how the macroeconomy works (no AggSupply) Flashcards
1
Q
what are economic systems?
A
These are systems of production, resource allocation and distribution of goods and services in a given geographic area
An economic system is a network of organisations used by a society to resolve the basic problem of what, how much, how and for whom to produce.
2
Q
There are three possible types of economic systems:
A
The planned economy
The market economy
The mixed economy
3
Q
list point about the planned economy
A
AKA a command or controlled economy
In this type of economy, the government decides everything
The government controls all the factors of production – land, labour, capital and enterprise
4
Q
the free market economy
A
In this type of economy, private individuals make the majority of the decisions about what to produce
The job of the government in this economy is minimal
5
Q
list points about the mixed economy
A
In this type of economy, private sector businesses will provide some goods and services, while the government will organise the provision of others through the public sector
Most countries are mixed economies
6
Q
GDP = what three components?
A
GDP = national output = national income = national expenditure
7
Q
what does national output measure?
A
National output measures the actual goods and services produced by the economy
8
Q
what does national expenditure measure?
A
national expenditure measures the spending of these incomes on the goods and services
9
Q
what does national income measure?
A
national income measures the incomes received by labour when producing the goods and services
10
Q
injections equation
A
Injections = I + G + X
11
Q
withdrawals equation
A
Withdrawals = S + T + M
12
Q
AD formula
A
AD = C + G + I + (X-M)
13
Q
what is aggregate demand?
A
Aggregate demand is the total demand for a country’s goods and services at a given price level and in a given time period
14
Q
what is the price level (according to aggregate demand )
A
The price level is the average of current prices of all products produced in an economy
15
Q
what are the four agents in an economy ?
A
Products and services can be bought by:
Consumers
Firms
Government
Economic agents living in another country
16
Q
what are the components of AD?
A
Aggregate demand is made up of the following:
Consumer expenditure (C)
Investment (I)
Government spending (G)
Net exports (X-M)
17
Q
What is consumption also known as?
A
Consumer expenditure
18
Q
what is the largest component of aggregate demand in most countries ?
A
Consumer expenditure / ‘consumption’
19
Q
how is AD cacluated?
A
AD = C + I + G + (X-M)
20
Q
what are the factors influencing consumer expenditure / consumption?
A
Real disposable income
Rate of interest
Consumer confidence
Asset prices
Level of household indebtedness
21
Q
what is credit?
A
borrowed money
22
Q
why do many firms depend on credit?
A
Many firms depend on credit in the form of bank loans and/or overdrafts to help finance their business activities
23
Q
what is interest rate?
A
refers to the %rate of the reward for lending
It is also defined as the cost of borrowing
24
Q
what is availability of credit?
A
the level at which banks are willing to lend
25
There is the possibility that spending may not rise when the rate of interest falls . Why?
People may think the reduction is temporary
They may delay spending if they think rates will fall further
26
what happens if there is a high consumer confidence ?
If there is high consumer confidence then consumers will have a higher propensity to consumer
27
What can affect consumer confidence?
Expectations of the future state of the economy – job prospects , levels of unemployment (as well as expected levels of unemployment)
28
what is asset prices?
Asset prices link to wealth – how wealthy people feel
The wealthier people feel, the higher their propensity to consume
29
describe level of household indebtedness
The higher the level of indebtedness, the higher the level of saving
This means that there is less consumption taking place in the economy
30
what is aggregate demand ?
Aggregate demand is the total demand for a country's goods and services at a given price level and in a given time period
31
investment
spending on factors of production e.g. machines and office buildings , to increase their productive capacity
investment is an asset or item acquired with the goal of generating income or appreciation
32
appreciation
an increase in the value of an asset over time.
33
Productive capacity
the maximum possible level of output that an economy is able to produce
Investment can be into physical or human capital
34
capital depreciation
decrease in asset value
35
factors affecting investment
Interest rates
Business confidence
Corporation tax
Spare capacity
Level of competition
Price of capital
36
what are the two ways firms will finance investments ?
either by borrowing money or by investing retained profits
37
how would businesses react to interest rates growing ?
if interest rates grows - then the cost of borrowing is higher for firms, which may lead to a lower incentive for businesses thereby Resulting in lower investments as the propensity to invest will be lower (opposite happens when interest rates fall)
38
what determines business confidence?
what happens if business expectation are high?
What determines business confidence is the expectation of future profit and the expectation of future demand in the economy
if these expectations are high, then business will be more propense to make sure investment take place so they can meet the demand- investment will rise
(opposite occurs when these expectations are low)
39
what is retained profit?
the amount of profit left after corporation tax
40
what is corporation tax?
a tax on business profits
41
describe the effect of levels of corporation tax on investments
A cut in corporation tax results in a higher incentive to invest, because businesses have higher retained profit left and therefore there is a greater potential for businesses to invest
Therefore, investments will inevitably increase
42
what is spare capacity?
when there are unused factors of production
e.g. machinery a manufacturing firm my not be using up all its machines and therefore not producing as much as it could do at its full potential
43
if there is spare capacity do firms need to invest?
no
44
describe the effect of spare capacity on investments
So, the greater the level of spare capacity, the lower will be businesses' propensity to invest as there is not as much needed for capital
Opposite occurs when businesses are operating close to capacity
45
describe the effects of level of competition on investments
If competition is strong and lots of firms are improving their technology, spending more on R&D, spending more on innovation, then it is likely that other businesses will react to it
This means that more and more businesses are investing in the economy leading to a much higher investment level
Businesses will try all they can to get ahead of their competition thereby increasing investment
46
what is the accelerator effect ?
when the expectation of growth of GDP in the economy is high and this encourages further investment by businesses
47
describe the effects of price capital on investments
The lower the price of capital the higher the incentive to invest because investment is less costly
48
what is government spending ?
spending by the public sector on goods and services such as education , health care and defence
49
what is the government budget?
The government budget is a document prepared by the government presenting its anticipated revenues and proposed spending for the coming financial year
50
revenues
the income that a firm receives from the sale of a good or service to its customers
Revenues - the value of output sold, that is the number of units times the price per unit
51
what are the four types of government spending?
current spending
capital spending
welfare spending
debt interest payments
52
current spending
(1)Current spending – spending on maintenance of public services (maintain of the NHS, schooling etc) and payment of public sector wages
53
capital spending
(2)Capital spending – spending on infrastructure projects (e.g. spending on new airports, motorways, bridges etc.)
54
welfare spending
(3)Welfare spending – spending on benefits and pensions, child support (for the UK biggest chunk of government spending)
55
debt interest payments
(4)Debt interest payments – debts a nation needs to pay
56
what happens if current , capital and welfare spending increase?
If 1,2 and 3 increases – this results in government spending going up shifting AD to the right
Crucially, an increase in (4) this may not result in higher G because some of the debts may be to foreign countries or the EU etc
57
budget deficit
where G > T( tax revenue ) government spending is larger than the taxation revenue in one fiscal year
58
budget surplus
Budget surplus – where T > G in one fiscal year
59
national debt
National debt – the total accumulation of debt over time
60
what are some factors influencing government spending ?
government intervention level
level of economic activity in the country
a desire to please the electorate
61
Factors influencing government spending :
Government intervention level
Government intervention level – generally the higher the level of intervention the higher government spending
In countries where there is a high level of state intervention there is a positive correlation to the amount spent by governments as a proportion of AD
62
Factors influencing government spending:level of economic activity in the country
If there is high unemployment, a government may increase spending to raise aggregate demand and the output of the economy
63
Factors influencing government spending: a desire to please the electorate
Voters can put pressure on the government to spend money in certain areas, such as health and education
This is especially true during the run-up to the general election
64
trade surplus
A trade surplus is when exports are greater than imports and is added to AD (X>M)
65
trade deficit
A trade deficit is when exports are less than imports and is taken away from AD (X
66
exports
Exports are goods and services sold from abroad, income from exports counts as an injection in the circular flow of income and adds to AD
67
imports
Imports are the goods and services bought from abroad, imports count as a leakage from the circular flow of income that can shift AD to the left
68
formula for net exports
x-m
69
AD formula
AD = C + I + G + (X – M)
70
what happens to AD if exports increase and (X-M) is positive?
AD shifts to the right
71
what happens to AD If imports increase and (X-M) is negative?
AD shifts to the left
72
discuss the effects of Real disposable income abroad
If there is a boom abroad then individuals abroad are getting wealthier therefore their marginal propensity to import is likely to increase
This means that for the domestic country , will be able to export more abroad so exports will increase and so will AD
Visa versa
73
discuss the effects of Real disposable income earned in the domestic country
If there is a boom in the UK, then the marginal propensity to import in the UK is likely to rise
This is also known as the sucking-in effect of imports
Therefore, import expenditure is likely to rise, which will increase M pulling down the value of (X – M ) and finally resulting in a shift to the left in AD if the other components do not change
74
what does SPICED stand for ?
Strong pound, imports cheap, exports dear (expensive)
when the pound is strong, imports go up and exports decrease so AD shifts inwards
75
what does WIDEC stand for?
Weak pound, imports dear, exports cheap
when the pound is weak, imports go down and exports increases and AD shifts outwards
76
what is protectionism and what is its aim?
Protectionism involves any attempt by a country to impose restrictions on the open trade in goods and services
The main aim of protectionism is to protect domestic businesses and industries from overseas competition
77
discuss protectionism at home and abroad
Where there is strong protectionism abroad, the value of X will be lower and when protectionism is not strong abroad then the value of X will be higher
If there is protectionism at home then the value of M will be low (e.g. America vs China), whereas when we do not have strong domestic protectionist, it is easier for foreign countries to trade with us, therefore X will rise
78
discuss the effects of relative inflation at home and abroad
If inflation in the UK is higher than inflation in other countries around the world, especially than in countries that are our major trading partners, then it is less attractive for such foreign countries to purchase UK goods. Therefore, demand for X decreases and M increases and vice-versa
If there is low relative UK inflation, and therefore if inflation is higher in foreign countries than in the UK, it becomes more attractive for foreign countries to purchase from the UK and therefore X increases but M decreases
79
wealth effect
when the price levels are high, inflation is going up . This means that the value of assets falls. Therefore spending levels in the economy decreases. People feel less wealthy.
80
interest rate effect
if price levels are high, then interest rates will be raised. This will cut spending
81
international trade effect
the higher the price levels in the domestic economy (UK), the lower individuals abroad purchase from the UK
82
what is a demand side shock?
give an example of a negative shock
is anything (positive or negative) that causes AD to change.
Examples of a negative shock could be an interest rate rise, a collapse in the housing market, etc.
83
what are the effects of a demand side shock?
As well as a fall in real GDP, this could have a knock-on effect on confidence, leading to further falls in activity.
The multiplier and accelerator effects could magnify the impact of any initial negative shock.
Keynesians may suggest government intervention would be required at this point.
84
according to AD, what can changes in the average price level lead to?
The average price level can lead to several things:
Real incomes: A rise in the average price level can lead to the real value of income to drop.
Balance of trade: If the average price level of a foreign country fell, domestic consumers would demand more imports, causing a contraction in AD.
Interest rates: If the average price level rises, there will be inflation.
85
what does MPC stand for?
marginal propensity to consume
86
MPC definition
the tendency to spend or to consume some portion of each extra amount of income received
87
MPS defintion
the tendency to save a proportion of income you receive
88
MPC + MPS =
1 or 100%
89
what is the multiplier?
The multiplier is the process by which any change in the components of AD will lead to an even greater change in national output (GDP)
90
multiplier formula
Multiplier = 1/(1-MPC ) - work out value in brackets first
91
multiplier x initial change in spending =
Change in GDP
92
accelerator effect
The accelerator effect focuses on the component of investment
It simply states that changes in investment can be directly linked to changes in the rate of GDP
Therefore, when the rate of growth is increasing, firms will be more willing to invest because these firms think demand will be higher in the future. If growth is higher in the future then now is a good time to invest in new capital
And visa-versa
