economic performance Flashcards
define inflation
acpntinuing rise in the average price level
what happened to inflation in the financial crisis 2008
average price level fell
two basic causes of inflation
excess aggregate demand
general rise in the costs of production
define demand pull inflation
a rising price level caused by an increase in agreggate demand
how is demand inflation shown on a diagram
shift of AD curve to the right
why does the price level have to rise (demand-pull)
to encourage firms to produce beyond point on sras curve to meet excess demand
where is the equillibirum at after AD curve shifts
on LRAS as capacity has increased
what happens as a result ofn AD shifting to the right
reflation of real output and employment and inflation of the price level
define cost push inflation
a rising price level caused by an increase in the costs of production
how is cost push inflation shown on a diagram
a shift of the SRAS curve to the left on an AD/AS diagram
exmaples of rising productin costs
real wage-cost inflation
rising price of energy/commodities
what causes real wage cost inflstion
the growth of monopoly power in labour markets
trade unions in keynsian era collective bargaining increasing wages
what happens as SRAS shifts to the left
rise in price level and fall in national output as firms willing to produce less
global cause of import cost inflation
rise in world commodity price inflation
what happens when world economy is strong or in recesion to uk inflation
strong - imports inflation from other booming economies rising prices
recession- uk inflation is reduced
what would a fall in pounds exchange rate cause
imported cost push inflation
significant after 2008
quantity theory of money
old theory that inflation is caused by a persistent increase in the money supply
disadvantages of inflation
distributional effects
distortion of normal economic behaviour
international uncompetitiveness
distribution effects
weaker social groups in society will be worse effected
distortion of normal economic behaviour
diverting funds out of investment to unproductive hoarding and speculation
international uncompetitiveness
exports increase in price when inflation in uk is higher than competitor countries
lower growth and unemployment are likely result if there is a fixed exchange rate
three causes of deflation
fall in AD
negative multiplier effects
credit crunch
current account deficit
when currency outflows in the current account exceed inglows
current account surplus
when currency inflows exceed outflows
balance of trade in goods
the part of the current account measuring payments for exports and imports
net investment income
diiference between inward and outward flows of investment income
example of foreign direct investment
BP investing in the construction of an oil refinery in the US gold coast region
short run growth
One factor is fixed e.g capital
Long run growth
Both labour and capital are variable, economy is not at full capacity
Trend growth rate
That rate at which output can grow, on a sustained basis, without putting pressure on inflatiom
Shifts of AD
Changes in C+I+G=(X-M)
Shifts of AS
Investment
Technical progress
Increase in size of labour force
Growth rate increase in 2002
2.5% to 2.75%
UK growth rate in 2014
3%
Phases in the economic cycle
Recovery
Boom
Peak
Recession
Trough
What is a trough also known as
Depression
Causes of change in the phases of the economi
Fluctuations in AD
Supply side factors
Political business cycle theory
Role of speculative bubbles
Outside economic shovks
Role of speculative bubbles
Rapid economic growth = rapid rise and speculative bubbles in asset prices
Asset selling replaces asset buying
Causes speculative bubble to “burst” destroying confidence
People stop spending and economy goes into recession
Excess growth and credit debt
Outside shocks hitting the economy
Demand and supply side shocks
Effects AS and AD
E.g effect on other countries from war in the Middle East
Such as business confidence in UK falling
Or lead to oil shortages effecting costs of production (supply side shock)
Climatic cycles
Weather may effect quality of harvests and prices of produce
Effects business confidence and gives a rise to trade cycles
Benefits of economic growth
Increase living standards
More environmentally friendly technology
Higher business confidence- increase in investment- profits- growth
Increases fiscal dividend tax revenue from growth
Increased life expectancy
Cost of economic growth
May use up finite resources
Pollution
Environmental degradation
Low business confidence
Urbanisation/urban sprawl into agricultural land
Wide inequalities in the distribution of income and wealth
Positive output gap
The level of actual real output in the economy > the trend output level
Negative output gap
The level of actual real output in the economy < the trend output lebel
GDP is below productive potential
What are the two main measures of unemployment
Claimant count
Labour force survey
Seasonal unemployment
Occurs when workers are laid off in a short term basis
Mostly in trousism, agricultural and catering sector
Caused by fluctuating weather or demand
Frictional unemployment
Usually short term and occurs when a worker switches between jobs
Features of frictional unemployment
Geographical immobility
Occupational immobility
Structural unemployment
Long term unemployment offering when industries decline
If automation reduces demand for human labour
Associated with geographical and occupational immobility
Cyclical unemployment
Unemployment caused by a lack of AD in the economy and occurs when the economy goes into a recession or depression
Diagram for cyclical unemployment
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Analysis of cyclical unemployment diagram
Collapse in business/consumer confidence shifts AD leftwards
Keysnian economist argue that price wages are sticky = defiencien AD persists
Equilibrium level of national income falls
Anti Keynesian/free market view on cyclical unemployment
Assume markets for goods and labour are competitive
Reducing costs of production will increase output
It is temporary and self correcting
Given that markets are sufficiently competitive and prices and wages are flexible
Real wage unemployment
Caused by real wages being stuck above equilibrium real wage
Draw real wage unemployment diagram
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What is created by real wage unemployment
Excess supply of labour
Free market economist views on real wage unemployment
It is temporary
Market forces will fix problem bid down wage to wFE to get rid of excess supply
Restores eFE
Voluntary unemployment
Refusal of job offers, choose to stay unemployed at current market wage rates
Involuntary unemployment
Willing to work for the current market real wage, but there are no jobs available/suitable for ghem
Natural rate of unemployment
Rate if unemployment When aggregate labour market is in equilibrium
Draw a diagram to show the natural rate of unemployment
Page 205
Analysis of natural rate of unemployment diagram
When ADL=ASL
Full employment at eFE
Distance between ASL and ADL shows frictional and structural unemployment in the economy
EFE - E1 is the natural rate of unemployment
Consequences of unemployment
Economy produces inside PPF
Reduction in international competitiveness
Reduce incentives to invest in technology (which may increase exports)
Higher business taxes firms must pay to help finance welfare benefits
Widening of income differentials
Marginalised from normal activity, risks to health, diet, social issues
Advantages to unemployment
Provdes downward pressure on wage rates and reduces inflation
Income differentials provide an economic incentive
How can geographical immobility be removed
Subsidise moving costs
Spending on rented social housing in areas of labour shortages
How can frictional unemployment be improved
Job seekers allowance/ universal benefit
Contributions based allowance
Can only be claimed in first months of unemployment, acts as an inventive
Real effective way to improve frictional and structural unemployment
Economic growth to increase demand of firms for employees
Improving structural unemployment
Govt spending on retraining schemes
Supply side policies to improve competitiveness and efficiency of markets
Inflation in the 1970s
15%
Inflation in mid 1970s
25-26%
Equation of exchange
MV=PQ
Costs of inflation
Distributional effects
Distortion of normal economic behaviour
Breakdown in the functions of money
International uncompetitiveness
Benign/good deflation
Reduces business cost of production
Improvements. In supply side
SRAS and LRAS curve shift to the right
AD curve does not shift
Price level falls
Malign/bad deflation
Collapse of aggregate demand
Negative multiplier effects
Credit crunch
LRAS and SRAS does not shift
AD shifts leftward
Price level falls
Real value of debt during deflation
Rises
Reduces net wealth
Leads to lower spending