4.2.3.1 Economic growth and the economic cycle

Question 1

What is GDP?

Answer 1

• Gross domestic product.
• A measure of the total value of goods and services produced in an economy in a year.

Question 2

Economic growth

Answer 2

An increase in the productive capacity of the economy is measured by changes in GDP.

Question 3

Demand-side growth

Answer 3

Growth caused by an increase in Aggregate demand

Question 4

Short-run growth

Answer 4

• Output increases but the capacity of the economy remains unchanged.
• Caused by a rise in AD or a rise in SRAS

Question 5

Demand-side factors affecting short-run growth

Answer 5

• Any factors causing increased Aggregate demand e.g.
• Rising business and consumer confidence
• Lower interest rates
• A fall in the exchange rate
• Rising government spending
• Lower income tax or corporation tax

Question 6

Supply side factors affecting short run growth

Answer 6

(SRAS1 to SRAS3) This is usually caused by lower business costs e.g. lower wages, lower oil prices or material costs

Question 7

Long run growth

Answer 7

• Long-run growth occurs when the overall capacity of the economy increases (LRAS shifts to the right).
• This caused by better infrastructure, improvements in technology, higher levels of investment, improved incentives, better education and training and improved labour productivity)

Question 8

The long run trend of growth

Answer 8

• The trend rate of growth is the long-run average rate of growth. In the UK long-run trend is around 2%.
• The overall capacity grows by around 2% on average because of improved technology, better education and training and improved labour productivity.
• The long-run trend rate is determined by growth in productive capacity

Question 9

Factors affecting the long run trend rate of growth

Answer 9

• The long run trend rate is determined by growth in productive capacity.
  • Technological improvements
  • Labour productivity
  • Investment levels
  • Labour market flexibility.
  • infrastructure
  • communication / transport.

Question 10

What is the negative output gap

Answer 10

When the economy is operating below full capacity or below the trend rate of growth. There are unemployed resources.

Question 11

What is a positive output gap?

Answer 11

• When the economy is operating above full capacity or above the trend rate of growth. Usually leading to inflation and imports.

Question 12

What is the economic cycle?

Answer 12

The economic cycle is the natural fluctuation of the economy between periods of expansion (recovery and boom) and contraction (recession and slump)

Question 13

Recession

Answer 13

Where the GDP growth rate is negative for two consecutive quarters (6 months)

Question 14

Assess the impact of recession and slump on investment, growth, unemployment and inflation.

Answer 14

• A recession is by definition negative growth.
• Lower output leads to lower employment and firms reduce investment. Prices are unlikely to rise as there is a lot of spare capacity. (i.e. there will be no inflationary pressure)

Question 15

What is recovery?

Answer 15

The stage of the economic cycle after the slump is where the economy starts to grow again.

Question 16

Assess the impact of recovery and boom on investment, growth, unemployment and inflation.

Answer 16

• In recovery, growth is at its highest.
• This encourages businesses to invest (the accelerator principle).
• As sales and output increase employment is generated. As the economy starts to approach full capacity inflation may start to increase.

Question 17

Demand side shocks

Answer 17

• Demand-side shocks occur when something causes a large unexpected fall in aggregate demand often triggering a recession.
• This may be caused by a fall in house prices or shares or a sudden rise in interest rates.

Question 18

Supply side shocks

Answer 18

• Supply-side shocks occur when something causes a large unexpected fall in aggregate supply.
• This may be caused by a sudden rise in oil or commodity prices.

Question 19

Sustainable economic growth

Answer 19

• Where growth can be continued into the future.
• Growth without high inflation or unsustainable damage to the environment. Growth is often considered sustainable when it is at the long-run trend rate (2%) because LRAS and AD are moving out together.

Question 20

Causes of recovery

Answer 20

• Increased consumer and business confidence
• Lower interest rates or QE (loose monetary policy)
• Expansionary fiscal policy
• Lower wages and costs of production.

Question 21

The benefits of growth

Answer 21

• More jobs (lower unemployment), more investment
• Higher incomes/ Output, Better living standards, more tax revenue.
• The trickle-down effect.

Question 22

The costs of growth

Answer 22

• Risk of inflation
• Environmental issues (depletion of non-renewable resources and negative externalities e.g. pollution)
• the worsening balance of payments deficits. (particularly from demand-side growth)

Question 23

The impact of growth on individuals.

Answer 23

• More job opportunities
• Higher incomes
• Trickle down
• Higher living standards

Question 24

The impact of growth on the economy

Answer 24

• Higher overall living standards
• More tax receipts for the government (reduced budget deficits)
• Demand-side growth might cause inflation and increased imports as the economy approaches its capacity

Question 25

The impact of growth on the environment.

Answer 25

• Depletion of the non-renewable resources e.g. oil
• Negative externalities in production e.g. pollution and global warming.