GDP (measures of NI, circular flow, multiplier, GDPmacrotarget) Flashcards
An economy is in equilibrium when
the rate of injections = rate of withdrawals from circular flow
Define withdrawals and give examples
Withdrawals are increases in savings, taxes or imports so reducing the circular flow of income and leading to a multiplied contraction of production (output) e.g. savings, taxation, imports
Define injections and give examples
Injections into the circular flow are additions to investment, government spending or exports so boosting the circular flow of income leading to a multiplied expansion of output e.g. investment expenditure (capital like new technology), government expenditure (NHS, defence, education), UK export expenditure
What is the difference between income and wealth
Income is a flow of money going to factors of production whereas wealth is a large amount of money or possessions.
How can the productive potential of an economy and economic growth be increases
Increase labour, land, capital or enterprise
Define GDP
Gross Domestic Product is the monetary value of all the finished goods and services produced within a country’s borders in a specific time period. GDP is usually calculated on an annual basis or quarterly basis
Define economic growth
the percentage increase in the potential maximum output of an economy in a given time period, usually a year. Difficulties in measuring potential output however means that economic growth is usually measured as percentage increase in GDP in a given year
When does economic growth occur
when there is a rise in the value of GDP
Define actual growth
Actual growth is the percentage increase in a country’s real GDP and is usually measured annually and is caused by AD increases
Define potential growth
Potential growth is the long run expansion of the productive potential of an economy caused by AS increases (what could be produced if fully employed)
How can national income be measured
Gross National Product is the market value goods and services produced in one year by labour and property supplied by the citizens of a country and allocates production based upon ownership not location
- Gross National Income is the total domestic and foreign output claimed by residents of a country consisting of GDP plus incomes earnt by foreign residents minus income earned in the domestic economy by non-residents
Define the multiplier effect
The multiplier effect is where an original injection into the circular flow of income leads to secondary spending rounds and a multiplied expansion of output. The size of the multiplier depends upon household’s marginal propensity to consume (MPC). The size of the multiplier can be calculated using (1/1-MPC)
The significance of the multiplier can be used regarding changes in aggregate demand and economic growth for evaluation
Multiplier formulae
k = (1/1-MPC) = 1/MPW = 1/MPS (MPS+MPC = 1) MPW = MPS+MPT+MPM k = change in national income / change in expenditure MPC = change in consumption/change in income MPS = change is savings/change in income MPT = change in tax/change in income MPM = change in imports/change in income
Economic growth can be depicted by…
outward shift in PPF
positive shift in LRAS
What causes true economic growth (growth in potential output)
to increase the productive potential of the economy and therefore create true economic growth one of the factors of production must be increased i.e.
labour
land
capital
enterprise
increase retirement age, immigration
Name and explain a measure of economic activity
GDP is the total value of all goods and services produced over a given time period excluding net property income from abroad
Problems with GDP
GDP figures are often used to indicate living standards however problems are:
differences in the distribution income and wealth - richest 20% have massive economic growth whereas poorest have very small growth so GDP usually measures richest
externalities - more goods = more pollution, GDP does not take into account externalities
hidden economy - black market not recorded e.g. tax fraud
non-marketed goods - such as healthcare or education which are free so hard to value
Costs and benefits of economic growth on consumers
higher wages and less unemployment and higher confidence so more consumption meaning standard of living improves
growth doesn’t benefit everyone equally and those on low fixed incomes might feel worse off if high inflation and inequality could increase
higher demand pull inflation due to increase AD from consumption increase
consumers face more shoe leather costs meaning spend more time and effort finding best deal while prices rise
benefits of consumption may not last after first few units due to law of diminishing returns which states that the utility consumers derive from consuming a good diminishes as more of the good is consumed
Costs and benefits of economic growth on firms
Firms could face more menu costs as a result of higher inflation as they keep changing their prices
increase wage pressure, pay higher wages as employment more scarce, loss of profits
higher demand means more profit which increases investment - also driven by higher levels of business confidence
higher levels of investment could develop new technologies to improve productivity and lower average costs in the long run
As firms grow, they can take advantages of the benefits of economies of scale
If there is more economic growth in export markets, firms may face more competition which will make them more productive and efficient but will also give them more sale opportunities
Cost and benefits of economic growth on the government
Benefit - the government budget might improve, since fewer people require welfare payments and more people will be paying taxes
Cost - government might increase spending on healthcare if consumption of demerit goods increases
Impacts of economic growth on current and future living standards
Cost - high levels of growth could lead to damage to the environment in the long run due to negative externalities from the consumption and production of some goods and services e.g. oil in cars
Benefit - as consumer incomes increase some people may be able to show more concern about the environment
lead to development of technology to produce more eco-friendly goods and services
higher average wages mean consumers can enjoy more goods and services of higher quality and more goods means better standards of living
public services improve since governments have higher tax revenues so can afford to invest in services leading to increase in life expectancy and education levels
How can you use the significance of each component of AD to help evaluate
Consumption affects AD a lot more than Net exports so when looking into AD changes, Net exports will not affect it dramatically whereas consumption would
As you input money into the economy there is a
multiplied increase (100%) of the inputted amount in the economy
What is economic growth and how is it depicted
Expansion of productive potential of the economy
depicted by an outward shift in the PPF or in the LRAS curve
Short term growth is calculated…
annually by the percentage change in real national output
Long term growth is a _____ which is a _____
trend
potential
Factors which cause economic growth
Increase in aggregate demand
Improving the labour force with a better quality and quantity to increase productivity
Improved, more productive technology
More investment to fuel growth
Capital deepening which is an increase in the size of physical capital stock
Discuss international trade for export led economic growth
Export led growth occurs when countries open up their economies to the international market (e.g. China). International trade is important for this as counties can specialise where they have a comparative (when it can produce at lower opportunity costs than others) increasing world output and lowering average costs
However means economy is unbalanced since surplus on current account so unsustainable as relies on economic state of other countries so if consumer country in recession exports and growth falls
Economic growth occurs when
there is a rise in the value of Gross Domestic Product
GDP measures the
quantity of goods and services produced in a economy
Real GDP is the
value of GDP adjusted for inflation
Nominal GDP is the
value of GDP without being adjusted for inflation
Total GDP is the
combined monetary value of all goods and services produced within a country’s borders during a specific time period
GDP per capita is the
value of the total GDP divided by the population of the country
Gross national product is the
market value of all products produced in a year by the labour and property supplied by the citizens of once country
Gross national income is the
sum of value added by all producers who reside in a nation plus product taxes plus receipts of primary income from abroad
National income is the
total value a country’s final output of all new goods and services produced in one year
Circular flow of income is
the way income flows between firms and households through factors of production and goods and service with injections and withdrawals from the government, the trade sector and the foreign trade` sector through investment imports and savings
Purchasing power parity is the… and why is it good
exchange rate at which a unit of currency will buy a bundle of goods and services wherever it is spent
which helps minimise misleading comparisons between countries and makes it more accurate when comparing them
What are the limitations of using GDP to compare living standards between countries over time
GDP does not give any indication of distribution of income leading to inaccurate representations of average living standards within a country
may need to be recalculated in terms of PPP so that it can account for international price differences
there are large hidden economies unaccounted by GDP making it misleading
gives no indication of welfare unlike happiness index
What is the long-term trend in growth rates
the long run expansion of the productive potential of an economy caused by an increase in AS
What is the potential output of an economy
what the economy could produce if resources were fully employed
When does an output gap occur
when there is a difference between the actual level of output and the potential level of output measured as a percentage of national output
A negative output gap occurs when… and what are the effects
A negative output gap occurs when the actual level of output is less than the potential level of output putting downward pressure on inflation – usually means there is the unemployment of resources in an economy so labour and capital are not used to their full productive potential meaning lots of spare capacity in the economy
negative output gap using ASAD - Equilibrium < LRAS therefore negative output gap, LRAS is potential output
A positive output gap occurs when… and what are the effects
A positive output gap occurs when the actual level of output is greater than the potential level of output. It could be due to resources being used beyond the normal capacity such as if labour works overtime. If productivity is growing, the output gap becomes positive putting upwards pressure on inflation e.g. China
positive output gap using ASAD - Equilibrium > LRAS therefore positive output gap
What is meant by the short run
The short run is defined as the period when money wage rates and the prices of all other factor inputs in the economy are fixed.
Why does aggregate supply slope up in the short run
Assume that firms wish to increase their level of output. In the short run, they are unlikely to take on extra workers. Taking on extra staff is expensive; sacking them is costly in monetary terms and in terms of industrial relations within the company. So firms tend to respond to increases in demand in the short run by working their existing labour force more intensively, for instance through overtime. Firms will need to provide incentives to workers to work harder or longer hours. In many sectors of the economy, firms have the power to increase their prices in response to these increasing labour costs. It only takes prices to increase in some sectors before the general price level increases explaining the upward sloping short run AS curve.
Why does the aggregate demand curve slope downwards
Diminishing marginal returns to the variable factor - when you increase labour the increase in productivity is reduced but costs of producing more is higher as labour cost is fixed and returns decreases. Average units cost more due to DMR so output only increases if price increases
Negative output gap means that
downward pressure on inflation
Positive output gap means that
upward pressure on inflation
Positive output gap achieved when
actual GDP > potential GDP
Effects of positive output gap
- Some resources including labour are likely to be working beyond their normal capacity e.g. making extra use of shift work and overtime.
- The main problem is likely to be an acceleration of demand-pull and cost-push inflation.
- A positive output gap is associated with countries where an economy is over-heating because of fast and rising demand - a good example of this might be countries such as India and China
Negative output gap achieved when
If actual GDP is less than potential GDP
Effects of negative output gap
Some factor resources such as labour and capital machinery are under-utilized and the main problem is likely to be higher than average unemployment
A rising number of people out of work indicate an excess supply of labour, which causes pressure on real wage rates.
Keynesian vs classical in output gap and unemployment
Keynesian economists believe there is always a negative output gap in the short run and long run and there is always unemployment and to reduce unemployment you must increase aggregate demand
Classical economists believe markets clear in the long run so there is full employment and there are output gaps in the short run but not the long run as they clear because each micro-market clears at equilibrium in the long run
In a classical economists LRAS diagram with 3 AD curves and one LRAS curve (ALWAYS COMPLETELY VERTICAL AS FULL UNEMPLOYMENT) where is the output gap
Negative output gap between Ye and Y1 and a positive output gap between Ye and Y2
In a Keynesian economists LRAS curve with one LRAS and two AD where is the output gap
Negative output gap between Y1 and Y2 as
Output vs time graph shows what
potential growth straight line y-intercept just above origin
actual growth curve started just above and fluctuating either side of potential growth. In the semicircle above potential growth there is a positive output gap because actual growth > potential growth and in the semicircle below potential growth there is a negative output gap because actual growth < potential growth
The calculation for the output gap is
Actual output - potential output
Y-Y* (Y*=potential output=LRAS) (Y=actual output)
equilibrium < LRAS
If +ve then inflationary gap i.e. the growth of aggregate demand is outspacing the growth of aggregate supply causing demand-side inflation
If -ve then recessionary gap causing deflation
In classical LRAS how to know whether negative or positive output gap
equilibrium < LRAS negative output gap
equilibrium > LRAS positive output gap
LRAS = potential output = Y*
Problems with using GDP/Capita as a measure of living standards
Black market
Wealth inequalities
Negative externalities
GDP growth rates in LEDCs
Lower and more volatile
Doesn’t take into account diseases
Alternative to measuring GDP growth, national happiness
Objective measures: incomes, unemployment, life expectancy
Subjective measures: surveys, job security
Pros of HDI as a measure of living standards
broader perspective
easier to compare
uses education and health so more accurate
Cons of HDI as a measure of living standards
PPP values volatile
little sense of income distribution
difficult to measure human development
