Economic/ GDP Growth

Question 1

Define economic growth

Answer 1

Economic growth is the increase in the market value of the goods and services produced by an economy

Question 2

How is economic growth shown in the short run?

Answer 2

An outward movement of AD whereby output (SRAS) increases to keep pace with increased demand

Question 3

How is economic growth shown in the long run?

Answer 3

It is an increase in the productive capacity of an economy/ an increase in productive potential shown by a right shift in LRAS or macro PPF

Question 4

How can we have non-inflationary long term growth with no negative output gap?

Answer 4

If there is an increase in the productive potential (right shift LRAS) and a corresponding increase in AD

Question 5

What is Gross Domestic Product?

Answer 5

The total market value of goods and services produced in a country’s borders in a given time period

Question 6

What are the 4 components of GDP?

Answer 6

They are the same as AD: consumer spending, investment, government spending and net exports

Question 7

What percentage of the UK economy is made up of consumption?

Answer 7

61% (60%)

Question 8

What percentage of GDP is made up of government spending in the UK?

Answer 8

A quarter (23%)

Question 9

What is the difference between nominal and real GDP?

Answer 9

Nominal is the total market value of goods and services produced in the country whereas real GDP is nominal GDP adjusted for inflation

Question 10

What is GDP per capita?

Answer 10

This gauges the impact of growth on standards of living, GDP is divided by the population

Question 11

What is aggregate demand and how can demand led economic growth happen?

Answer 11

Aggregate demand is the total spending on goods and services in an economy in a given time

Demand-led economic growth happens when there is an increase (right shift) in aggregate demand which also causes aggregate supply to increase to meet it

Question 12

Give 5 reasons why aggregate demand would increase?

Answer 12

Decrease in interest rates = bank loans will be cheap which encourages investment and credit-based consumption as well as disincentivises saving

Boom phase in the economic cycle = increased consumer and business confidence caused by the economy performing well

Decrease in direct taxes = decrease in income tax and corporate tax

Increase in government expenditure = infrastructure development would increase demand for labour increasing wages and increasing consumption, also this is a component of AD

Depreciation of the currency = imports more expensive so less are bought exports made cheaper which improves net exports

Question 13

What is aggregate supply and explain supply-led growth?

Answer 13

Aggregate supply is the total quantity of goods and services produced in a country

A right shift in aggregate supply (increase in productive capacity) due to an increase in the quantity, quality and/ or the mobility of the factors of production

Question 14

Give 4 reasons why supply led growth would happen?

Answer 14

Increasing the size of the labour force = the % of the population working or actively seeking work grows e.g. immigration of skilled labour

Increasing the quality of the labour force = investment by firms and government in education and training, more productive workers and innovative

Increasing quantity of enterprise = new businesses start up causes economic growth more competition means more productivity and innovation can be helped by government such as subsidies

Government investment in infrastructure = increase factor mobility, e.g. workers can travel further to where jobs are reducing opportunity cost of work

Question 15

Define standards of living

Answer 15

The material quality of life experience by citizens

The degree to which citizens have access to affordable goods and services, the provision and accessibility to public services, quality of everyday life

This can be determined by household income and services provided by the state

Question 16

State the chain of reasoning for growth creating increased standards of living

Answer 16

1) Economic growth causes AD to shift out meaning there is more demand for goods and services

2) Firms demand more workers to produce more goods and services - derived demand for labour

3) Increased derived demand for labour means more jobs are available reducing unemployment

4) As labour becomes scarce it’s price increases, firms compete for labour so there is wage growth

5) Households now have more disposable income to buy goods/ services

6) This gives households greater access to goods and services meaning more standard of living

Question 17

State the chain of reasoning for the fiscal dividend benefit of growth

Answer 17

1) Economic growth causes increased consumption: more demand for goods and services

2.1) Workers receive higher wages so pay more income tax and national insurance

2.2) Consumption increases so more sales tax is generated

2.3) Firm’s profits are up and so more corporation tax is collected

3) Government receives more tax revenue and reduces spending on benefits and other social problems associated with unemployment

4) Government budget position improves: there are more funds available to spend on investment and public services

5) Improved public services increases standard of living

Question 18

State the chain of reasoning for growth creating increased investment

Answer 18

1) Economic growth means more demand for goods and services

2) Domestic firms have increased profits so are incentivised to invest in human and physical capital

3) Successful economy also attracts Foreign Direct Investment (FDI) from foreign firms

4) Increased investment increases productivity creating long run growth

5) Investment is key to long run growth which increases productive potential

Question 19

How can economic growth be inflationary?

Answer 19

If growth is demand-led but occurs when the economy has insufficient spare capacity producers won’t be able to increase supply to match demand making goods and services scarce

I.e. demand outstrips supply, rationing function of price as goods and services are scarce

Question 20

How can economic growth increase inequality?

Answer 20

GDP doesn’t measure how the rewards of growth are distributed so only a small elite may benefit from growth leaving the majority to not see any improvements in living standards

Governments have to adopt redistributive policies such as progressive taxation

Question 21

How can economic growth create negative externalities?

Answer 21

Increased production often causes negative externalities - social costs borne by third parties

For example, rapid industrialisation likely brings environmental damage

Or deregulated labour markets could force workers to work harder

Question 22

Does GDP measure the nature of economic activity?

Answer 22

No, it is value neutral so it simply measures the productive output of an economy without distinguishing between the types of production

For example, a country would have an increase in GDP if they produce more weapons to go to war or oppress people

Question 23

How does GDP measure some countries better than others?

Answer 23

GDP was designed for industrial output in advanced economies, its most effective in measuring goods produced in secondary sectors in formal economies

Therefore, tertiary and quaternary (service) sectors aren’t easily measured, and it depends on formal transactions - LICs have large informal sectors (cash-in-hand)