sum for classical unemployemt
Q2-q1
Q2- above ep
Q1- below ep
Supply side policies
-aim to increase productive capacity
-shift lras right
Should help to increase occupation mobility- decrease structural unemployemt
Example of supplly side policy
Control of inflation
Competition policy
Creation incentive to work
Creation flexible labour market
Encourage r&D investment
Regional policy
Control of inflation- supply side
Stable economy
Allows businesses to prosper and plan- investyment increase
Competition policy
Deregulation, privatisation
Extend market forces within an economy
Eg. Thatcher privatised steel and telecoms
Companies motivated to make profit and so increase efficiency
Creation incentive to work
Cut direct tax and welfare reform
Welfare benefits cut to 20,000/household- 23,000 london
Decrease unemployment trap and decrease natural rate of unemployment
Personal tax allowances increase- earn more before pay taxes
Creation flexible labour market- supply side
Decrease trade union power
Increase temporary and part time contracts
Increase education and training- apprenticeship levy- to increase occupational mobility and decrease structural unemplyment
Encourage r&d investment
Low tax rates and tax incentives
Increase ad
Regional policy
Reducing structural unemployemnt in a particular area which has faced a major decline of industry
-investment in infrastructure projects and providing industry grants and subsidues to encourage inward investment from multinationals
Eg. Nissan - ne fator
Evaluation regional policy
Expensive short term
Years to rejevenate area
Work and health programme
Gov pays private firms and charities a fee to place unemployed in jobs
Flexicurity
Denmark
Sucessful byt expensive
Easier to hire and fire
Better access to training- occupationally mobile
Generous welfare services- decrease over time
Keynsian- unemployemnt
Need to increase ad through increasing investment, so decrease cyclical unemployment
Neoclassica lunemployment
Increease natural rate of output through shift lras right- increase production
Decrease structural and natural rate of unemploymenr
Adopted snce 1980s
Occupational immobility of labour
Individuals unable to work due to a lack of relevant skills
Eg. Basic it skills
Barriers to occupation mobility
-cost and duration of education and training- doctor/solicitor
-lack of ability and sucess- lack of personal attributes- footballer
- legal barriers- women in afghanistan, criminal record diff to be a teacher
-dicrimination- social castes in india
Geographical immobility of labour
Individuals unwilling or unable to relocate in search of work
Geographical mobility barriers
Lack of access to or cost of transport
Cost of relocation- high house prices/rent
Social and family ties- children in education
Language barriers
Disvrimination in some areas
Globalisation and international competition has caused some structural unemployment- how?
Firms relocatet o low ost countries for labour intensive manufacturing- clothing to pakustan
Cause structural unempoloymnet in uk- esp clothing
Cost of unemployment
Waste of human resources- econ ineffienceinf- lower gdp
High cost of welfare benefits- increase gov borrowiing
Low tax revenue
Social cost- increase family breakdown, increase crime- increase cost policing, prisons
Social cost of poor health- depression, drug and alcohol use
Monetary policy
Decrease interest rates
Even quantative easing
Encourage private sector spending to borrow in order to invest in expansion of new technology
Why monetary policy may fail
-recession- consumer and business confidence low
Often unwilling to borrow money to fund spending- despite low interest rates
-many prefer to hold onto stocks of cash- liquidity trap
-not v effecctive at lifting out of recession and decreasing cyclical unemployment
-normally first step
Fiscal policy
Changes in taxation and gov spenidng
Increase ad by cutting direct taxes
Increase gov spending on infrastructure projects
Why fiscal policy may fail
- if tax redue may save extra income, inefective at increasing jobs
-infrasturcture plans take years to plan and may only be suitable for an economy stuck in prolonged deep recession
-may lead to increased gov borrowing
Impact gov borrowing
If continue during growth may cause the crowding out effect
Crowding out effect
Gov crowds out more potentially efficient private sector investment- may undermine future economic growth in long term
How high levels of unflation can cause structural unemppoyment
-high levels of inflation cause uncertainty for businesses- more diff to plan in futyre
Therefore if businesses cut back in investment in new technology, less competitive long term- go bust causing structural unemployment
-if inflation increase- domestic economy > overseas
Domestiv firms decrease export- less ouytput
Export firms may close or cut back on employmet, caysing increase in structural unemployment
Why was the national living wage introduced
Felt tax payers were subsidising employers who were deliberatelt paying low wages and encouraging them to clairm working tax credit
All other things being constant, demand pull inflation is most likely to result from an increase in
Gov spending
Lower inflation in an economy is most likely to be achieved if there is an increase in
Productivity
Demand pull inflation could be caused in
Total soending exceeding productive capacity
Cause of inflationary pressures on diagram- sras shift left, price level increases
Money wages increasing faster than productivity
How may monetary policy be used to reduce cost push inflation
Higher exchange rate is likely to redue cost of imports
Lower cost of imported raw materials and component parts
Reducing cost of rpdicution
What circumstances might moneary policy be most appropriate for reducing inflation
When demand-pull inflation takes place
Why might countries in the eurozone not be able to use moentary polciy to reduce domestic inflation
Euro is a shared currency meaning individual countries cannot use monetary policy independantly to reduce domestic inflation
If cant monetary policy to reduce inflation
Fiscal policy
Outline the diff between cpi and cpih
Cpih is cpi plus housing costs (eg. Mortgage, interest payments, which make up an avareage of 10% of household expendaitures), whilst cpi does not include housing costs
Why might high rates of inflation lead to rising inequality
Fiscal drag
Incomes of lower groupes- unskilled labour- may not keep pace with inflation, unskilled workers in plentiful supply andn ot represented by powerful trade unions, find diff to negotiate wages to increase with inflation
Unemployment is most likely to occur because
Ad is less than ad supply
An economys sras upward sloping, as ad increases, whats most likely to happen to inflation and unmeplyment in sr
Inflation increases
Unemployment decreases
Deflation
Period when the general price level falls
Av prices are falling
Malign deflation
Takes place during recessions
Ad decrease, shifts left, cuasing neg output gap
Benign deflation
Associated with economic growth productivity increase at lower price level
Not cause for concern
Lras shift right
Possible econ costs of deflation
Holding back on spending
Debts increase
Real cost of borrowing increase
Lower profit margins
Confidence and saving
Holding back on spending- possible econ costs of deflation
If expect prices to fall further in future
Likely to exacerbate the deflationary process
Could lead to further flalls in ad and recession
Malign delfation would be associated with recession
Debts increase- possible econ costs of deflation
Real value of household, corperate and gov debt rises when price level falls
Another factor that might cause people to cut back on their spening- decrease ad and recession
Real cost of borrowing icnrease- possible econ costs of deflation
Real interest rates will increase if nominal rates of interest dont fall inline with prices- decreasing spending
Lower profit margins- possible econ costs of deflation
Unless costs fall further than prices to consumers
Can lead to higher unemployment as firms seek to reduce their costs
Weaker profit margins, have negative effect on stock markets due to a fall in expected profits and dividens to shareholders
Higher unemployment could lead to decrease ad and recession
Confidence and saving - possible econ costs of deflation
Falling asset prices such as price deflation in the housing market hit personal sector financial wealth and confidence
Further decrease ad, increase precautionary saving, decrease spending
How to decrease deflation risk
Monetary policy
Fiscal policy
Monetary policy- How to decrease deflation risk
Cuts in interest rates can be made to stimulate the demand for money increasung consumption
conventional monetary policy
Cuts in interest rates
unconventional monetary policy
Quantative easing
How can monetary policy fail to decrease deflation risk
Consumer confidence is low (eg recession), impact of monetary stimulatio may be small as people more likely to save income so can pay off some of their accumulated debt
Asset prices decrease, demand cash savings increase
Consumption may not respond to lower interest rates
Liquidity trap- hold onto cash
Liquidity trap
Cuts in interest rates have little to no impact on demand
Eg. When interest rates come close to zero- little return on investment so hold onto cash
May result in qe
Quantative easing
Central bank- boe- purchasing long dated gov/corperate or commercial bonds from retail banks or other financial institutions in exchange for cash
Increase money supply, decrease interest rates, increase asset prices, increase ad, prevent malign deflation
Quantative easing- how does it work
1- hoped with extra csh retail banks lend out extra funds to consumer and businesses- increasing ad
2. If bonds purchased, prices increase, decrease yield on bonds, decrease interest rates, increase borrowing, sepdning on consumer and capital goods
3. Financial institutions use money to buy equities (shares in companies and other financial assets)
Increase demand in shares and financial asssets- eg increase prices as profits increaase- wealth effect mean spend more
If increase ad, firms spend more on investment, inject to circular flow of income increasing ad
Evaluation of qe- retail banks lending out extra funds to consumers and firms
In deep recessio, confidence low, wealthy banks struggle to lend out
Malign deflation consumers and firms hoard rather than invest cash- liquidity trap
Lw interest rates, decrease income savers- eg. Pensions, reliant investmenty payments from shared
Evaluation qe- low interest rates as bonds purchased
Consumer wealth and insecurity of jobs may mean low interest rates not borrow- ad not increasing
evaluation qe- wealth effect as shares purchased more by banks, increasing value
Inequality may increase as increase price assets
Danger creating asset bubbles which v fragile and may burst if economic shock or collapse in confidence- send back into recession
Fiscal policy- deflation
Increase gov spending and/or higher public sector borrowing
Threat of deflation may lower direct tax to boost households disposable income
Increased incomes inject spending power into circular flow of income
Limitations to fiscal policy for deflation
Increase national debats and interest payments on debt if fiscal expansionst packages too large- long term repayments
Decrease consumer confidence
Reducing impact any fiscal stimulation
Lower taxes and increased public spending may stoke up inflationary pressure if appluied for too long- limited evidence
Increase disposible income- saved or spent imports- limited impact ad
Tax cuts/public workers seen as temporary- confidence low
Extra income tend to be used to repay debt or restore confidence
Households may see this as a priority rather than fuelling increase in consumptin
Inflation
General sustained rise in the av price level
Disflation
Rate of inflation declining
How is inflation measured
Cpi or rpi
Cpi
Consuumer price index
Measures changesin prices of a slection of household g&s over time
Rpi
Inc housing costs- make up large part of costs
But changed as cpi more relaible measure for international compasions- simillar to that in continental europe and usa
Calculating cpi
Each category- price index x weight
Add up all categories
Dvided. By 100, shows overall inflation
Limitations cpi
Diff households, diff rates of inflation experienced00 as not personal
Cpi not housing costs- high proportion of income spent on morotagage (younger buyers, less so for older ones))
Doesnt take into account improvements in quality esp mobile phones
Epih- inc housing costs
Creeping inflation
Prices iincreasing by fewer %/year
Not considered to be a problem- often a sign economiic growth
Accelerating hyperinflation
V concerning, creating uncertainty0- sr and lr problems
Can be caused by demand pull or cost push
Whilst increasing expectations also cause inflation to accelerate
Demand pull inflation
Ad exceeds as- positive output gap
Extention along supply
Normally occurs as economy nears full capacity- diff expand production
Cost push inflatio n
Negative output gap
Increasing cost of production
Causes of cost push inflation
Increase wages and saleries- increased wages not offset by increasing productivity- lead to wage price inflationary spiral
Imported goods and raw materials- increased imported componsent parts and raw materials- esp oil-0 lead increase price domestically produced g&s
Depreciation of currency- increase pricee all imports0- uk high marginal propensity to import
Profits0- may increease prices to increase profit margins- more price inelastic, unlikely to decrease demand, increased competition (supply side) reduuction inflationary pressures
Taxes0- gov increase indirect rates- vat or fuel tax or reduce subsidies
Inflationary spiral
Increased cost of production, Increase prices, workers demand higher wages
Increases cost of production if granted
Most likely to occyr with inflexible labour markets and strong trade unions
Money supply and inflation
Monetarists believe inflation is caused by an increas in money sipply
Quantity theory of moeny- fisher equation
Fisher equation
MV=PQ
M- money supply
V- velocity of circulation of money
P- general price level
Q- real valye of national output, real gdp- relatively stable, lras constant
Money suppluu
Instant access money- bant accounts and cash and notes in supply
Velocity of circulation of moneey
Rate at which notes changes hands
Relatively stable
How to control inflation0- monetarists
Decrease money supply
Increase interest rates to reduce ad and spending
Impact of inflation on businesses
Creates unpredictabiility
Accelerating inflation- cash flow problems
Increase interest rates
Increase meny costs
Export decrease competituve adv
Inflation- creates unpredictability- businesses
Makes planning diff
Cut back investment
Lose competitive adv, lose sales in long term
May have to decrease employees, increase structural unemployment or close completely
Acceleratig inflation- cash lfow poblems- businesses
If costs increase faster- costs can. Be passed onto consumerr
Strategic planning diff- cut back on investment ect
Incease interest rates- inflation on businesses
Increase costs
Decrease revenues
Increase menu costs- impact inflation businesses
Prices changed more frequently
Impose extra administrative and accountancy costs on firms
Export decrease competitivee adv-0 impact inflation on firms
If domestic inflation higher than the price level abroad
Loss of export less demand for labour and iincrease structural unemployment, decrease econ growth
Impact of inflation on people
Fixed incomes
Workers little industrial muscle
Interest rates not in line with inflation
Fiscal drag
Shoe leather costs
Impact inflation on pepole- fixed incomes
Real value decrease
Eg pensioners not index liinked funds
Workers little industrial muscle- impact inflation on people
Eg. Unskilled, temporary, not in strong tu
Fail to negotiate price rise in line with inflation
Impact low income more unskilled
Impact inflation on people- interest rates not in. Line with inflation
Disincentive to save
Real value of saving
Borrowers benefit from reduction in values of debt
impact inflation on people- fiscal drag
Gov doesnt increase personal tax allowances in line with inflation
Low paid dragged into tax net
Help ncrease gov revenue
Shoe leather costs- impact inflation on people
Consumer find diff to compare prices
Less clear reasonable prices
More ‘shopping around’
But less burdensome now- online shoppinG
Solutions/policies to reduce inflation
Moneetary policy- demand pull inflation- 2% target for mpc
Fiscal policy
Supply side
Monetrary policy to reduce inflation
Spend less consumer durables- often financed by loans, more expensive
Mortagaege payments increase- reduce discretionary spending, g&s decrease
0wealth effect- negative impact on share and bond prices and may reduce prices of houses too as demand falls as mortage rise
Save. More- spend less- mroe rewarding
Exchange rates increase00 hot money flows into pound to make most of it- increase price exports, less competitive international markets
Discourage frims from investing- increased cost borrowing
Supply side policies reduce inflation
Long term
Decrease price level lr
Lras shift right
How fiscal policy used to break cost push spiral
Decrease indirect/corperation ttax,
But decrease tax revenue, cut spending or increase borrowing
Natural rate of unemployment
Rate of unemployment when teh rate of wage inflation is stabble
Inc volntary frictional and structural unemployment
Equilibrium unemployment- ad for labour = as for labbour
Equilibrium unemployment
Ad for labour= as for labour
Frictional, structional unemployment and many inc some voluntary unemployment
Trade off between demand pull inflation and nemployment in sr
As ad increases, prices increase
Firms incentivised to take on more workers and thus increase wages- incentive function of price
Increase cost production/rising prices and wages
Increase demand pull inflation (p1 to p2)- as nemployment falls
Factors determine nair/natural rate of unemployemnt
Level technological developmen of indurties, quality of infrasturcture, competiveness of business on demoestic and international markets
Skills workers- occupational mobilitity and structural unemployment
Replacment ratio- voluntary unemployment
Policies to decrease nairu
Supply sside policies to shift lras right (shift lrpc left)
Competition policy - dcerease barrier to entry, encourage creation new businesses, create jobs structural unemployed
Increase incentive to work save and invest- decrease voluntary unemployment, self employment is encouraged
More flexible labour marktes- eg dereglation, increase mploymnt as workers know easily hire and fire
Encourage investment and r&d-] more competitive, more sucessful, expand to create more employment
Trade off- inflation and unemployment and how can identify cuases of inflation
Inflation increase as unemployment decrease- so to decrease unemployment (esp cycliclal unemployment), ad must be strong, any excess demand create demand pulli nflation
Low level unemployment, inflation increases
As tu become overconfident about heir job security and push increased wages, leading to ifnation, demand pull amde worse if cost push wage spiral
Decrease inflatino as unemployed increase- weaker asd, weaker bargaining power of t
Monetarists- lrpc vertical, tend towards nairu lt
No stable trade off between unemployemnt and inflation in lr
Gov increase spending/central bank decrease interest rates
Decreaase ubnemployment when econ at natural rate output, incrase prices as ad increase
Increase prices, increase employemebnt, increase incentive for firms to hire more- offer increased money wages- decreasing voluntary unemployment
Newly employed labour ssuffer money illusion- beleiving financially better off in employment, as money wages increase
Firms increase prices to restore profit margins, increase ifnlation-erode real value of money wages
As newly employed workers realise financially not bbetter off in employment, quit jobs, increase voluntary unemployment
Firms realise increased outout not increasing profit as costs increasing faster than revenues- so cut output to orginal profit maximisig level output- natural rate of output
Lay off newly employed workers
Unemployment returns to nairu at higher price level
Adaptive expectations hypothesis- eoconomic agensts (wokrer, firm, ty) expect increasing inflation in current period so expect in future- price inflation prompt how wage costs icrease labbour costs increase cost push inflation
Trend growth rate
Rate at which output can grow on a sustained basis, without putting upward or downward pressure on inflation
Reflects annual average percentage increase in productive capacity of econ
Deficit financing
Deliberately running a burgdet deficit then borrowing to finance the deficit
Consequences of deflation for individ and econ
Increase av standard of living
Reduction in incentievs for firms to expand leading to a reduction in rate of increase of real gdp
The major macorecon objective of unemp and inflation, booth falling at the same time in the lt can be explained by
Increase as
