3.3 Macroeconomic Objectives (growth, unemployment, inflation) Flashcards
low and stable inflation and fiscal policy
- contractionary taxation policies
- promote price stability
- closes inflationary gap by reducing AD
Low unemployment and fiscal policy
- depends on type of unemployment
- fiscal policy best for cyclical unemployment
- expansionary fiscal policy i.e reduction in taxes or increased government spending
- increase AD and demand for labour
Promoting stable and long term economic growth through fiscal policy
- higher tax rates reduce incentives
- lower taxes attract FDI
- taxes must be high enough for government spending
fiscal policy reduce business cycle fluctuations
- reduce impacts of a recession by running a budget deficit
- budget deficit can be repaid during a boom when tax revenue is higher and less spending is required
Fiscal policy and equitable income distribution
- high marginal tax rates in a progressive tax system
- wealth taxes to fund the provision of essential services
- transfer payments like unemployment benefits, childcare grants, social housing or state pensions
Fiscal policy to promote external balance
- refers to nations exports being equal to imports ( x = m )
- indirect taxes on imports and subsidized exports
- external balance essential for long term growth and development
consequences of issues with external balance
- x > m = external disequilibrium leading to inflationary pressures
- M>X economy will face net withdrawals from circular flow of income
- overly protectionist measures likely to cause trade retaliation
issue with fiscal policy and unemployment
- best suited to deal with cyclical unemployment
- may not deal with root causes like incentives and wage acceptance
expansionary fiscal policy definition
demand-side policies used to stimulate the economy during an economic recession
benefits of expansionary fiscal policy
- boosts consumption and investment
- Keynesian economists believe there is a need for direct intervention through demand-side policies
- Keynesian believe necessary to stimulate growth to the full employment level of output
monetarist critiques of demand-side fiscal policy
- ineffective in the long run as they have no real effect on national output
- economy restores itself to full employment in the long run
- supply-side policies that reduce natural unemployment are more effective
- emphasize the importance of low inflation
contractionary fiscal policy
- used to reduce level of economuc activity by decreasing government spending or limiting consumption and investment.
- used to reduce inflationary pressures during booms
Keynesian multiplier
- Shown that any increase in the value of injections in the circular flow of income leads to a proportionally larger increase in aggregate demand
- knock on spending effects
- value of KM reduced by leakages and withdrawls
negative multiplier effect
- initial leakage leads to a greater than proportional fall in final real GDP
determinants of the size of the multiplier effect
- marginal propensity to consume
- marginal propensity to import
- marginal propensity to save
- marginal propensity to tax
marginal propensity to consume
- measures the proportion of an increase in household income that is spent on goods and services rather than saved
- MPC = Δ C ÷ ΔY
marginal propensity to import
- measures the proportion of an increase in household income that is spent on imports
- MPM = Δ M ÷ ΔY
Marginal propensity to save
- measure the proportion of an increase in household income that is saved rather than spent
- MPS = Δ S ÷ ΔY
Marginal propensity to tax
- proportion of each extra dollar of income that is taxed
- dependant on marginal tax rate paid by household
- MPT = Δ T ÷ ΔY
Formulas for Keynesian multiplier
- 1 ÷ ( 1 - MPC)
2. 1 ÷ ( MPS + MPT + MPM)
Marginal propensity to withdraw
sum of MPS + MPT + MPM
employment
- the use of the factors of production in the production process
- usually refers to labour resources
labour suppluy
number of people willing and able to work at the prevailing equilibrium wage rate
unemployment definition
situation when people are willing and able to work and are actively seeking employment but are unable to find work
reasons to try for low unemployment
- complements economic growth
- increased tax revenue
- reduces burden on government
- reduces brain drain
- improves quality of life
unemployment rate
- percentage of unemployed work force per time period
- (number of unemployed people/ labour force) x 100
- labour force = employed and unemployed people
claimant count
people elligible to claim unemployment benefits, alternative method of determining unemployment in an economy
criticism of claimant count
does not necessarily reflect full level of unemploymeny due to hesitancy in claiming and false claims
difficulties in measuring unemployment
- hidden unemployment
- voluntary unemployment
- underemployment
- disparities
hidden unemplpoyment
- people not considered due to choice of measurement
- discouraged workers who have stopped searching for jobs
voluntary unemployment
- caretakers and early retirees
underemployment
- inadequately employed
- underutilization of the labour force
- involuntary part-time workers
- skills mismatch
- limits productivity growth and intl. competitiveness
disparities and unemployment
- unemployment rate does not reflect regional, ethnic, gender, age and disability unemployment
causes of unemployment
- cyclical unemployment
- structural unemployment
- seasonal unemployment
- frictional unemployment
cyclical unemployment
- results form a downturn in the business cycle
- caused by a lack of aggregate demand
- demand defficient unemployment
- closed by reducing a deflationary gap
sturtcural unemployment
- demand for goods and services in a particular industry continuously falls, thereby reducing the demand for labour
- skills mismatch
- changes in geographical location in industries
- labour market rigidities
- physical capital replacing human capital
- occupational or geographical immobility
- interdependence and globalisation
seasonal unemployment
- caused by regular and periodical changes in demand for certain goods and services
- particularly harmful to low icnome households
- solutions = diversify away from seasonal industries + government training
frictional unemployment
- AKA transitional unemployment
- labour market unable to immediately match demand with supply of appropriate jobs
- unavoidable
- healthy sign as workers switch to more fulfilling and better paying jobs
- constant creation and destruction of jobs
natural unemployment
- equillibrium rate of unemployment determined by calculating the rate of unemployment when the labour market is in equilibrium
- everyone who wants to work at prevailing wage rate is employed
- no involuntary unemployment
- sum of structural, seasonal and frictional unemployment
how to address natural unemployment
- inevitable
- address components
- higher real wage rate
- correct labour market imperfections
costs of unemployment
- personal
- social
- economic
personal costs of unemployment
- stress, suicide and depression
- self esteem
- poverty, hunger, health
- family breakdowns
social costs of unemployment
- crime and antisocial behaviour
- indebtedness
- social deprivation (community breakdown)
economic costs of unemployment
- lower GDP
- loss of tax revenue
- burden on governments
- loss of individual incomes (multiplier effect means knock off effects to economy as a whole)
- greater income distribution disparities
inflation
sustained rate of increase in the general price level in an economy over a general period of time
price stability definition
low and stable rate of inflation
consumer price index
- weighted index of average consumer prices of good and services over time
- base year with assigned value of 100 is a starting point
- measured on a monthly basis but reported for a 12 month period
steps in calculating CPI
- Base year assigner (value of 100)
- collect price data ( sample of prices in an average household basket of goods)
- assign items a statistical weighting based on relative importance determined by value spent on or quantities purchased or % of income spent
Limitations of the CPI in measuring inflation
- atypical households
- regional and international disparities
- different income earners
- changes in product quality
- changing consumption patterns
- time lags
- volume or value of quantities purchased
causes of inflation
- Keynes: increase in aggregate demand and must be controlled by contractionary fiscal policy
- Monetarist: Need to control money supply
- Demand pull vs cost push
demand-pull inflation
- inflation triggered by higher levels of aggregate demand, driving up GPL
- minimal effect if there is spare capacity and AS is price elastic
cost-push inflation
- inflation caused by higher costs of production, shifting AS curve left and forcing up general price leve;s
costs of high inflation rate
R - redistributive effects E- export competitiveness U - uncertainty S - savings E - economic growth R - resource allocation
redistributive effects of inflation
- effects of inflation not evenly distributed amongst stakeholders
- regressive impact on low income households
- those with fixed incomes suffer
inflation effects on savings
- savers lose due to high inflation assuming no interest change (money saved has lower purchasing power)
- particularly harmful to elderly who rely on interest from pensions
- borrowers can gain as money needed to be repaid is less value than orginal loan - creditors lose out
inflation and damage to export competitiveness
- exports become less price competitive
- imports become cheaper
- sent eternal balance into a deficit
inflation impact on economic gwoth
- combination of uncertainty and lower ecoected rates of return on investment
- long run, lower investment diminishes productive capacity and productive potential
inflation and inefficient resource allocation
- higher prices distort resource location
- enter into a wage price spiral (higher prices = higher waged demanded = higher prices)
- more time spend finding deals ( shoe leather costs)
inflation control
inflation that is controlled and stable leads to certainty and can be a sign of increased growth, erratic inflation decreases confidence and can lead to limited economic growth including decreased FDI
deflation
- persistent fall in general price level in an economy over time
- caused by continued fall in aggregate demand and/or an increase in SRAS
benign deflation
- caused by a shift in the SRAS / LRAS curve
- positive as the economy is able to produce more
- causes a boost in output while prices decrease
malign deflation
- harmful to the economy
- caused by fall in aggregate demand
- characterized by a recession and high unemployment
disinflation
- fall in the general rate of inflation
- prices rising at a slower pace
- can lead to deflation if not controlled
- AD slowed down
costs of deflation
R - redistributive effects U - uncertainty C- consumption (deferred) U - unemployment (cyclical) P - policy ineffectiveness I - inefficient resource allocation D - debt (increase in real value)
redistributive effects of deflation
- fall in the value of asstes and household wealth, incl shares = reduced wealth of asset owners and shareholders
- real value of debt increases = redistribution from debtors to creditors
policy ineffectiveness and deflation
monetary policy ineffective as interest rates are already low
unemployment vs. inflation
- decrease unemployment through govt spending = increase in inflation (SR)
- both macro policy objectives
- prioritization depends on context
- misery index = sum of unemployment and inflation
