4.2.3 Economic Performance Flashcards
Define Economic Growth.
-Increase in the real value of goods and services produced as measured by the annual % change in real GDP
- Also defined as a long-run increase in a country’s productive capacity/potential national output
Define the Economic Cycle.
- Recurring and fluctuating levels of real output, above and below the trend line of economic growth.
State the different stages within the Economic Cycle.
- Boom
- Recession
- Slump
- Recovery
Explain what may happen during a Boom, in the Economic Cycle.
- Caused by excess spending
- Inflation may occur
- Shortages of skilled workers
- Business costs rise with inflation
Explain what may happen during a Recession, in the Economic Cycle.
- Caused by too little spending
- GDP falls (negative GDP for 2 consecutive quarters)
- Businesses experience falling demands and profits
- Unemployment starts to rise.
Explain what may happen during a Slump, in the Economic Cycle.
- Serious and long, drawn-out recession
- Unemployment very high
- Many businesses fail to survive due to lack of demand
Explain what may happen during a Recovery, in the Economic Cycle.
- GDP rising
- Unemployment falling
- Country enjoys higher living standards
- Businesses do well
State the 2 main groups of causes of the Economic Cycle.
- Endogenous models- try to explain cyclical fluctuations in terms of events, which lie within the economic system
- Exogenous models- argue cycles can be started by outside events, i.e. demand-side or supply-side ‘shocks’ from beyond economic system.
State and explain the Benefits of Economic Growth.
- Higher Disposable Income- firms making higher profits, higher wages for workers
- Higher Employment- more demand for a country’s goods + services- increased demand for labour
- Higher profits for firms- if households earn + spend more. Firms can invest in capital, continuous profits, better for economy.
- Fiscal Dividend for Gov (increase in tax revenue)- income tax rise, VAT rises, corporation tax rises, e.t.c. Gov can fund their spending in economy more easily.
State and Explain the Costs of Economic Growth.
- Inflation- erode purchasing power, living standards unable to increase as much as they would’ve.
- Income inequality- high incomes may be contained within 1 sector. No income redistributing polices (welfare state policies), then income inequality remains.
- Environmental Costs- negative externalities in production, e.g. desertification, deforestation, e.t.c.
- Current Account Deficit- as incomes rise, sucking in of imports effect- households spend on goods + services abroad.
State and explain the Causes of a Recession.
- End of property boom- falling house prices hit wealth, led to large contraction in new house building.
- Reductions in disposable income- due to wages rising less quickly than prices, + rising unemployment
- Time-lag effects of rising interest rates in 2007-08 (done by BoE due to rising food + energy prices, + inflation being over target of 2%.)
- Sharp fall in consumer confidence- made worse by rise in unemployment- leading to rise in saving + decrease in spending.
- External events- such as recession in the UK’s major trading partners including the USA (account for 15% of UK Trade) + the Euro Area (55% of UK trade)
- Uk exports declined, hit manufacturing industry hard
Define an Output Gap + Potential Output.
- Economic measure of the difference between the actual output of ann economy + its potential output.
- Potential Output- max amount of goods/services an economy can turn out when its most effective that is, as full capacity.
Explain what a Positive Output Gap is and how it is caused.
Occurs when actual output is more than full-capacity output.
- Happens when demand is very high, and to meet demand, factories + workers operate above their most efficient capacity level- can create inflationary pressure- significant economic problem
- AD exceeds LRAS- any increase in SRAS which attempts to meet new demand likely to be unsustainable, creating inflation
Explain what a Negative Output Gap is.
- Occurs when actual output is less than what economy could produce at full capacity.
- Negative gap means there’s spare capacity in economy due to weak demand.
- AD insufficient to enable economy to reach full capacity
- Downward pressure on output, employment + price level.
Define Demand-Side Shocks.
- Shocks affecting rate of growth of demand in UK + other countries.
- Demand-side shock in 1 country can have demand + supply side effects in other countries, as of inner-relationships between countries in a globalised world.
Define Supply-Side Shocks.
- Shocks affecting costs + prices in different countries.
- Can impact directly on SRAS in economy, may also have longer term effects on LRAS.
State what can cause a Demand-Side Shock.
- Capital investment boom
- Significant rise/fall in exchange rate
- Consumer boom abroad, affects demand for our exports of goods/services
- Unexpected cut/rise in interest rates (i.e. a ‘policy shock’)- central bank may act deliberately to boost demand through lower interest rates.
State what can cause a Supply-Side Shock.
- Changes in oil prices + other energy costs
- Natural disasters, poor weather affecting supplies of agricultural products
- Major increases in the global supply of labour (e.g. the emergence of China, India, Brazil + Russia into the global economic trading system)
- Any shock leading to lower costs of production (technological improvements, lower factor prices, lower taxes, increased subsides) will lead to a rightward shift in AS.
Define Unemployment.
Number of people who are actively seeking work, but cannot find a job at a point in time.
Explain why measuring Unemployment is important.
- Unemployment represents waste of resources for economy
- High unemployment generally indicator of poor economic performance
- Economies with strong economic growth, likely t have low unemployment
Define the Level of Unemployment.
Number of people unemployed.
Define and state the equation for the Rate of Unemployment.
- Number of people unemployed as a % of the labour force.
Rate of Unemployment= (Unemployed / Labour Force) X 100. - Labour Force includes all those people who are economically active, i.e. willing + able to work
How is the Labour Force Survey (LFS) used to measure Unemployment.
- Survey of 60,000 households in UK
- Compiled by ONS (Office for National Statistics)
- Measures unemployment, employment, types of unemployment + economic inactivity
- Uses an internationally agreed erasure- comparable
Why is the Claimant Count no longer used to measure Unemployment.
- Diff to compare between countries
- Not everyone will claim, e.g. may feel embarrassed
- Not everyone can claim
- Could be subject to fraud
- Tends to be lower than LFS
Explain why low Unemployment is a Macroeconomic policy objective. (target: 3%)
- More people have incomes- rising living standards
- Leads to higher spending + higher growth rates
- Improves gov’s fiscal position (increases ax revenue + reduces spending on welfare)
State and Explain the issues with using the LFS to measure Unemployment.
- Sampling Errors- only samples a small portion out of the economically active (60,000)
- Inactive Groups- those of working age who are unwilling to work. Unemployed resource, but won’t be counted as unwilling.
- Under-Employed- counted as fully-employed, even if you have a part-time job/work more than 1 hour per week.
State and explain the consequences of Unemployment for the Economy.
- Lost Output- unemployment represents significant wastage of economic resources and likely economy will be producing within PPF. If there was full employment, economy could produce closer to PPF.
- Increased Gov Spending- on JSA + employment programmes
- Lost Tax Revenue- through lower income receipts. Also likely to be lower consumption, so VAT receipts will fall
State the consequences of Unemployment for Firms.
- Reduced demand for goods + services
- Reduced output
- Less incentive to invest as return on investment dependent on demand.
State and explain the consequences of Unemployment for the Unemployed.
- Lower living standards- unemployed have lower incomes, meaning reduced standard of living
- Financial costs- looking for work incurs a time cost, more time spent at home can increase utility bills
- De-Skilling- longer you’re unemployed, more ‘de-skilled’ you become as workplace skills aren’t developed, leads to diminishing ‘human capital’ over time.
- Reduced chances of finding work- longer you’re unemployed, less likely you’re to find a job.
Define Inflation.
The persistent increase of prices in an economy in a year.
State how inflation is measured.
- Consumer Price Index (CPI)
- Retail Price Index (RPI)
Preferred measure is CPI, measure that forms the Bank of Englands Target (2%)
Explain how the CPI is calculated.
- Family expenditure surgery carried out by the Office for National Statistics
- ‘Consumer Basket’ of most popular goods/services formed with average prices attached- represent what average family is buying in a fortnightly period.
- Prices of these goods/services are weighted based on % of income (between 0 and 1, e.g. spending 10% of income= 0.1)
- Example: petrol given high weighting as it forms large part of household expenditure +there are few direct substitutes.
- Weighted prices added to give total weighted price of basket.
- Basket updated by ONS every year to reflect changes in spending patterns.
State + Explain the Issues with CPI.
- ‘Average Family’- personal inflation rates always diff, e.g. rich households impacted by change in price of foreign holidays, whereas poor households aren’t- yet basket still risen.
- Price fluctuations of certain goods- e.g. food, energy- weighted heavily in CPI, any price change massively affects overall CPI inflation rate. (not representative of all goods) If the case look at the core CPI value.
- Doesn’t include housing costs- e.g. rent, mortgage interest payments, council tax, e.t.c. For many households mortgage payments are their biggest item of expenditure. If problem look at CPIH.
- Basket updates too slowly- once a year, C habits change much faster. CPI + inflation rates aren’t representative of current consumer habits in economy.
State the 3 causes of Inflation.
- Demand-pull
- Cost-push
- Growth of Money Supply
Explain Demand-Pull Inflation and why it occurs.
(AD shifts Right)
More pressure on existing FoPs- causes price to rise
AD= C + I + G + (X - M)
- Lower interest rates- cheaper for Consumers to borrow + spend, cheaper for firms to borrow + I, weakens exchange rate- increase X
- Lower income tax- increases disposable income + C. Decrease in Corporation Tax- increases remand profit, for I.
- Higher consumer + Business confidence- boosts C + I
- Weak exchange rate (X - M) WIDEC- reduce import expenditure, boosts export revenue
Explain Cost-Push Inflation and why it occurs.
(SRAS shifts Left)
Increase in CoPs, pass costs onto consumers via higher prices.
- Higher prices for raw materials
- Higher wages
- Higher business taxes, e.g. Corporation Tax
- Higher price of imported raw materials due to weaker exchange rate.
Explain the Costs of High Inflation.
- Lower purchasing power- wages aren’t rising in line with inflation, lead to lower living standards
- Erosion of savings- interest rates not in line with inflation, S lose value
- Price Spirals- wage price spirals- workers demand higher wages to keep up with inflation. Firms raise prices to cover increases in CoP- adds to inflation + spiral continues. Consumer price spirals- bring forward purchases, before prices continue to rise,drive up C + AD- increase demand-pull inflation.
- Fiscal Drag- workers’ wages rise in line with inflation (no better off). however in new tax bracket- pay higher tax, decrease living standards. Good for gov, bad for consumers.
Explain the Benefits of Low + Stable Inflation.
- Workers with higher wages- bargain higher wages, even if only in line with inflation
- Firms encourage to increase output- if inflation is low + sable,firms can increase prices + earn more revenue
- Reduces real value of debt- wages, profits + revenue rise- easier to pay off debt
- Improvement of gov finances- any taxes based on nominal values rise- gov collect more revenue
Define Deflation.
Persistent fall of prices in an economy in a year
- Inflation is negative
Explain Demand-Side Deflation and its effects.
(Malignant Deflation)- AD shifts left
- Comes with lower growth
- Long-term + anticipated
- Delayed spending- consumers buy when prices are even lower- C falls now- reduces AD- lower growth + higher unemployment
- Increased real value of debt- prices falling, profits + incomes fall, harder to service debt, e.g. mortgage payment doesn’t fall a long with falling incomes.
Explain Supply-Side Deflation + its effects.
(Benign)- SRAS shifts right, reduction in CoPs
- Higher economic growth
- Short-term + unanticipated- lower raw material prices, stronger exchange rate, e.t.c. (short-term factors)
- Falling prices for consumers- rising living standards, as purchasing power increases
- Falling input prices for firms- reduces CoPs, widening profit margins.
Define Disinflation.
Slowing rate of increase in general price level of goods + services in economy over time.
Define Balance of Payments.
Record of a country’s trade/transactions with the rest of the world
State the main component of the Balance of Payments
Current Account:
- Trade in Goods
- Trade in Services
- Investment income
- Transfers
Add all values to get current account- negative value=account deficit (is in UK). positive value= account surplus
Explain Trade in Goods, in respect to the BoPs.
- Measures net exports of visible goods
- UK traditionally run large deficit on trade in goods component of BoP
This is because: - Increase in demand for consumer goods, many of which have to be imported
- Decline in UK manufacturing sector as secondary production is outsourced to low wage economies
- Strong currency- makes imports of goods more affordable + exports less attractive to foreign buyers
Explain Trade in Services, in respect to BoPs.
- Measures net exports of invisible items (e.g. banking, insurance, tourism, e.t.c.)
- UK traditionally run large surplus on Trade in Services component of Current Account
This is because: - UK seen shift away from primary + secondary sectors towards tertiary sector unemployment, thus specialising in provision of services
- Specialisation meant UK more competitive in provision of these services- can offer better services at lower cost
- Example: London’s developed as one of the world’s prime financial centres + become major source of income + wealth generation in UK
Explain Invest Income, in respect to BoPs
- Generated by UK opened overseas assets
- Example: UK firms may own company abroad, or generate income from overseas investments- profits + dividends received are sent back to UK, count as a credit item of I income on current count
- However, debt items also occur as foreign investments into UK may yield profits which are sent back to country of investment origin.
Explain Transfers, in respect to BoP.
- Payments made (or received) usually by gov, to or from other countries
- Main transfer is now Foreign Aid
State and explain the Demand-Side Causes of a Current Account Deficit.
- Strong domestic growth- incomes + living standards high, people more likely to buy imports (increase import expenditure) worsen current account
- Recession overseas- incomes abroad fall- demand for our exports decreases (export revenue declines) worsen current account
- Strong exchange rate- imports cheaper, exports more expensive (SPICED)
State and explain the Supply-Side Causes of a Current Account Deficit.
More destructive than demand-side, as long-term
- Low I
- Low productivity
- High relative inflation
- Poor quality
- Depletion of resources
Explain the Consequences of a Current Account Deficit.
(X - M) negative- decreases AD + shifts left
- Shows reduction in growth
- Increase in unemployment (as less demand for labour + resources)
State + explain how we can redress the BoP, so that it is no longer in deficit.
- Controlling consumer will spending- will reduce demand for imports, may improve BoP
- Investing in supply-side of economy- improve productivity of UK firms in terms of quality + price competitiveness. Enhanced productivity measures may lead to higher exports through greater output
- Depreciation of exchange rate- make our exports more price competitive, However, will increase relative price of imports, problematic if we can’t produce alternatives domestically
- Improve overall macroeconomic conditions in UK- encourages I + domestic growth, as well as reducing reliance on imports.
Explain the arguments for whether a persistent BoP deficit matters or not.
Yes it does, because:
- Risk of Capital I- continued large BoP deficits may cause foreign investors to lose confidence + withdraw their I. Cause issues with unemployment + reduced production capacity for economy, may lead to big impact on exchange rate.
- Indicates unbalanced economy- a lot of UK growth based around consumer spending + development of service sector, with little I in manufacturing can leave economy at risk of external shocks + deep recession if there’s downturn in services sector.
No, it doesn’t because:
- Increased economic growth- If I by firms is encouraged by gov + is funded largely through increased borrowing, fine if results in economic growth, increased employment, increased productivity + increased international competitiveness.
- If indicates strong economy- if level of imports is result of economic growth, as firms require more supplies of raw materials, economy moves towards a boom- firms expand + increase profits, more people employed- higher wages. Consequently, gov revenues increase
Explain the difference between short-run + long-run growth.
- Short-run growth is the % increase in a country’s real GDP + is usually measured annually. Caused by increases in AD.
- Long-run economic growth occurs when the productive capacity of economy is increasing + refers to the trend rate of growth of real national output in an economy over time. Caused by increases in AS.
Give an example of a country with Positive Economic Growth.
China
* Meteoric rise as an economic powerhouse has been accompanied by impressive GDP growth.
* Million’s lifted out of poverty, with the country’s economic expansion playing a pivotal role.
* However, growth comes with environmental concerns due to increased industrialisation.
Give an example of a country with Negative Economic Growth.
Greece
* Faced a severe economic crisis, leading to negative GDP growth + skyrocketing unemployment rates.
* Economic inequality deepened.
Evaluate whether Economic Growth Increases Welfare.
Yes
* Improved resources for education.
* More spending on healthcare
* Increased tax revenues.
* Enables more C.
No
* Diseases of affluence
* Environmental costs- pollution
* Diminishing utility of income.
Define disequilibrium unemployment.
- Labour market is in disequilibrium.
- Cyclical unemployment (demand deficit unemployment) + real wage unemployment (classical unemployment).
Explain what cyclical unemployment is.
- Unemployment in recession, due to lack of AD.
- Labour is a derived D- comes from D for goods / services.
- Lower D for goods / services- less derived D for L - increases unemployment.
- Less AD in economy for goods / services- firms aren’t selling as much- rev falling- to keep profit levels, cut C- reducing work force sizes.
State the causes of cyclical unemployment.
• Housing market crash.
• Financial / banking crisis
• Global pandemic
Explain why cyclical unemployment falls under disequilbrium unemployment.
- Falls under disequilibrium unemployment.
- Keynesians argue that when there’s a recession in economy + fall in D for goods / services - there’ll be a fall in D for L- excess S that’s created when L shifts left remains- cyclical unemployment remains.
Explain what real wage unemployment is.
Classical unemployment
• When W are forced above equilibrium in labour market, creating excess S of L.
• At higher WR, firms less willing + able to employ- contraction of LD (QD)
• Workers very willing + able to work at high W- expansion of LD (QS)- leads to excess supply of labour- real wage unemployment.
State the causes of real wage unemployment.
• Introduction of high minimum wage.
• Strong trade unions- push W up
Define equilibrium unemployment (natural rate of unemployment).
• Unemployment that can occur when L market is in equilibrium.
• Always going to be a natural rate of unemployment.
* Can never achieve 0% unemployment- always a natural rate. As a result, macroeconomic objective is to achieve full employment - unemployment at natural rate of unemployment.
- Encompasses structural, frictional + seasonal unemployment.
Explain what structural unemployment is.
• Immobility of L due to long term change in structure of industry.
Occupational Immobility Of Labour:
• Skills mismatch between skills workers have in economy + job vacancies that exist.
Geographical Immobility Of Labour:
• Workers not willing / able to physically move where job vacancies exist (e.g. personal ties).
State + explain the causes of structural unemployment.
• Technological Advancements: tech advancements that replaces need for physical labour (e.g. banking / personal banking- now digital - reduces need for physical workers in physical branches)
• Loss Of Comparative Advantage: industry can no longer produce at the lowest C- decline in D- structural unemployment- if skills workers have can’t transfer to other jobs in economy (occupational), or skills are transferable but workers aren’t willing to move (geographical). Seen in UK in 1970s - 80s- lost comparative advantage in manufacturing to far east- big industry decline- workers became occupationally immobile.
* Modernisation / New Industry: existing industries modernise- need for new skills for workers to possess. Economy may transition from one sector to another (e.g. from primary sector production to secondary sector production). Individuals may not have new skills- education system may not keep up with pace of change of skills needed in economy- easily happen in developed countries, however in lower income, developing countries- may just be a poor education system completely (e.g. lack of schools / teachers)- occupational immobility of L.
Explain what frictional unemployment is.
• Workers in between jobs (e.g. worker may have left job to find something better- period of time they’re searching for something better, they’re frictionally unemployed)
Explain what seasonal unemployment is.
• Temporary fall in D for workers, due to seasonal change (e.g. skiing instructor in summer- temporary fall in D for services in that time- seasonally unemployed).
State + explain the free-market determinants for the natural rate of unemployment.
- Generous Benefits System: too much gov intervention is reason- if benefits system is too generous- encourages structural unemployment- if occupationally immobile, remain so (i.e. no need to train, gain skills, because there’s safety net of benefits). With generous benefit system, encourages frictional unemployment- encourages longer search times.
- Excessive Labour Market Regulation: strict hiring / firing regulation - firms aren’t willing to take big risks hiring low-skilled workers- drives up structural unemployment- occupational immobility of L.
State + explain the interventionist determinants for the natural rate of unemployment.
- Lack Of Transport / Housing Infrastructure: public / merit goods- not enough S in economy- gov needs to get involved + S more- drives up geographical immobility of labour + frictional unemployment- people searching within smaller radius.
- Lack Of In-Work Training: positive externalities to these- ignored- under-production / under-consumption in free-market. Gov needs to come in + provide more of these- so that if workers lose their job, still have transferable skills, so they can take other jobs in economy- without this, see higher structural unemployment.
State + explain the costs of unemployment.
- Lost Output: unemployment of L- economy is operating within productive potential - operating inside PPF curve - don’t get max production of goods / services- bad for consumers / Hh, ability to access goods / services will be lower, living standards lower + constrain to economic growth.
- Deterioration Of Gov Finances: tax side- income tax revenue naturally comes down, VAT rev comes down- due to less spending on goods / services taking place. Hits firms profits - less corporation tax revenue.
- Social Costs: gov has to spend more to deal with costs of high unemployment. With high unemployment, tend to see more riots, protests on street- more spending on police / military. Crime rates go up - spending on police services. More spending on healthcare - due to physical / mental issues that arise due to high unemployment. Negative externalities that arise due to high unemployment Budget deficits tend to rise, national debt tends to rise- implications on whole economy if taxes need to rise to fund increase in G.
- Costs To Other Countries: if unemployment is high in one country, another country suffers - less D for their X - harming their economic growth potentially.
- Lost Income: individuals unemployed lose their income source - worsens living standards - may drive them to relative poverty in developed country, or absolute poverty in developing country. May force people to borrow money to keep their living standards at certain level - increases risk of bankruptcy.
- Hysteresis: unemployment becomes long-term - longer someone is unemployed, more likely they are to lose their skills (deskilling), skills may become outdated, new entrance into L force, may outcompete individuals who’ve been in L force for a long time.
State + explain the benefits of unemployment.
- Greater Pool Of Workers For Firms: firms can choose most productive worker from pool - keeps CoP relatively low, keeps profit margins high. Good for worker - picked as most productive worker - good for their morale + good for economy if workers are ending up in productive roles for themselves.
- Low Inflation: with abundant L - workers don’t have huge bargaining power- keeps lid on W raises, on CoP + overall rises of goods / services - keeping inflation low.
- Improved Current Account Position: if current account deficit - high unemployment should help reduce it - with high unemployment + low incomes - less spending on M.
- Time For Workers To Find Suitable Job: don’t have stress / pressure to rush back into work.
Evaluate the consequences of unemployment.
- Rate Of Unemployment: unemployment at natural rate is fine- benefits outweigh costs. If unemployment goes beyond natural rate - costs outweigh benefits.
- Duration: long-term rates of unemployment - negative for economy - risk of hysteresis increases + all other C of unemployment can arise.
- Type Of Unemployment: structural unemployment (occupational immobility)- worst type - very hard to fix- increases risk of hysteresis. Cyclical unemployment not as bad - recessions don’t last forever. Frictional unemployment - quite healthy for economy - people searching for better role to end up in better position for themselves.
- Distribution Of Unemployment: worst group in society to be unemployed is youth - more liable to suffer from long-term unemployment - don’t have many work skills / experience yet - easily become de-skilled / for skills to become outdated / to be outcompeted by new entrance into work experience. Much greater risk of long-term unemployment - much greater risk of hysteresis.
