Economic growth

Question 1

There are four main objectives of government macroeconomic policy

Answer 1

1. STRONG ECONOMIC GROWTH:
   - governments want economic growth to be high (but not too high)
   - In general, economic growth will improve the standard of living in a country
2. KEEPING INFLATION LOW
   - In the UK, the government aims for inflation of 2%
   - Monetary policy committee of the Bank of England uses monetary policy to try and achieve this target rate
3. REDUCING UNEMPLOYMENT
   - Governments aim to reduce unemployment and move towards full employment.
   - If more ppl employed then economy will be more productive. AD will also increase as more ppl will have greater income
4. EQUILIBRIUM IN THE B OF P
   - Governments want equilibrium in the B of P, i.e. they want earnings from exports and other inward flows of money to balance the spending on imports andother outward flows of money
   - More desirable than a long-term deficit or surplus in the B of P - cause problems
   Other objectives =
   a) balance the budget
   b) protect the environment
   c) achieve greater income equality

Question 2

There are different types of Economic growth

Answer 2

1. Economic growth = increase in the productive potential of an economy
2. In short run, economic growth is measured by the percentage change in real national output. This is known as the actual growth
3. Increases in actual growth are usually due to an increase in AD, but they can also be caused by increases in aggregate supplly. Actual growth doesn’t always increase - tends to fluctuate up and down.
4. Long run growth caused by increase in capacity, or productive potential, of the economy. Usually happens due to a rise in the quality of quantity of inputs - e.g. more advanced machinery or a more highly skilled labour force.
5. Long run growth is shown by an increase in the trend rate of growth. Trend rate of growth = average rate of economic growth over a period of both economic booms and slumps. It rises smoothly rather than fluctuating like actual economic growth, so the actual rate of growth often doesn’t match the trend rate.
6. Increases in the long run growth are caused by an increase AS

Question 3

Production Possibility Frontier (PPF) can show Economic Growth

Answer 3

1. Short run and long run economic growth can be shown with a PPF.
2. Short run economic growth is shown by a movement from, say, Point A to point B, while the PPF itself remains fixed
3. Long run growth occurs if there’s an icnrease in the capacity of the economy - this would make the PPF shift outwards to PPF1.

Question 4

The economic cycle has different phases

Answer 4

1. Actual growth of an economy fluctuates over time. These fluctuations = economic cycle.
2. Boom = economy is growing quickly. AD will be rising, => fall in unemployment and rise in inflation.
3. Recession = negative economic growth for at least two consecutive quarters. AD will be falling, causing unemployment to rise and a fall in price levels.
4. During a recovery economy begins to grow again, going from negative economic growth to positive economic growth. AD will be rising, so unemployment will be falling and inflation will be rising.
5. Long run growth is shown by an increase in the trend rate of growth. The trend rate of growth is the average rate of economic growth over a period of both economic booms and slumps.
   * look at graph on pg 151*

Question 5

Output gaps can occur during periods of Boom or Recession

Answer 5

1. A negative output gap is the difference between level of actual output and trend output when actual output is below trend output/
   - A negative output gap will occur during a recession when the economy is underperforming, as some resources will be unused or underused.
   - A negative output gap also usually means downwards pressure on inflation.
2. Positive output gap = difference between level of actual output and trend output when actual output is above trend output.
   - positive output gap will occur when there is a boom an economy is overheating, as resources are being fully used or overused
   - a positive output gap also = upwards pressure or inflation
3. During the recovery an economy will go from having a negative output gap to having a positive output gap as actual output rises above trend output
4. An output gap can be shown on a PPF. * look at diagram*
   - Point W shows economy operating at full capacity - all availiable resources are being used
   - Point X is inside the PPF. This shows that some resources are not being used fully - there’s a negative output gap
   - Point Z is outside the PPF, meaning the economy is producing a level of output that is ‘beyond its potential’ - this may happen if workers are working excessively long hours or machines are being overused. Inthis case there’s a positive output gap.
5. An output gap can also be shown using AS and AD curves. For example, in this diagram:
   - Point W shows the economy operating at its full productive potential, using all availiable resources
   - Point X shows the equilibrium of SRAS1, and AD1 to the left of the LRAS curve. In other words the economy has the potential to supply at a greater level. The distance between Y1 and Yf is a negative output gap.
   - Point Z shows the equilibrium of SRAS1 and AD2 to the right of the LRAS curve. The distance between Y2 and Yf is a positive output gap.

Question 6

There are many benefits of economic growth

Answer 6

1. Economic growth will increase demand for labour, leading to a fall in unemployment and higher incomes fo individuals.
2. Economic growth usually means that firms are succeeding, so employees may get higher wages. This will also produce a rise in the standard of living, as long as prices don’t rise more than the increase in wages.
3. Firms are likely to earn greater profits when there’s economic growth, as consumers usually have higher incomes and spend more. Firms can use these profits to invest in better machinery, make technological advances and hire more employees => an increase in economy’s productive potential.
4. As firms are likely to produce more when there’s economic growth then this can improve a country’s balance of payments because it will sell more exports.
5. Economic growth causes wages and employment to rise, which will increase the government’s tax revenue and reduce the amount it pays in unemployment benefits. The government can use this extra revenue to improve public services or the country’s infrastructure without having to raise taxes, which is good for individuals.
6. Economic growth will improve a governments fiscal position because if it recieves greater tax revenues and spends less on things like unemployment benefits then this will reduce the government’s need to borrow money.
7. There might be some benefits to the environment brought about by economic growth, e.g. firms may have the resources to invest in cleaner nd more efficient production process.

Question 7

Unfortunately there are some costs of economic growth

Answer 7

1. Economic growth => income inequality - low skilled workers may find it hard to get the higher wages that other workers are benefiting from
2. Higher wages for employees are often linked to an increase in their responsibilities at work. This can increase stress and reduce productivity.
3. Economic growth can cause demand-pull inflation becuase it causes demand to increase faster than supply. it cane also =>cost-push inflation as economic growth increases the demand for resources, pushing up their prices. However, the effects of inlation will be reduced if aggregate supply also increases.
4. A deficit in the b of p can be created due to ppl on higher incomes buying more imports. Furthermore, firms may import more resources to increase their production to meet the higher levels of demand.
5. Industrial expansion created by economic growth may bring negative externalities, such as pollution or increased congestion on the roads, which harm the environment and reduce people’s quality of life.
6. Beautiful scenery and habitats can be destroyed when resources are overexploited.
7. Finite resources may be used up in the creation of economic growth, which => constrain growth in the future and threaten future living standards.

Question 8

A Recession is Bad News for Most ppl…. but not everyone

Answer 8

1. A recession will usually => many firms close down, with many ppl losing their jobs. Usually means that unemployment increases.
2. Other firms may stop hiring new employees - this means young ppl are often particularly badly hit.
3. Govt spending tends to increase - e,g, due to increased unemployment benefit payments. At the same time. the amount of tax a government recieves usually falls. This => increased govt borrowing and a budget deficit.
4. Levels of investment fall -e.g. firms might reduce the amount they spend on research and development. This can => consequences on long run productive potential of the economy.
5. However, some firmss can benefit at times of recession - e,g, discount retailers can often attract more customers if ppl are feeling less confident about their economic prospects.
6. Recessions can also force firms to face up to their inefficiencies. In good times, firms might be able to get away with being inefficient in some areas. But they may need to cut costs to survive a recession. This can benefit the firm in the long run if it emerges fromt he recession more efficient than it was before.

Question 9

Short Run economic growth can be created by Increasing Aggregate Demand

Answer 9

1. A rise in AD will => short-run economic growth. When AD rises the AD curve shifts to the right.
2. An increase in AD will be caused by demand-side factors. e.g.:
   - lowering interest rates encourages investment and increases consumption
   - increasing welfare benefits increases govt spending and consumption
3. How much the AD curve shifts depends on:
   - ppl’s marginal propensity to consume, MPC
   - how big the multiplier effect is
4. The higher the MPC and the bigger the multiplier, the greater the shift to the right of the AD curve.
5. In the diagram, national output has increased from Y to Y1.

Question 10

Short Run Aggregate Supply Increases also create Short Run growth

Answer 10

1. A rise in short run aggregate supply (SRAS) will also create short run economic growth. When SRAS rises the SRAS curve shifts to the right.
2. Any factor which reduces production costs will cause an increase in SRAS. E.g:
   - A fall in the price of oil will reduce production costs and increase SRAS
   - A fall in wages will reduce production costs and increase SRAS
   * look at diagram *

Question 11

There are several ways to create Long Run Economic Growth

Answer 11

1. Long run economic growth = result of supply-side factors that increase the productive potential of the economy.
2. the productive potential of a country can be increased by raising the quantity or quality of the factors of production, e.g.
   - Through innovation e.g. new technology
   - Investing in more modern machinery (i.e. improving capital stock)
   - Raising agricultural output by using genetically modified crops
   - Increasing spending on education and training to improve human capital.
   - Increasing the popln size, e.g. by encouraging immigration, to increase the size of a country’s workforce.
3. Increase in productive potential shifts the LRAS curve to the right.
4. A government can also help to create a long run economic growth by creating stability in a country.