2.4- National income

Question 1

What is the circular flow of income? DRAW

Answer 1

firms give:
- goods and services
-wages, rents and dividends
to households

households give:
-consumer spending
-factors of production
to Firms

Question 2

How do firms and households interact and exchange resources in an economy?

Answer 2

• Households supply firms with the factors of production, such as land and labour and in return they receive wages, rents and profit.
  -Firms supply goods and services to households and consumers pay for these.

Question 3

When does the economy reach a state of equilibrium?

Answer 3

When withdrawals= the rate of injections.

Question 4

What is the distinction between income and wealth?

Answer 4

income is a flow of money that goes to the factors of production. For example, wages, welfare payments, profits, dividends, rents and interest are forms of income.

Wealth is a stock of assets, such as savings, shares, property, bonds and pension schemes.

Question 5

What is an injection?

Answer 5

An injection into the circular flow of income is money which enters the economy.

Question 6

What are the 3 injections?

Answer 6

• gov spending
  -exports
  -investment

Question 7

What is a withdrawal?

Answer 7

a withdrawal from the circular flow of income is money which leaves the economy.

Question 8

What are the 3 withdrawals?

Answer 8

• taxation
  -imports
  -saving

Question 9

What will happen to national output if there is net injections/ withdrawals?

Answer 9

injections- increase in output
withdrawals- decrease in output.

Question 10

What point on an AS and AD diagram is the state of equilibrium when withdrawals= injections?

Answer 10

AD=AS

Question 11

What happens to the price level and real national output if AS shifts?

Answer 11

• An outward shift due to the economy becoming more productive will mean the average price level decreases and increases national output.
  -The economy is no longer producing at the long run equilibrium, now producing beyond the LRAS.

Question 12

What happens to price level and real national output if AD shifts?

Answer 12

• If there is a recession AD might shift inwards.
  -Causes price level to fall, and national output to fall.

Question 13

What is the multiplier ratio?

Answer 13

The rise in income : the initial rise in AD.
The number of times a rise in national income is larger than the rise in the initial injection of AD, which led to the rise in national income.

Question 14

What is the multiplier process?

Answer 14

-New demand in an economy.
-Leads to injection of more income into circular flow of income.
-leads to economic growth.
-leads to more jobs being creates higher average incomes, more spending and more income created.

Question 15

What is the multiplier process?

Answer 15

-New demand in an economy.
-Leads to injection of more income into circular flow of income.
-leads to economic growth.
-leads to more jobs being creates higher average incomes, more spending and more income created.

Question 16

What is the definition of the multiplier effect?

Answer 16

How an initial increase in AD leads to an even bigger increase in national income.

Question 17

What is marginal propensity to consumer? (MPC)

Answer 17

The proportion of each additional pound of household income that is spent.
The higher the MPC, the bigger the multiplier.

Question 18

How can the government influence the MPC?

Answer 18

• changing the rate of direct tax.
• less tax means consumers have more disposable income- their MPC might increase.

Question 19

What is marginal propensity to save?

Answer 19

The proportion of a pay rise that a consumer spends rather than saves.
MPS+MPC=1
If consumers save more than they spend, size of multiplier will be small.

Question 20

What is marginal propensity to tax?

Answer 20

The proportion of each pound taxed by the government.
The higher the tax, the less disposable income and the smaller the size of multiplier.

Question 21

What is marginal propensity to import?

Answer 21

The amount imports increase or decrease with each unit rise or decline in disposable income.
If consumers spend income on imports rather than domestic services, reduces size of multiplier as it is a withdrawal.

Question 22

What are the 2 formulas used to calculate the multiplier?

Answer 22

1/ (1-MPC)
1/MPW

MPW= MPS +MPT+MPM

Question 23

How does the Keynesian curve show the significance of the multiplier to shifts in AD?

Answer 23

• A small increase in AD will lead to a large increase in national income.
  -If AS is inelastic (vertical part on curve) the multiplier effect is likely to be smaller than its potential. If AD increases, prices will increase.
• If an economy has lots of spare capacity, extra output can be produced quickly and at little extra cost (horizontal section). AD leads to a large multiplier effect.

Question 24

What is a reverse multiplier?

Answer 24

A withdrawal of income from the circular flow of income could lead to an even larger decrease in income for the economy.