2.3 Macroeconomic objectives Flashcards by Charlotte Favre

What is unemployment

someone who is

willing and able to work
actively seeking for work
unable to find work

and

of working age (15 - 65)

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What is the unemployment rate formula

number of unemployed/total labour force

x 100

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What is the labour force

consists of everybody in work plus all people who are of working age but our of work and actively seeking employment

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What factors does the labour force make up

employed + self employed + unemployed

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What are four errors that make s difficult to measure unemployment

Hidden unemployment

Discouraged workers

underemployment

regional, ethnic, age and gender disparities

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What are difficulties in measuring unemployment

the existence of hidden unemployment (those who have given up searching for a job)
part time staff who are not working full time
workers who are overqualified

the existence of underemployment

it is only an average and does not reflect who it is worse for

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What are the consequences of unemployment

Loss of GDP

Loss of tax revenuee

Increased cost of unemployment benefits

loss of income for individuals

greater disparities in the distribution of income

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What are the four types of unemployment

Frictional
Seasonal
Cyclical
Structural

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What is frictional unemployment

short term or temporary, caused by moving between jobs, it is a natural unemployment and not vary alarming

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What are possible policies to deal with frictional unemployment

lower unemployment benefits

improve the flow of information between employers and people looking for jobs

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What is seasonal unemployment

some industries employ seasonal, constructing, tourism, agriculture

natural, not alarming

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possible policies for seasonal unemployment

encourage people to take different jobs

lower unemployment benefits

improve flow of information between potential employers and job seekers

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What is structural unemployment

caused by changes in the structure of the labour market or changes in the structure of the economy

changes in the demand for particular new skills - new technologies
changes in the geographical location of industries - relocating overseas
labour market rigidities - minimum wage, powerful trade unions, laws protecting workforce unwillingness of workers to accept lower wage rates

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Draw a diagram to demonstrate structural unemployment

cheaper costs of labor, increasing automation in developed countries, demand for manufacturing workers decreases

(wage for manufacturing workers) wage goes down
Quantity of manufacturing workers goes down

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Possible interventionist policies for structural unemployment

improve educational systems to train people to be more occupationally flexible
improve occupational mobility by spending on adult retraining programs so that structurally unemployed can gain new skills to match available jobs
giving subsidies to provide trainers or to relocate
support apprenticeship programs for workers to acquire skills

however,

high opportunity cost
only effective in the long run

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What are market based policies that could deal with structural unemployment

reduce unemployment benefits to encourage workers to accept available jobs even if wages are lower
increasing labour market flexibility through labour market deregulation - reducing restrictions for businesses to hire and fire workers, removing minimum wage laws, reducing power of trade unions and increasing flexibility in the labour market, will encourage businesses to take on mroe workers

however,

disempower workers and empower businesses - can lead to exploitation of workers and worsening of working conditions
can lead to growing inequity in the economy

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What are natural types of unemployment

Frictional, seasonal and structural

they exist even when the labour market is in equilibrium - exists even when the economy is at full employment on LRAS and producing full employment level of output

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What is cyclical unemployment

also known as demand deficient

caused by a fall in AD fro G and S in the economy and hence a fall in aggregate demand for labour (AD) as a result of firms cutting back on production

occurs when economic growth slows frown or when economy experiences recession

occurs because businesses are mroe likely to fire workers in times of recession rather than cut their wages, because of downward inflexibility of wages due to minimum wage laws or power trade unions

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What is stagflation

when an economy experiences both high unemployment and high inflation

can be caused by a fall in short run aggregate supply

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What are solutions to cyclical unemployment

use fiscal pooches to increase AD - lower taxes and increase government spending
use monetary policy to increase AD - lower interest rates and increase money supply

however

high opportunity cost and worsen government budget deficit
possible crowding out, government might borrow to finance budget deficit
there is a time lag between implementing policy and seeing the unemployment fall
could be inflationary
in practice it is no alway easy to identify types of unemployment

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What is disequilibrium unemployment

occurs when there is a fall in demand for labour in the economy, but sticky wages prevent the market from reaching equilibrium

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What are the economic consequences of unemployment

loss of GDP

loss of tax revenue

increased cost of unemployment benefits

loss of income for individuals

greater disparities in the distribution of income

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Possible personal and social consequences of unemployment

increased crime rates

increased stress levels

increased indebtedness

homelessness

family breakdown

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What is inflation

a sustained increase in the average price level of an economy

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What is deflation

a negative rate of inflation when the average price level in an economy decreases

there is both good and bad deflation

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What is disinflation

the slowing down of inflation, prices are still rising but at a slower pace

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How is inflation and deflation measured

Using a consumer price index (CPI) - a weighted index that measures the changes in prices of a basket of goods and services consumed by the average household

items that take up a larger proportion of income are given a higher weight

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What are the challenges involved in measuring/calculating the inflation rate

differences in income distribution (lower incomes spend a larger proportion of income)

changes in consumption patterns (typical goods need to be reviewed or removed at times)

selection of goods (different typical household goods)

changes in quality over time (inflation is only concerned with changes in prices, but there is also quality)

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What is a producer price index PPI

focuses more on producers

measures the changes in the prices of factors of production

may be useful in predicting futuree inflation because if prices of Fops rise, cost of production will rise, higher costs

the basket for measuring PPI may include prices of raw materials like crude oil and copper, prices of components ad semi finished goods sold to manufacturers

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What are the consequences of inflation

greater uncertainty ( affects investors negatively, causes anxiety for workers and employers)
redistributive effects (hits lower income individuals and households harder than higher income individuals and households, benefits borrowers/debtors vs harm savers)
loss of purchasing power (same amount of income can now buy fewer G and S)
less savings (uncertainty + loss of purchasing power = less likely to save)
damage to export competitiveness

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What is a stable inflation rate

2 - 4%

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What is good deflation

caused by improvements in technology and more efficient methods of production and increased productivity, increases in SRAS and LRAS

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What is bad deflation

caused by falls in AD

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What are the possible consequences of deflation

high levels of cyclical unemployment - delaying purchases , deferred consumption, lower consumption spending and lower AD, lots of unsold stock, business lay off workers

bankruptcies - lots of businesses may shut down due to decreases AD and making huge losses or not being able to pay back their debts - decreased business confidence and lower investment

effects on debtors - homeowners who have mortgages will see the value of their houses fall relative to the value of their debts - decreased consumer confidence

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How are demand pull inflation caused

by changes in the determinants of AD, resulting in an increase in AD

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What is demand pull inflation

inflation caused by an increase in AD

potentially in C I G or (X - M)

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What is the neoclassical view of inflation

an increase in AD will always raise the average price level and cause demand pull inflation

because neoclassical economists believe that the economy will adjust itself to reach full employment of output

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What do the Keynesian believe of demand pull inflation

they only believe it will happen if the economy is at full employment

not all increases in AD will cause demand pull inflation

it is only when the economy is at full employment producing Yfe will any further increases in AD will cause demand pull inflation

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What policies can deal with demand pull inflation

contractionary/ deflationary demand side policies - since it is caused by increases in AD government will use policies to lower AD

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What two sorts of policies could deal with demand pull inflation

contractionary monetary policy - central bank will raise interest rates and reduce the money supply

deflationary fiscal policy - will raise direct and indirect taxes and lower government spending (G)

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What are the disadvantages of the policies that deal with demand pull inflation

raising taxes and cutting government spending is very politically unpopular - may upset voting population

government budget cuts are not easy because of the governments commitments to the public

long time lags involved in making changes to fiscal policy, making government budget cuts and seeing effects fo these cuts on inflation

higher interest rates will hurt borrows and people who have taken out loans and mortgages

deflationary policies may deal with inflation, but cause higher unemployment and slow down economic growth

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What policy is often deemed more effective for managing AD

nowadays monetary police is viewed as more effect in managing AD and fighting inflation this is because central banks are often independent of the government and do not need to worry about being re-elected

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What is cost push inflation

inflation caused by an increase in the costs of factors of production and results in a decrease in SRAS

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What causes cost push inflation

increases in cost of labour (wage push inflation)

increases in costs of imported capital and raw materials

fall in the value of a country currency as imports become more expensive

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Draw demand pull inflation

look kognity

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draw cost push inflation

look kognity

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What happens during an inflationary spiral

demand pull inflation leads to a higher average price level, which means the costs of production will rise too as workers demand higher wages

these rises in costs or production will then cause cost push inflation causing average price level to rise even further (SRAS - SRAS1)

now with higher wages, workers will spend more causing even more demand pull inflation

cycle continues

govnermnet usually needs to interfers

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What policies deal with cost push inflation

supply side policies boost productivity of Fops and increase an economy productive capacity

negotiations with labour unions to match higher wages with increased productivity and hence control inflationary wage pressures

subsidizing industries to moderate increases in costs of production

revaluation of country currency to make import cheaper

however

the effects of the supply side policies are usually long term and do not appear in the short run

subsidizing industries comes at a hug opportunity cost as this is money that could be spent elsewhere

revaluation of currency will hurt export competitiveness

in practice it is not always easy to identify or isolate the exact cause of inflation and so governments will often use a combination of demand side contractionary policies as well as supply side policies

Draw an inflationary spiral

graph

What is the Phillips curve

shows the relationship between the inflation rate and the unemployment rates

two curves (SRPC) and (LRPC)

What does the Phillips curve show

there is a possible trade off between the unemployment rate and the inflation rate in the short run

What does the LRPC show

the vertical at the natural rate of inflation therefore there is no trade off between the unemployment rate and the inflation rate in the long run

What is the natural rate of unemployment

is the rate of unemployment that exists when the economy is producing at the full employment level of output (Fyfe)

What happens in the short run Phillips curve during cost push inflation

curve may shift outward, resulting in stagflation caused by a decrease in short run of aggregate supply due to factors including supply shocks

What is economic growth

an increase in real GDP over time

a growth in the size of the economy and the amount of economic activity

How is economic growth calculated

real GDP2 - real GDP1/ reaal GDP

x 100

How would economic growth due to an increase in actual ouptut be shown on a PPC

Economic growth due to an increase in actual output caused by a decrease in employment, increase in productive efficiency

point B will move to a point closer to the PPC, due to actual output

How would economic growth due to potential output be shown on a PPC

Economic growth as an increase in potential ouput/productive capacity caused by an increase in quantity and quality of resources, PPC shifts outwards, the entire curve

How is short run economic growth caused

increase in AD
AD outwards to AD1
y to Y1

or a positive supply shock (increase in SRAS)
SRAS to SRAS1, real GDP increases on AD

Draw short run aggregate growth

look Kognity

draw long run economic growth

look kognity

Long run economic growth

caused by a potential output or productive capacity of an economy

When PPC shifts outwards

LRAS outwards to LRAS1

what is the importance of investment in capital

in capital physical capital (building new machinery, roads), human capital (education health) natural capital (conservation parks)

this leads to increased productivity w

leads to an increase in the economy’s productive capacity and potential output in the future

leads to increase in quantity and quality of resources, leading to economic growth

What are the causes of economic growth

reduction of unemployment
increase in productive efficiency
increase in the quality and or the quality of resources

investment can trigger all three causes of economic growth

What is the impact of economic growth on living standards

improves the material standards of living, makes life easier and more pleasurable

government collects more tax revenue - spend more on public and merit goods improves standard of living

however

economic growth may lead to more stress, more leisure time, more family breakdowns, increased inequality in the distribution of income, more pollution, more crime, more greed, increased suicide rates - while standard of living may’ve improved, quality of life may deteriorate

Impacts of economic growth on unemployment

will create new job opportunities whether it is demand or supply driven, helps lower cyclical unemployment

however

economic growth can lead to the decline and collapse of certain industries due to improvements in technology or increased trade with the outside world, could create structural unemployment

What is the impact of economic growth on inflation

if economic growth is driven by increases in SRAS and or LRAS it will exert a downward pressure on the average price level due to expansions of the economy’s productive capacity and potential output

however

if the economic growth is short term and only driven by increases in AD, it may be inflationary if the economy is operating at full employment or close to full employment - may lead to demand pull inflation

How does economic growth impact the distribution of income

economic growth leads to a rise in peoples income - the government collects more in tax and hence can spend more on public and merit goods and on bridging the gap between the rich and the poor

however

sometimes the benefits of growth are only reaped by the rich and higher income households, especially if the governments tax policies favor the rich while the poor barely benefit from this economic growth - may actually worse the distribution of income and wealth

How does economic growth impact the current account of the balance of payments

if economic growth is driven by increase in exports - this will improve the current account of the BOP

if economic growth leads to increase in productivity and efficiency of country’s export industries - this will improve the current account of the BOP

however

economic growth often also leads to increased demand for imports which may worsen the current account of the BOP

How can economic growth impact sustainability

is all about producing and consuming more - depletion of non renewable resources, increased greenhouse gas emissions - which can be a threat to sustainability

this threat may be diminished if wealthier and more educated citizens stat demanding policies and developing technologies that promote sustainability

What is equity vs equality

equity - more fairness in the distribution of income

equality - where everyone receives the same income - may destroy incentives

Why do market systems not always result in equitable distribution of cinema

due to unequal ownership of the factors of production, individuals have different types of incomes based on what they own

What is the Lorenz curve

a curve that shows the line of absolute equality - shows how far away a country is, the further away, the more unequal distribution of income

cumulative percentage of total income vs the cumulative percentage of total population

What s the Gini Coefficient

derived from the Lorenz curve

it is the country’s area over the total

What will the value of the Gini Coefficient always be

between 0 and 1

0 shows absolute equality and 1 shows the absolute inequality

the higher the Gini coeffienct/index, the more unequal the distribution of income

Absolute poverty vs relative poverty

Absolute poverty - having no access to the basic necessities to sustain life

relative poverty - can afford basic necessities but their living standards are well below the average in an economy

What are the possible causes of poverty

low incomes (lack of ownership of the factors of production)
unemployment
lack of human capital

What are the consequences of poverty

low living standards (cannot access what they want)

lack of access to healthcare and education

increased crime rates and conflict and possible wars/revolts

What are direct taxes

taxes on incomes of FOPs (wages, interest, profit and rent) or wealth

they may be used as a mechanism to redistribute income to promote equity

What are indirect taxes

taxes on the expenditure on Goods and services e.g sales tax, VAT, excise duties

What are progressive taxes

a very common way to redistribute income from higher income earners to lower income earners

as income rises, a higher promotion (%) is paid in taxes

How do you calculate average rate of tax

Average tax rate = total tax paid/ total income x 100

How to calculate marginal tax rate

change in total tax paid/ total income x 100

What does progressive taxes mean about income

as income increases, the percentage paid in taxes increases

What is proportional taxation

regardless of your level of income, as the tax rate is fixed/constant, ie.e, taxes are fixed, flat tax rate

What Is a regressive taxation

as income Increases, percentage paid in taxes decreases, taxes fall heavier on low income earners eg, vat, GST, Sales taxes

What taxes help redistribute income

progressive and proportional taxes

however, they also create disincentives to work hard and to harm efficiency n economic growth

How can government expenditure promote equity

direct provision

or subsidization

of socially desirable G and S like healthcare services, education, infrastructure

What are transfer payments

can promote equity,

payments made to low income individuals without any corresponding exchange on change in output

exampels

old age pensions
unemployment benefits
child allowances

What are government policies to promote equity

taxation
government expenditure

transfer payments

How can taxation promote equity

an effective government taxation policy needs to be equitable, economic, convenient and certain

it provides necessary funds for government expenditure

can be a drain on tax payers and can cause disincentives to work

Impacts of government expenditure

costly to tax payers
can hinder economic efficiency - reliance
entails an opportunity cost

Impacts of transfer payments

costly to tax payers
can encourage laziness among work force
entails an opportunity cost

What is inflation

a persistent increase in the average price level in the economy, usually measured by the consumer price index

What are the costs of inflation

Loss of purchasing power - peoples wages and incomes is worth less value, same nominal amount but they can purchase less

Effect on interest rates - interest rates increase due to government and banks, banks will lose money at high rates of inflation because the money is worth less

Creates uncertainty - business and consumer confidence goes down, people dont want to spend

Explain three costs of inflation

kognity essy

What is inflation

a persistent increase in the average price level in an economy, usually measured by the consumer price index

What is deflation

A persistent decrease in the average price level in the economy, usually measured by the consumer price index

What is disinflation

a fall int eh rate of inflation

eg 5 to 4%

What is the target inflation

around 2%

What is good deflation

when aggregate supply increases because of improvements in productivity. Output increases and unemployment falls

What is bad deflation

When aggregate demand decreases, output decreases and unemployment rises

Draw a diagram for falling AD (bad deflation

AD decreases to AD1 on theLRAs curve

Diagram for lower costs of production (good deflation)

SRAS1 shifts outwards to SRAS2 on the AD curve, real GDP increases

What are the costs of deflation

unemployment

effect on investment

costs to debtors

What is producer price index

measures the price of factor inputs
measures what sellers receive and not what consumers pay

taxes, subsidies, distribution costs, retailers profits not accounted for

What is demand pull inflation

an increase in AD leads to an increase in average rice level

What is cost push inflation

as costs rise SRAS will shift inwards casing an increase in the average price level

Diagram of demand pull inflation

AD shifts outwards to AD2, increasing the average price level and real output

Diagram of cost push inflation

SRAS1 shifts inwards to SRAS2, prices increase and real output decreases

What happens in an inflationary spiral

AD1 shifts outwards, raising prices and real output, SRAS1 will shift inwards to reach equilibrium Y1 but prices will increase to P3, then AD2 will shift outwards to AD3

WHAt is demand pull and cost push

demand pull and cost push inflation work together to cause an inflationary spiral . If AD increases causing inflation, wages will also increase causing an inwards shift in SRAS. As a result higher wages will lead to an increase in consumer spending causing a further increase in AD.

Inflation due to monetary growth

increasing the more supply will lead to an increase in AD causing inflation

What do the monetarists argue abotu inflation

that it is caused by excessive growth of the money supply. The money supply should only increase by the same amount as the increase in real national output. If the money supply increases by 5% and the increase in real national output is only 3% then there will be too much money chasing fewer goods causing average price levels to rise

How can you decrease the demand pull inflation

deflationary/contractionary monetary policy

deflationary/contractionary fiscal policy

How can you decrease cost push inflation

Demand side policies can increase unemployment

supply side policies more effective

Explain the main causes of inflation (10 marks)

plan

Evaluate the extent to which demand side policies are effective in reducing inflation

plan

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2.3 Macroeconomic objectives Flashcards

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