Chapter 4

Question 1

Fiscal Policy

Answer 1

Taxation and spending plans

Focuses on government income (taxes) and expenditure

Budget deficit
Borrowing money boosts aggregate demand and employment
Expansionary policy
Often used when there is a deflationary gap

Budget surplus
Government takes money out of the economy reducing aggregate demand
Contractionary policy
Used when there is an inflationary gap (aggregate demand is higher than the country can supply, leading to high inflation)

Question 2

Monetary policy

Answer 2

Management of the supply of money, including interest rates

Question 3

Classical Theory

Answer 3

Government does nothing, economy will reach equilibrium by itself

Question 4

Keynesian view (demand side)

Answer 4

Government should manipulate demand - run a budget deficit when economy needs growth

Question 5

Monetarist view (supply side)

Answer 5

Government should remove market imperfections (eg inflation, tax, price fixing, min wage, legislation, regulating markets)

Question 6

Ways to promote growth (5)

Answer 6

Run a budget deficit
Increase availability of production factors (eg training schemes increase the availability of labour)

Cutting interest rates
Grants and incentives to boost investment
Protectionist measure to reduce imports

Question 7

Causes of unemployment

Answer 7

Cyclical - due to aggregate demand being too low to create enough employment opportunities

Frictional - short-term unemployment between jobs

Structural/technological - structural change in economy leads to change in skills required

Seasonal

Real wage - when industry highly unionised and union keeps wages artificially high, reducing the number employed.

Question 8

Causes of inflation

Answer 8

Demand-pull - demand grows faster than ability of economy to supply

Cost-pull - cost of underlying factors of production increase, forcing rise in prices

Imported inflation - if national currency weakens, cost of imports rise

Monetary inflations - increase in money supply leads to demand-pull inflation

Expectations effect - wages and prices increase in anticipation of annual inflation

Question 9

Imperfect markets

Answer 9

Monopoly- only one major supplier, no close substitutes available, supplier can therefore set prices

Monopolistic competition - many different suppliers, each selling a slightly different product. Usually minimal barriers to entry; high marketing costs

Ogliopoly - market controlled by 2-6 suppliers (2=duopoly) tends to result in high barriers to entry and give them significant influence over pricing