2.1 Measures of Economic Performance Flashcards
What is GDP
value of all newly produced final goods and services produced in an economy within a given time period
How is economic growth measured by rates
It is measured by rates of change of real GDP
What is a real value
a value without the effect of inflation
What is a nominal value
A value with the effect of inflation
What is the difference between total and per capital values
total is the total some
per capita is total/population
How can real and nominal values be described as
Real values can be described as the volume of national income i.e. the size of the basket of goods
nominal values represent the value of the national income i.e. the monetary cost of this basket of goods
What is GNI (Gross National Income)
GDP + net overseas intrest payments/ dividends
adds what a country earns from overseas investments and subtracts what foreigners earn in a country and send back home from the GDP
How do we make comparisons about growth over time and between countries
Data is compared to other countries to put figures in context while using real,per capita figure
What is Purchasing Power Parities (PPP)
the measurement of prices in different countries that uses the prices of specific goods to compare the absolute purchasing power of the countries’ currencies.
e.g. the exchange rate needed for say $100 to buy the same quantity of products in each country
What is PPP useful for
Comparing countries as it takes into account the cost of living
For example, in Kenya £2 a day in their own currency is enough to survive on, whilst it isn’t in the UK.
What are some of the problems of using GDP to compare standard of living
- inaccuracy of data; inaccuracy of collecting data, diifferent methods, black market
- Inequality; growth in gdp doesnt equal higher living standards
- Quality of g/s; may cause lower price
- different currencies
- Spending: some types of expenditure such as defence doesn’t increase standard of living but will increase GDP
What is the Easterlin Paradox
if you are poor and your income increases, you will be happier, but higher levels of income aren’t associated with increases in happiness
How does income and happiness depend on the people around you
if you are the richest out of everyone you associate yourself with, then you will be happier than someone who has the exact same income but is the poorest out of everyone they associate with
What is inflation
general progressive increase in prices of goods and services in an economy
What is deflation
decrease in the general price level of goods and services
What is disinflation
decrease in the rate of inflation – a slowdown in the rate of increase of the general price level of goods and services in a nation’s gross domestic product over time
What measure is used in the UK to measure inflation
Consumer Price Index (CPI)
How is the CPI calculated
- A representative shopping basket is created each year
- government officials collect 120,000 separate price quotations in 141 locations of around 600 products
- average household spending is worked out through the Living Costs and Food Survey, where around 5,500 families keep diaries of what they spend over a fortnight.
- the weighted price changes are then totalled to calculate the inflation rate
What are the limitations of the CPI
- not fully representative
- doesnt include housing
- overstimation as improved quality of goods led to price increase
- Hard to respond to new products
How is the RPI different to the CPI
● RPI includes housing costs such as mortgage and interest payments and council tax
● CPI takes into account the fact that when prices rise people will switch to product that has gone up by less. Therefore, the CPI is generally lower than the RPI.
● RPI excludes the top 4% of income earners and low income pensioners as they are not ‘average’ households whilst CPI covers all households and all incomes.
What are the 3 main causes of inflation
- cost push inflation
-
demand pull inflation
- growth of money inflation
Draw a diagram (using AD-AS) for the growth of an economy
- expansion of AS and AD
- Leads to expansion of LAS
What is cost push inflation and draw a diagram
When businesses find their costs have risen (decrease in AS) , they will put up prices to maintain their profit margins
caused by anything that reduces AS e.g. increase in tax, depreciation in exchange rate, rising wages
What is demand pull inflation
caused by an unsustainable rate of increase in aggregate demand (AD) leading to a positive output gap (actual GDP> potential)
when the economy is close to full capacity
What is growth of money supply inflation
there being too much money in the economy. If people have access to money they will want to spend it but if there is no increase in the amount of goods and services supplied, then prices will have to rise.
What is the effect of inflation on consumers
- Less to spend = fall in living standards
- Those in debt will be able to pay it off cheaper, but inverse for those who are owed. Consumers who have saved will see their money is worth less
- Psychological effects on consumers of price rising
What is the effect of inflation on firms
- If inflation in Britain is higher than other countries, British goods will be more expensive and less competitive
- Have to calculate new prices
What is the effect of inflation on governments
- If government fails to change excise taxes in line with inflation then government real revenue will fall
- However, if they fail to change personal income tax allowances (the amount a worker can earn tax free) then real government income will increase and taxpayers will have less money
How does inflation effect workers
- If workers do not recieve yearly pay rises of inflation
How can some effects of inflation be anticipated
indecation - wages increased in line with predicted inflation
however this can make it difficult to control inflation by the government
What are the demand-side causes of inflation
-
Deep fall in AD causing a persistent recession / depression
- Large negative output gap – i.e. high level of spare capacity
What are the supply-side causes of inflation
- Improved productivity
- Technological advances
-
Significant fall in wage rates
- High exchange rate causing import prices to fall
What are the consequences of price deflation
- Holding back on consumer spending
- real value of debt rises with deflation
- The real cost of borrowing increases: Real interest rates will rise if nominal rates of interest do not fall in line with prices.
- Lower profit margin so reduced revenue
- Deflation can make exporters more competitive
What are the economic policies to avoid deflation
Low interest rates and quantitative easing
-
Other measures to stimulate aggregate demand
- Attempts to lower the value of the exchange rate (perhaps via central bank intervention to sell their currency in the market)
- Higher taxes on savings to encourage consumption
What is financial crowding out
If the government increases it’s spending – say through selling bonds – The demand for money will increase, which, ceteris paribus, raises interest rates.
At higher interest rates, both consumer spending and investment spending are likely to fall.
The aggregate effect on the economy is that financial resources are diverted from private firms to be used by the public sector.
How does financial crowding out lead to a fall in GDP
Initially, via a multiplier effect, national income increases, but as a result of the government selling securities in the financial markets, the demand for scarce loanable funds increases.
This drives up interest rates, which causes a contraction in the demand by the
private sector for investment goods (capital) as well as reducing the demand for
consumer goods. This, in turn, leads to a fall in GDP.
