2.1 Flashcards
How can you measure economic performance ?
- Unemployment figure
- Rate of inflation
- Rate of economic growth
What is aggregate demand ?
- Aggregate demand is the total demand for goods and services in an economy
- C + I + G + (X-M)
What is economic growth ?
An increase in the productive potential of an economy
What is short run economic growth ?
The increase in real GDP over a certain period of time
What is long run economic growth ?
The expansion of the economy’s capacity to produce goods and services
What are index numbers ?
- Used to track each economic factor
- Used to observe how the economy is functioning
How do you work out the index number ?
Index number = (Raw number in current period ÷ Raw number in base period) × 100
What is a Real Value ?
- The quantities produced after having removed the effects of price changes. Before inflation.
- The base prices.
What is a Nominal value ?
- Measurements made using prices that are current, at the time a transaction takes place
- Current prices
What is Real GDP?
- The value of goods and services at base prices
- It is adjusted for inflation
What is Nominal GDP?
- The value of goods and services measured using current prices
- Does not adjust for inflation
What is the more useful GDP to measure standard of living, and why? (Real or Nominal)
- Real GDP
- Nominal GDP is always exaggerated, and it’s not a true reflection of the country’s GDP.
- Real GDP allows you to have an insight into a country’s living standards
What is the Price Index Formula?
( Nominal GDP / Real GDP ) x 100
How is the Price Index different to the CPI ?
- Price Index measures prices of purchases by consumers, government, and businesses.
- However, CPI measures prices of purchases by consumers only.
What is GDP?
- GDP (Gross Domestic Product) is the total output of a country in a given time period
- It gives us an indication of living standards
What is GNI?
- GDP plus or minus the net income from residents abroad
- It adds what a country earns from overseas and subtracts what foreigners earn in a country and send back home from the GDP
What is the preferred measure of economic growth ?
- GNI
- As it more closely reflects the incomes of the residents, including net flows of income between countries
What is GPI ?
- Genuine progress indicator
- Economic tool used to measure the health of a nation’s economy.
What does GPI incorporate ?
- It incorporates environmental and social factors
- Such as family structure, benefits from higher education, crime, and pollution, which are all not considered in the GDP.
What is the difference between GPI and GNI ?
GNI only incorporates economic factors whereas GPI incorporates factors such as pollution, value of labour and education
How do you Calculate Real GDP?
(Nominal GDP ÷ Price Index) × 100
How do you calculate the GDP growth rate ?
- (new - original) ÷ (original) × 100
- Measures actual economic growth
What is Meant by GDP Per Capita?
Income per Person
How do you Measure GDP Per Capita?
Country’s GDP / Country’s Population
What does GDP per capita allow ?
It allows the GDP of different nations to be more easily compared
What is Power Purchasing Parity ?
- An exchange rate of one currency for another
- It compares how much a typical basket of goods in one country costs compared to another country
What does power purchasing parity provide ?
An alternative to compare GDP using exchange rates
What does power purchasing parity take into account ?
Takes into account the cost of living and so helps us better compare living standards amongst different countries
What are the difficulties in measuring GDP ?
- Exclusion of real transactions; Only items which are purchased and sold through the market are included
- The value of leisure; The satisfaction we get from recreational activities and other uses of our leisure time are also not included in GDP
- The underground economy; This economy consists of transactions that are never reported to tax and other government authorities. It includes many illegal goods and services (drugs and prostitution)
- Zero price goods are excluded from GDP; Gifts that are given and received are excluded
- Difficult to measure the value of innovation; there is nothing approaching consensus on how to measure the value of innovation. It is getting more difficult to measure GDP as production is more in the tertiary sector and not secondary sector.
- Accounting for inflation; in order to make international comparisons and comparisons over time we need to compare real GDP, rather than nominal GDP
Who is Richard Easterlin ?
He argued that life satisfaction does rise with average incomes but only up to a point. Beyond that point, marginal gain in happiness declines.
What is the Easterlin paradox ?
An increase in consumption of material goods will increase happiness if basic needs aren’t met, but once these needs are met, an increase in consumption won’t increase long term happiness.
What does the Easterlin paradox concern ?
It concerns whether we are happier and more contented as our real living standards improve
What is the Relationship between Real Incomes, and Subjective Happiness?
Generally, the higher the GDP per capita, the higher the average life satisfaction score.
What is inflation ?
- Inflation is a sustained increase in the overall level of prices in an economy
- It is a measure of the cost of living
How can inflation be calculated ?
Inflation can be calculated as the percentage rate of change of prices over time
How do you calculate the inflation rate ?
- (( Change in CPI ) ÷ Previous year CPI )× 100
- Basically just percentage change
What is the UK’s target inflation rate ?
U.K.’s target inflation rate is 2%
What is disinflation ?
- Disinflation is a fall in the rate of inflation, but it is not sufficient enough to bring about deflation.
- Just a drop in the inflation rate e.g. 6% to 3%
- There is still inflation but its just less than before
What is deflation ?
Deflation is a persistent fall in the general price level of goods and services shown by a negative inflation rate e.g. -3%
Why is deflation different from disinflation ?
Deflation is a negative inflation rate whereas disinflation is a drop in the inflation rate, not necessarily negative
What is hyperinflation ?
Hyperinflation is very high inflation and usually accelerating rates of inflation
What does hyperinflation do ?
It rapidly erodes the real value of the local currency
What are the two measures of the price level in the UK ?
- Relative price index (RPI)
- Consumer price index (CPI)
What is the CPI ?
- The Consumer Price Index is the main measure of inflation used in the UK and the EU
- It is the price of a weighted average market basket of consumer goods and services purchased by households
- Changes in CPI track changes in prices over time
What are some of the limitations of CPI ?
- The CPI is not fully representative, it will be inaccurate for non-typical households
- Spending patterns are different; single people have different spending patterns compared to a married family
- New products are not included in the CPI
- It does not account for the regional differences in the cost of living
- Changing quality of goods and services
What is the basket of goods and services ?
A fixed set of consumer products and services whose price is evaluated on a regular basis, often monthly or annually.
What is the basket of goods and services used to track ?
It is used to track inflation in a specific market or economy
What is CPI used to index ?
CPI is used to index benefits, tax credits and public services pensions
What is RPI used to index ?
RPI is used to index government debt payments, most pay negotiations and most private sector pensions
What are the differences between RPI and CPI ?
- RPI and CPI use different methodologies for calculating averages. Mathematically, this means RPI will usually be higher than CPI.
- The CPI does not include council tax, mortgage interest payments and some other housing costs whereas RPI does
- RPI excludes top earners and those in state benefits
Why can CPI and RPI never be 100% accurate ?
- Basket not representative/ only a selection of products included and it is difficult to judge a typical household
- New technology enters the market and makes it difficult to calculate a change in price
- It doesn’t take into account the increasing quality of goods and services
- Shrinkflation - changing the size of products rather than the price
- Sampling errors
- Consumers may switch to relatively cheaper versions of some products meaning that the cost of living will not increase as much as CPI
Why does the RPI tend to be higher than CPI ?
- One reason is the method of calculating both indices.
- RPI uses an arithmetic mean
- CPI uses a geometric mean
What is the redistribution effect ?
Inflation redistributes income away from certain groups in the economy and towards other groups
When does the redistribution effect arise ?
It arises in situations where certain groups lose some purchasing power and become worse off, while other groups gain purchasing power and become better off
How do people who receive fixed incomes lose from inflation ?
When individuals receive an income or wage that is fixed or constant, as the general price level increases they become worse off
What kind of people receive fixed incomes ?
- Workers have wage contracts fixing their wages over a period of time
- Pensioners receive fixed pensions
- Landlords receive fixed rental income
- Individuals receive fixed welfare payments
How do people who receive income that increases less rapidly than the rate of inflation lose out ?
When individuals incomes do not keep up with a rising price level, a fall in their real incomes results and they therefore become worse off
How do holders of cash lose out from inflation ?
As the price level increases, the real value or purchasing power of any cash held falls
How do savers lose out from inflation ?
In general, savers who receive a rate of interest on their savings lower than the rate of inflation suffer a fall in the real value (or purchasing power) of their savings.
How do lenders lose out from inflation ?
In general, lending at a lower interest rate than the rate of inflation makes the lender worse off at the end of the loan period