Introducing the Macroeconomy

Question 1

define macroeconomics

Answer 1

the branch of economics concerned with large-scale or general economic factors, such as interest rates and national productivity

Question 2

What are the major macroeconomic issues?

Answer 2

• Economic growth e.g. reducing fiscal debt
• Unemployment
• Inflation
• balance of payments and exchange rates
• Inequality
• sustainability

Question 3

define GDP

Answer 3

○ Gross domestic product- measure of economic activity in a particular boundary of a nation state (see how companies are doing)

§ Measure of productive output in an economy

Question 4

define GNP

Answer 4

Gross national product
-measures level of output/ income, level of economic activity generated by business that belongs to a particular nation state

Question 5

How to measure economic growth?

Answer 5

Income Method
Output Method
Expenditure Method

Question 6

define trend output

Answer 6

how the it is performing against its target, or collaborators (business cycle)

Question 7

define actual output

Answer 7

the growth in the quantity of goods and services produced in a country, or in other words the percentage change in GDP

Question 8

Does a GDP change matter for a firm?

Answer 8

• Economic vulnerability
  Rising GDP means the economy is growing, and the resources available to people in the country – goods and services, wages and profits – are increasing.
• If a firm’s output moves from the minimum of AC, firms may have a severe cost penalty
• It also depends on the industry and product

Question 9

define actual growth of national income

Answer 9

the % increase in actual output

Question 10

define potential economic growth

Answer 10

the % increase in the economy’s capacity

Question 11

What is the aggregate demand equation?

Answer 11

Aggregate Demand = C + I + G + X - M

○ Consumption- inner flow activity
○ Investment- outer flow activity
○ Government expenditure - spending activity
○ Net Exports (Exports - Imports)

Question 12

What is endogenous demand

Answer 12

inside the income flow

Question 13

What is Exogenous demand

Answer 13

arising from outside the income flow

Question 14

What is the Keynesian cross- 45 line

Answer 14

• relationship between national output (Y) and aggregated expenditure/ demand (vertical axis)
• At equilibrium, injections into the economy = withdrawals from the economy
  • What is produced is what is consumed

Question 15

what is the consumption function

Answer 15

• the consumption function C = a + bY
  § ‘a’- national income
  § ‘b’- income that is consume

Question 16

What is the mpc?

Answer 16

marginal propensity to consume- rate of consumption out of income

i.e. ‘b’ in consumption function

Question 17

what is the mpw?

Answer 17

marginal propensity to withdraw

Question 18

What causes the consumption function to shift?

Answer 18

• Confidence changing
• Wealth changing
• Interest rates changing
• Tax rates changing
• A change in the relative ease of credit
• A random shock - Brexit!

Question 19

What are withdrawals determined by?

Answer 19

-endogenously

• net saving: the saving function
  ○ the mps
  ○ determinants of saving
• net taxes: tax functions
  ○ the tax rate and the mpt
• imports: import functions
  ○ the mpm
  ○ effect of imports on Cd
• the withdrawals function
  ○ the mpw

Question 20

What are injection determined by

Answer 20

-exogenously

-  investment 
	○ increased consumer demand 
	○ Expectations
	○ cost and efficiency of capital 
	○ rate of interest

• government expenditure
• exports
• The expenditure function

Question 21

Determination of national income

Answer 21

• The multiplier
  ○ the circular flow of income and effects of changes in injections

§ The changes will become smaller and smaller each time
○ definition of the multiplier: ∆ Y/∆ J
○ The formula: 1 / mpw
or: 1 / (1–mpcd)

Question 22

What are the different types of unemployment?

Answer 22

• Equilibrium unemployment - good
○ Frictional
○ Structural

• Disequilibrium unemployment - bad
○ Real-wage
○ Demand-deficient

Question 23

what is frictional unemployment

Answer 23

takes time for someone to find a job

Question 24

what is structural unemployment

Answer 24

unemployment resulting from industrial reorganization, typically due to technological change, rather than fluctuations in supply or demand

Question 25

what is real-wage unemployment

Answer 25

Unemploymentthat occurs when labour market imperfections preserve a higherreal wagerate than the equilibriumreal wagerate

§ If inflation is high, real level of wages will deteriorate

Question 26

what is demand-deficient unemployment

Answer 26

insufficient demand in the economy to maintain full employment.

Question 27

What is inflation?

Answer 27

quantitative measure of the rate at which the average price level of a basket of selected goods and services in an economy increases over a period of time.

indicates a decrease in the purchasing power of a nation’s currency

Question 28

What causes inflation?

Answer 28

○ Oil prices
○ Import prices- withdrawal from national income
○ Uncertainty
○ Exchange rates
○ Interest rates and Quantitative Easing - introduction of new money into the money supply by a central bank

Question 29

Types of inflation

Answer 29

Demand-pull inflation

Cost- push inflation

Question 30

What is demand-pull inflation

Answer 30

involvesinflationrising as real gross domestic product rises and unemployment falls, as the economy moves along the Phillips curve

Question 31

What does demand-pull inflation mean?

Answer 31

□ The economy is at full employment/full capacity.

□ The economy will be growing at a rate faster than the long-run trend rate.

□ A falling unemployment rate

Question 32

How does a rise in demand affect demand-pull inflation

Answer 32

aggregate demand (AD) rises faster than productive capacity (LRAS), then firms will respond by putting up prices, creating inflation.

firms produce more, they employ more workers, creating a rise in employment and fall in unemployment.

upward pressure on wages, leading to wage-push inflation.

Higher wages increases disposable income of workers leading to a rise in consumer spending.

Question 33

define demand-pull inflation

Answer 33

inflation caused by AD increasing faster than AS

Question 34

define inflation

Answer 34

a sustained increase in the price level.

Question 35

When does cost-push inflation occur?

Answer 35

§ when we experience rising prices due to higher costs of production and higher costs of raw materials
(supply-side factors)

§ caused by an increase inpricesof inputs like labour, raw material, etc.
leads to a decreased supply of these goods

□ the demand remains constant, the prices of commodities increase causing a rise in the overall price level.

Question 36

Causes of cost-push inflation?

Answer 36

□ Higher prices of commodities
□ Imported inflation- devaluation increase price of imports, increasing inflation
□ Higher wages- higher costs
□ Higher taxes- higher price of good
□ Profit-push inflation- firm gains monopoly power, push up prices
□ Higher food prices

Question 37

Why are the main macroeconomic objectives important?

Answer 37

1. economic growth
   – this is the percentage change in GDP or GNP
   – can directly influence their profitability
   - high growth, demand is buoyant and thus so are sales and profits
2. unemployment,
   - If unemployment is low, and a firm wants to expand i.e. more workers, but there are few workers to choose from
   - a firm may have to offer a high wage to push up costs.
3. Inflation
   - should be low and stable = certainty.
   - when high (uncertainty), firms should be volatile
   - when high, Costs of production increase = affect profit margins = reduce investment

Question 38

define unemployment

Answer 38

– the number of people who do not have a job at the current wage rate, but who are willing and able to work

Question 39

define inflation

Answer 39

a sustained rise in the general price level.

measured by the consumer prices index (CPI)
or
retail price index (RPI)

Question 40

What are the benefits of economic growth?

Answer 40

Benefits

• increasing income levels = individuals consume more
• People typically feel happier the more they are able to purchase.
• sales increasing = boosting profits= owners’ incomes.
• reduce other macroeconomic problems, e.g. unemployment, = boost government tax revenues = reduce benefit payments,
• scope for redistribution,

Question 41

What are the costs of economic growth?

Answer 41

Costs

• generate extra wants, if the economy’s capacity is not increasing= see demand-pull inflation.
• push up input prices = create cost-push factors
• though incomes rise, could be that the rich get richer = negative effect on the distribution of income.
• move towards more hi-tech industries = skills made irrelevant = unemployment
• environmental costs of economic growth, e.g. rising carbon emissions, = fall in your quality of life

Question 42

What happens to each of the macroeconomic indicators at each of the 4 phases of the business cycle?

Answer 42

1. In the upturn,
   - stagnant economy begins to recover
   - growth in GDP resumes.
   - confidence grows = firms investing
   - Unemployment falls, as aggregate demand rises.
   - inflation is relatively low.
2. During the expansionary phase,
   - rapid economic growth; the economy is booming.
   - Rapid growth in consumer demand = increase confidence = firms produce/ investing more = employment increases.
   - inflation becomes problematic= costs of production will increase.
   - high prices, overseas competitiveness worsens and balance of trade deteriorates.
   - AD will shift to the right, thus boosting national output and causing unemployment to fall.
   - Inflation may rise= with rising costs, AS may also shift to the left pushing prices further up.
3. During the peaking-out phase,
   - growth slows down or even ceases.
   - business confidence decreases
   - Inflation is high, demand falls, growth falling.
   - Aggregate demand thus starts to shift back to the left.
4. during the slowdown or recession,
   - there is little or no growth or even a decline in output.
   - Prices tend to fall = competitiveness abroad improves.
   - AD shifting to the left, national output falls and unemployment rises, but inflation falls back on target.