Circular flow of income + Multiplier Flashcards
What is an economic boom
When economy is at full employment with high productivity, wages and demand
What is a recession
At least 2 consecutive quarters of declining GDP growth
What is a depression
A prolonged recession lasting months or years
What is an economic recovery
Economy regains an increase in employment and output levels
What is a negative output gap
When the level of actual GDP is less than potential GDP
What is a positive output gap
When actual GDP is greater than estimated potential GDP
What are the effects of a boom
- Rapid economic growth
- High consumer and business confidence
- Low unemployment
- High inflation
- BoP imbalance
What are the effects of a recession
- Aggregate demand falls
- Inflation falls
- Business confidence falls/ firms reduce investment
- Firms reduce levels of output
- Unemployment rises
What are the effects of a recovery
- Rising demand and sales
- Increasing business confidence
- Unemployment falling
- Rising general price level
What is the circular flow diagram
A simplified model of an economy with household and firms as the 2 economic agents
Describe the Circular flow diagram
Households trade FoPs with firms in exchange for factor incomes
And firms trade goods and services for expenditure
What are the injections into the circular flow of income?
Investment, government spending, exports
What are the withdrawals from the circular flow of income
Savings, taxes, imports
What is the difference between income and wealth
Income is the flow of money into households
Wealth is the value of accumulated assets they own
What is the multiplier effect?
When an injection into the economy leads to a proportionally bigger economic gain
What are the limiting factors of the multiplier effect
Marginal propensity to import (mpm) = change in imports / change in income
Marginal propensity to tax (mpt) = change in tax / change in income
Marginal propensity to withdraw (mpw) = mps + mpt + mpm or 1 - mpc
Marginal propensity to save (mps) = change in saving / change in income
How to calculate multiplier effect
1 / MPW or 1/1-MPC
How does the multiplier effect affect AD
The initial increase in expenditure will shift AD right but then in future more shifts will occur
