4.2.3 - Economic Performance

Question 1

Define economic growth

Answer 1

Is a rise in output in an economy which can be actual or potential growth

Question 2

Define Actual growth

Answer 2

Is economic growth as measured by recorded changes in real GDP over time

Question 3

Define Potential growth

Answer 3

Is economic growth as measured by the changes in the productive potential of the economy over time

Question 4

Define short-run economic growth

How is it caused

Answer 4

Is growth based on increased utilisation of unemployed resources (labour or capital stock) resulting in increased overall output

Can be caused by increases in aggregate demand and SRAS

Question 5

Define Long-run economic growth

How is it caused

Answer 5

Is based on increasing the potential output level of the economy

Can be caused by increases in LRAS

Question 6

Explain how the PPF curve can be used as a measure of economic growth

Answer 6

Short run growth involves utilising previously unemployed factors within the economy, leading to an outwards growth in output from A to B

Long run growth involves expanding the capacity of the economy , leading to the outwards growth from B to C

Question 7

State the benefits of economic growth (7)

Answer 7

Higher living standards for the population
Easier to find employment for people
Likely improved social indicators, less crime
Increased tax revenue
Less need for welfare expenditure (can be spent elsewhere)
Lower absolute poverty
Greater international reputation for the government

Question 8

State the costs of economic growth (4)

Answer 8

Increased negative externalities (congestion and pollution)
Potential for greater inequality if growth is unevenly shared
Higher levels of inflation if growth is of a short term nature
Depletion of natural resources

Question 9

Define sustainable growth

Explain governments importance in sustainable growth

Answer 9

Is economic growth that does not compromise the economies ability to grow in the future.

Governments have been encouraged to intervene to shift production towards utilising more sustainable and renewable resources.

Question 10

Define and draw the economic cycle

Answer 10

Refers to the repeated pattern of fluctuations in short run economic growth and how it differs to the trend growth of the economy

Question 11

Explain a boom as part of the economic cycle

Explain it’s effect on: 
Consumption 
Investment 
Government spending
Imports and exports 
Unemployment 
Inflation

Answer 11

Is a period of above average short run economic growth

Consumption is high
Business confidence and investment is high
Government finances will move towards a budget surplus
Imports will be higher than exports
Unemployment is low and falling
Inflation may be rising

Question 12

Explain a downturn as part of the economic cycle

Explain it’s effect on: 
Consumption 
Investment 
Government spending
Imports and exports 
Unemployment 
Inflation

Answer 12

Is a period where short run growth will start to fall but may still be positive

Consumption starts to fall
Business confidence and investment will start to fall
Tax revenue will fall due to reduced economic activity, causing a budget deficit
Spending on imports is likely to fall
Unemployment will stop falling
Inflation is likely to stop rising

Question 13

Explain a recession as part of the economic cycle

Explain it’s effect on: 
Consumption 
Investment 
Government spending
Imports and exports 
Unemployment 
Inflation

Answer 13

Is two successive quarters of negative short run economic growth

Consumption is low due to falling incomes
Business confidence and investment is low
The budget deficit is likely to be at it’s highest due to high welfare expenditure and low tax revenue
Low demand for imports
Unemployment is at it’s highest
Deflation should occur

Question 14

Explain a recovery as part of the economic cycle

Explain it’s effect on: 
Consumption 
Investment 
Government spending
Imports and exports 
Unemployment 
Inflation

Answer 14

Occurs when short run economic growth starts to increase after a recession, but is likely to still be below the trend growth rate.

Consumption will start to rise
Business confidence and investment will start to rise
The budget deficit should stop increasing as tax revenue will begin to rise
Imports will start to rise
Unemployment is likely to remain high but will stop rising
Deflation is likely to stop occurring

Question 15

Define an output gap

Answer 15

Is the difference between actual growth and trend growth

Question 16

Define and explain a positive output gap

Answer 16

Exists where actual growth is higher than trend growth

There is greater demand for goods and services than the productive capacity of the economy allows. Likely to lead to inflation

Question 17

Define and explain a negative output gap

Answer 17

Exists where actual growth is below trend growth

Unemployment is likely to rise and the economy could produce more

Question 18

Explain the explanations of the economic cycle (6)

Answer 18

Multiplier accelerator model- occurs where multiplier and accelerator effects combine to magnify cyclical fluctuations in economic growth.

Inventory cycle- during a downturn or recession falls in demand mean businesses allow inventory levels to fall rather than producing more. This means that production of output falls faster than the fall in sales, exaggerating the effects of falling output on the economic cycle.

Asset price bubble- where a rise in an asset’s price (house,commodities, share prices) becomes self-fulfilling and the prices rise beyond the level that normal demand and supply conditions would generate. This eventually leads to the bubble bursting, causing prices to collapse and exaggerating the downturn in the economy.

Animal spirits- the collective feeling of consumer and business confidence which affects consumption and investment and therefore the phase of the economic cycle

Herding- occurs where consumer and investor behaviour often moves in similar directions, at the same time in the same way. If herding takes place decisions will have the power to influence the level of spending in
an economy and thus the stage of the economic cycle

Excessive credit and debt- households, firms and governments borrow too much money. When households and governments cut back on borrowing and spending, due to stagnant incomes or a unwillingness to lend, it reduces aggregate demand and pushes the economy into a recession

Question 19

Define Full employment

Answer 19

Is the level of employment where those who are economically active can find work if they are willing to accept jobs at the going wage rate

Question 20

Define unemployment

Answer 20

Means that human resources are not being used to produce the goods and services that help to meet people’s changing needs and wants

Question 21

Explain the claimant count (JSA) as a measure of unemployment

Answer 21

Shows the number of people officially claiming unemployment related benefits, must be actively seeking work

Question 22

Explain the labour force survey (LFS) as a measure of unemployment

Answer 22

Shows all those actively seeking and available for work, whether or not they are claiming benefits

Question 23

Define the labour force

Answer 23

Is the number of people of working age who are able, available and willing to work

Question 24

Define economically inactive

Answer 24

Describes those who are of working age but are neither in work nor actively seeking paid work

Question 25

Define the employment rate

Answer 25

The percentage of the population of working age in full time or part time work

Question 26

Define the unemployment rate

Answer 26

Is the percentage of the economically active population who are unemployed

Question 27

State the strengths and weaknesses of UK unemployment data

Answer 27

``` S Timely figures in each new month Large sample size (40,000+ for LFS) Local and regional data In the UK there are low levels of welfare benefit fraud ``` W Much hidden unemployment Sample errors High rate of labour migration affects accuracy

Question 28

Define voluntary uenemployment

Answer 28

Occurs where people are unwilling to accept a job at the going wage rate despite their being jobs available

Question 29

Define involuntary unemployment

Answer 29

Occurs where people are unable to find employment at the current market wage rate

Question 30

Explain seasonal unemployment as a type of unemployment

Answer 30

Occurs where there is regular seasonal changes in employment/labour demanded. E.g. tourism, retail, agriculture

Question 31

Explain structural unemployment as a type of unemployment List the factors that cause this (8)

Answer 31

Occurs when the demand for labour is less than the supply of labour in an individual labour market ``` Decline of manufacturing Occupational immobility Geographical immobility Automation Foreign competition Long term regional decline Disincentives (poverty trap) Outsourcing production overseas ```

Question 32

Explain frictional unemployment as a type of unemployment

Answer 32

Is unemployment resulting from friction due to movement into and out of the job market, when people are between jobs

Question 33

Explain Cyclical unemployment as a type of unemployment How is it linked to the output gap

Answer 33

Is caused by a fall on or persistent weakness of aggregate demand leading to a decline in real GDP and jobs Is closely linked to a negative output gap in an economy. If economic growth is below the trend rate, the level of demand in the economy will not be high enough to ensure full employment

Question 34

State which types of unemployment linked to demand-side factors/supply-side factors

Answer 34

Demand side factors - cyclical unemployment and seasonal unemployment Supply side factors - frictional and structural unemployment

Question 35

# Define the natural rate of unemployment Explain why there is a natural rate of unemployment (2)

Answer 35

Is the lowest rate of unemployment at which the economy is operating at it’s long run trend rate of growth A high replacement ratio- means a person could earn as much in benefits at least as much as they do in employment, reducing the incentive to work Structural factors - geographical immobility, lack of skills

Question 36

# Define real wage unemployment Link to minimum wage

Answer 36

Occurs when the real wage paid is above the level needed to bring the labour market into equilibrium. A high minimum wage means that workers looking for jobs cannot find employment as there is a lower quantity of labour demanded at that wage rate

Question 37

State the drawbacks of high unemployment (8)

Answer 37

Lost output and efficiency (economy is inside ppf) Fall in real incomes and lower living standards for those affected Drop in tax revenue and higher welfare payments Potential loss of labour supply if unemployed move overseas Increase in relative poverty Link between unemployment and social problems (increased crime) Decline in quality of human capital Reduced consumption

Question 38

State the benefits of high unemployment (3)

Answer 38

Reduced risk of inflation Pool of unemployed labour available for growing businesses Increased incentives to become self employed, increased enterprise

Question 39

State and give an example of policies to reduce unemployment: labour demand and supply

Answer 39

Labour demand: Macro stimulus policies (low interest rates to increase lending) Cutting the cost of employing workers (reductions in NI contributions, grants) Competitiveness policies (reductions in corporation tax, enterprise policies) Labour supply: Reducing occupational immobility (increased funding for education and training) Reducing geographical immobility (increased investment in housing and transport) Stimulating stronger work incentives (higher national minimum wage and reductions in income tax) Tackling information failure (investment in jobsites) Reducing welfare benefits (reducing unemployment trap) More flexible labour markets (gig economy)

Question 40

# Define Exogenous models explaining the economic cycle Define Endogenous models explaining the economic cycle

Answer 40

Assumes that the economic cycle is caused by demand or supply side shocks Assumes that the economic cycle is self perpetuating and naturally goes from boom to recession

Question 41

Explain the main reasons for using a natural aggregate supply and demand graph and a Keynesian curve in an argument

Answer 41

Natural aggregate supply and demand can be used as an argument for natural market forces fixing the disequilibrium in the economy A Keynesian curve can be used as an argument for increased government spending in order to fix the disequilibrium in the economy

Question 42

State the issues of the Labour Force Survey

Answer 42

Sampling error Very expensive Does not take into account hidden employment Under employed are counted as part of the labour force

Question 43

State the issues of the claimant count

Answer 43

Difficult to compare between countries Not everyone will claim, some unemployed do not claim Nit all unemployed are able to claim (rich spouses)

Question 44

Give the formula for the unemployment rate

Answer 44

Unemployed/economically active x 100%

Question 45

Define Inflation

Answer 45

Is a sustained increase in the cost of living or the general price level leading to a fall in the purchasing power of money

Question 46

Explain how inflation is measured (2)

Answer 46

Consumer price index - is a measure of the price level in the economy based on the prices of a collection of products designed to reflect the consumption basket of the average consumer Retail Price Index - is a measure of the price level of a basket of goods reflecting the average consumer, but also includes homeowner costs like insurance and tax

Question 47

Explain the limitation of CPI as a measure of inflation (4)

Answer 47

CPI is not fully representative- inaccurate for the typical household Spending patterns- different households have different spending patterns Changing quality of goods and services- although the price might rise this may be accompanied by improvements in quality New products- is slow to respond to new products and services

Question 48

Define Deflation

Answer 48

Is a decline in the general price level in the economy, signified by a annual inflation rate below 0%. Is a sign an economy is doing badly

Question 49

Define Disinflation

Answer 49

Is a fall in the rate of inflation, prices are still rising but at a slower rate. E.g from 5% to 2%

Question 50

Define Hyper-inflation

Answer 50

Is a period of very high rates of inflation, usually leading to a loss of confidence in an economy’s currency

Question 51

Explain and draw demand pull inflation as a cause of inflation Why does excessive demand occur

Answer 51

Is caused by excess demand in the economy, when there is too much demand the price level will rise ``` Excessive rise in consumer spending Low interest rates Increased business and consumer confidence Weak exchange rate Increased money supply ```

Question 52

Explain and draw cost push inflation as a cause of inflation Why do costs rise

Answer 52

Is caused by rising costs for firms in the economy, leading to higher prices and falling output, causing stagflation

Question 53

Define the quantity theory of money as a alternative cause of inflation

Answer 53

Is an alternative monetarist explanation of inflation. It is based on the fisher equation which stated that inflation resulted from changes in the growth rate of the money supply

Question 54

Give the formula for the fisher equation and explain how the quantity theory of money can be used to explain inflation

Answer 54

M x V = P x Q (what is bought=what is sold) M= Money supply is the total amount of money in the economy at a given time V= Velocity of circulation is the rate at which money circulates around the economy, how many times the same banknote is used. P= Average price level of goods and services in the economy (inflation) Q= Real value of national output is the quantity of goods and services sold in the economy (RGDP) There is a direct link between money supply and inflation because V and Q are thought to be fixed and wont change enough to influence the price level in the economy. If money supply increases it will lead to more money being used to chase the same output , leading to rises in price to compensate (inflation) Keynesian’s argue that V and Q are not fixed, during a recession this theory does not hold. Also over the past 10 years banks have increased money supply to North America and Europe without seeing a significant rise in inflation

Question 55

Explain the effect of expectations on changes in inflation

Answer 55

When workers negotiate for wages they are likely to include their expectations of what they think will happen to prices over time. If Inflation rises by 10% workers will want to see their nominal wages rise by 10% to maintain their real incomes and ensure the purchasing power of their incomes do not fall. Higher wages are likely to lead to higher selling prices set by firms

Question 56

State the consequences of inflation (8)

Answer 56

``` Inequality Unemployment Competitiveness Menu costs Shoe leather costs Fiscal drag Uncertainty Policy response ```

Question 57

Explain Inequality as a consequence of inflation

Answer 57

Has a regressive effect on lower incomes people who hold most of their wealth in cash, inflation erodes cash

Question 58

Explain Unemployment as a consequence of inflation

Answer 58

Inflation is likely to lead to lower levels of output and spending. Lower economic growth will result in unemployment

Question 59

Explain less competitiveness as a consequence of inflation

Answer 59

If inflation in the UK rises faster than other countries, exports will becomes less competitive and imports more competitive.

Question 60

Explain menu costs as a consequence of inflation

Answer 60

When prices are rising quickly , firms will update menu’s, price lists and catalogues much more frequently, imposing a cost due to inflation.

Question 61

Explain shoe leather costs as a consequence of inflation

Answer 61

With rising prices individuals will spend more time having to compare prices offered by different firms, a cost in time and money

Question 62

Explain fiscal drag as a consequence of inflation

Answer 62

When individuals nominal incomes increase but not their real income, they are pushed into a higher tax band

Question 63

Explain uncertainty as a consequence of inflation

Answer 63

Businesses will be more cautious in it’s production and expansion plans meaning GDP will not rise as quickly if inflation rates were kept low

Question 64

Explain policy response as a consequence of inflation

Answer 64

The government will try to implement deflationary policies if inflation rises, increases government debt

Question 65

Explain and draw benign/good deflation as a cause of deflation Why do falling costs of production occur

Answer 65

Is caused by increases in aggregate supply, caused by falling costs of production, resulting in falling prices and increases in RGDP Fall in commodity prices Technological advances

Question 66

Explain and draw Malevolent/bad deflation as a cause of deflation

Answer 66

Is caused by falling aggregate demand, leading to falling prices and falling RGDP. There will be a downward multiplier effect.

Question 67

Explain the consequences of deflation (3)

Answer 67

Delays in consumption- people are more likely to delay purchases until goods are cheaper, businesses will cut prices further, leading to even further delays. Rising real value of debt - falling prices and income will see the real value of debt rise, leading to difficulties for households and firms who have borrowed money. Wage rigidity- In periods of deflation wages do not fall as they would ruse during inflation. Sticky wages in a deflation will lead to real wage unemployment where wages are too high for the labour market and labour demand falls.

Question 68

Explain how changes in world commodity prices affect domestic inflation (Oil)

Answer 68

Commodity prices are volatile and often traded for the purpose of making profits through speculation on further price changes Oil prices have a significant effect on the inflation rate due to oil is important as an input to industrial production. Oil producing nations often coordinate to reduce supply in order to increase prices, leading to sharp rises in inflation

Question 69

Define a commodity

Answer 69

Is a homogenous product that is used as a basic input into production. E.g. Oil, Copper, Cotton

Question 70

Explain the impact of other economies on UK inflation

Answer 70

The UK is an open economy, with foreign trade accounts for a significant amount of its GDP, meaning that changes in other economies can affect inflation in the UK. Growth in foreign economies will increase the demand for UK exports, possibly causing demand pull inflation Increase growth in foreign economies will also lead to more demand for commodities, increasing the price of these goods and causing cost push inflation

Question 71

Explain the benefits of inflation (3)

Answer 71

A little inflation encourages people to buy sooner, boosting economic growth. Benefits people who borrow as repayments take a smaller % of income, due to wages rising. Erodes the value of government debt, requires a smaller % of tax revenue Most banks favour an inflation rate between 2-2.5%

Question 72

Explain the policies to control inflation (3)

Answer 72

Monetary policy- low interest rates boost AD and the price level, done to increase inflation by a small amount. High interest rates can reduce AD and cause disinflation. Fiscal policy- increased government spending because in deflation and very low inflation periods to increase AD and the price level. Reduced government spending is use the gym periods of high inflation in order to reduce aggregate demand and the general price level Supply side policies- increasing the productive potential of the economy will reduce the price level in high periods of inflation

Question 73

# Define a trade off What are the government macroeconomic policies

Answer 73

Is the cost of making a choice in favour of another, has to occur for government economic policies as it is rare to achieve all at the same time: Sustainable and balanced economic growth Stable rate of inflation Low rates of unemployment Equilibrium of external balance of payments

Question 74

Explain the Philipps curve Why does the trade off occur

Answer 74

Shows a trade off between inflation and unemployment, low inflation leads to higher levels of unemployment. This occurs where low levels of unemployment will lead to employees feeling more confident in claiming higher wages, due to a lower labour pool, leading to higher inflation due to firms raising their prices to cover the higher wages

Question 75

Explain the long run phillips curve

Answer 75

When the economy is in equilibrium at the natural rate of unemployment with no inflation it is at point A. If the government increases aggregate demand in order to reduce unemployment, inflation rises as expected, causing a shift to point B. Initially workers suffer from the money illusion, where they confuse nominal and real wages, however eventually workers have adaptive expectations and demands a higher real wages to compensate for higher inflation. This will lead to increased costs for firms and increased unemployment, seeing a shift to point C. The long run Phillips curve can be used as an argument against government spending

Question 76

Define a policy conflict

Answer 76

Exists when attempts to solve one economic problem leads away from solving another problem

Question 77

State the policy objectives requiring increased AD State the policy objectives requiring decreased AD

Answer 77

Short run economic growth Reducing cyclical unemployment Eliminating a budget deficit Reducing demand pull inflation Improving the current account balance of payments