Macro Flashcards
define wealth and income
wealth: stock of assets that can be used to generate a flow of production or income.
Income: a flow of payments made to the owner of a factor of production.
Key Macroeconomics Objectives
Stable Economic growth
Low unemployment
Low stable inflation
Balance of trade
Balanced government budget
Low Inequality
Environmentally sustainable
compare real and nominal GDP
Nominal GDP: uses the market prices of the time period
Real GDP: uses “constant prices,” easier to compare across time periods
Purchasing Power Parity (PPP)
measurement that corrects for differences in what $1 will buy in different countries by using a system of non-market exchange rates between currencies based on how much it would cost to buy a basket of goods in each country.
Gross National Income
GDP + net primary and secondary income from abroad
Eval for shifting AD
Dep on the level of spare capacity and the state of the economy (inflationary?)
Dep on the proportion of the determinant in AD
Dep on how big the shift is
Multiplier
Crowding in/out
crowding in and crowding out
Crowding in: when increase in G leads to increase in I due to higher business confidence
* Happens when the economy has large spare capacity
* Increase G –> increase AD –> increase rGDP –> increase business confidence –> increase I
Crowding out: when increase in G leads to decrease in I due to competition for FoP
* Happens when the economy has little spare capacity
* Gov increases borrowing –> increase d for loans –> increase IR –> increase cost of borrowing –> higher business risk –> firms decrease borrowing –> decrease I
Marginal propensities to save/consume
how much in every $1 is saved/consumed
gross and net investment
Gross investment: total spending by firms on new capital inputs
Net investment: gross investment – depreciation of value of goods
the multiplier
when the total increase in AD is greater than the value of the injection
characteristics of a recession
Falling real GDP
Rising unemployment
Disinflation (reduction in rate of inflation)
Reduced business investment
Lower industrial production
characteristics of a boom
Lower unemployment
Accelerating inflation rate
Rising asset prices
key features of export led growth
Specialisation in their comparative advantages
Economies of scale
Job creation: positive multiplier effects
Environmental Kuznets Curve
theoretical framework that suggests a non-linear relationship between environmental degradation and economic development.
Consumer Price Index (CPI)
Compares the price of a weighted basket of goods and services in a given year with the same basket of goods and services in a base year.
Economic indicator of inflation and cost of living
limitations of CPI
Only updates the basket of goods once a year – time lag
Does not include housing costs
A “typical” household does not exist
Shows price but not quality – there could be an increase in price AND quality but CPI only shows inflation
Retail Price Index
Includes g+s that CPI excludes (eg. Housing)
Excludes top and bottom 4% of households (in terms of income)
types of inflation
cost push: when SRAS shifts in
demand pull: when AD shifts out
problems with high inflation
Greater inequality as price of real estate tends to rise)
Falling real incomes and real value of savings, ceteris paribus
Negative IR when rate of inflation is higher
Higher cost of borrowing (due to increased IR)
Reduce international competitiveness in exports
Slower economic growth
deflationary spiral
Prices fall –> Consumers delay spending –> Firms reduce demand for inputs –> Falling C and B confidence –> prices fall
inflationary Wage-Price Spiral
the situation where workers bid for higher wages because real income is eroded by rising prices.
successful if workers have strong bargaining power
underemployment
When a worker is working fewer hours than they would like to work
Workers are under-utilised in their ability, qualifications and experience
who is classified as being unemployed?
Within the working age (16 – 69)
Willing and able to work
Looking for a job in the past 4 weeks
measure of uneployment
Labour force survey (by ILO) - asks households if they are employed, unemployed, or economically inactive
Claimant count - number of recipients of Job Seekers Allowance + those on Universal Credit who are required to look for work
Usually less than ILO survey because
Not all unemployed claim benefits
Not all unemployed are eligible for benefits
types of unemployment
Frictional: Workers between jobs/ new entrants to the labour force
Seasonal : Where demand for labour in some regions/industries varies in seasons
Structural (long-term unemployment): Mismatch between supply and demand for labour; worst type
Classical/Real-wage: Mismatch between productivity and real wages
Cyclical: In response to the business cycle, higher in a recession and lower in a boom
Balance of Payments
tracks the flow of money in and out of a country
made up of the current account and the capital and financial accounts.
types of policies
Contractionary: decrease in real GDP
Expansionary: increase in real GDP
Fiscal: policies that influences the government budget/ changes G.
Monetary: policies that involves in money supply or interest rate.
Demand-side: shifts AD
Supply-side: shifts AS
monetary policies
controlled by the central bank
money supply, IR, exchange rates
Quantitative Easing
to increase domestic money supply to indirectly lower IR when IR is 0
Expansionary demand-side monetary policy
gov “prints” money to purchase gov bonds –> increases money supply –> decreases IR
eval for monetary policies
Commercial banks don’t have to follow the base rate set by BofE.
When monetary and fiscal policies do not collaborate, the effect on the economy can limited.
fiscal policies
policies to do with government spending and/or taxation
how is absolute poverty measured?
Measured by international and national poverty lines
Different between countries due to different costs of living
absolute poverty and relative poverty
absolute poverty: when basic needs are not met
Relative poverty: unable to afford a reasonable standard of living in their society
functions of world trade org
Promotes free trade (doesn’t have real power over trade agreements, they just oversee them)
Acts as a forum for trade negotiations
Settling trade disputes
eval for Branco Milanovic’s Curve (elephant’s curve)
The impact of globalisation dep on the level of development/wealth of the country
There is still a group of people harmed from globalisation - Benefits of globalisation is unevenly distributed
Conclusion: globalisation benefits most people, so free trade is generally good.
dep on industry: Certain industries could benefit from EofS to lower cop and increase profit
how is relative poverty measured?
Measured by earning less than 60% of median income
UK poverty measurements
income measures
material deprivation
Branco Milanovic’s Curve
the very poorest are locked out of growth (in conflict, low hc, lack of infrastructure…)
rising LEDCs benefit most (eg china) - experience offshoring from MEDCs due to lower cop, increase employment –> … –> growth
decline of MEDCs - factories are offshored to countries with lower cop so increase umemployment and negative growth
booming firms increase profit from offshoring, increased market size
causes of globalisation
rise of middle class households
technology
rise of trade blocs
containerisation
characteristics of globalisation
rise of global brands
increase geographical labour mobility
global supply chain
increased volume of trade
The Theory of Comparative Advantage
Countries should specialise in the good or service that they can produce at the lowest opportunity cost and trade for the rest
terms of trade
(Index of Export prices)/ (Index of Import prices) x 100
absolute and comparative advantage
Absolute Advantage: when one country can produce more of a good or service than another country can with a given amount of resources (FoP).
Comparative Advantage: when one country can produce a good or service at a lower opportunity cost than another country can.
eval for WTO
WTO is hindering growth in LEDCs by stopping protectionist measures from being imposed: infant industry argument
Some economists support the theory of competitive advantage, BUT some economists believe that diversification helps improving development as they become less vulnerable to shocks in specific industries.
criticisms of WTO
Free trade benefits MEDC more than LEDC (elephant’s curve)
Failure to reduce tariffs on MEDCs
Free trade ignores environmental considerations
Resolution of WTO disputes takes a long time (years)
types of trade blocs
free trade area
customs union
common market
monetary union
political union
disadvantages of trade blocs
Administration costs: OC
Loss of sovereignty (except in a free trade area)
Loss of international competition
advantages of trade blocs
Access to larger markets: increase market size–> increase demand –> increase X –> increase AD –> increase RGDP
Greater international bargaining power: could negotiate for better trade deals as the other party is risking a larger market size
Increase in competition between members: no tariffs mean domestic firms are same competition as that of other countries; reduce price, increase innovation, reduce cost
Use of new technologies (knowledge transfer): reduce cost of importing technologies –> lower cop –> lower price of g/s
eval for trade blocs
a small country/economy could benefit more from being in the bloc as they individually would have a significantly lower bargaining power
Benefits efficient states that the expense of weaker
Problems of Free Trade Areas
Countries with higher barriers to trade will receive less tax revenue than others in the bloc as they have no common external barriers to trade
Conditions necessary for the success of a monetary/currency union
Respond fiscally similarly to external shocks
Flexibility in product and labour markets (labour mobility)
Fiscal transfers
- to even out the stages of the business cycle
disadvantages of a monetary union
Loss of sovereignty
problematic if countries are in a different stage of the business cycle
Exchange rate is an average so it can be dragged down by countries who are performing worse (weak and unstable) (eg. Greece 2010 debt crisis)
advantages of a monetary union
Exchange rate will be determined by average demand for currency: More stable
Removes the need for internal exchange rate
Lower cost of transaction when trading so smaller info gaps as people know how much they are spending
tariffs
tax on imports
Quota
a limit on the number of imports of a good or service allowed
Reasons for Restrictions on trade
Increase Domestic Employment
Infant Industries Argument
Retaliation
Political pressure
eval for tariffs
PED of imports
Domestic PES
How tariff revenue is used
leads to Income inequality as indirect taxes tend to be regressive
Demand-pull inflation from decreased imports and Cost push inflation from increased cop
Retaliation
Dep on closeness of substitutes (if any)
Dep on whether there are other importers with no tariffs
Having a broad/blanket tariff on many goods offsets the effect of tariffs
are tariffs effective? Tariffs increase the price of imports –> reduce demand for imports –> reduce demand for foreign currency –> increase value of domestic currency –> imports look cheaper –> increase demand for imports
eval for quotas
Risk of black markets: expensive and hard to regulate
Does not generate gov revenue (relative to tariffs)
Better method to reduce imports when PED/PES is inelastic (relative to tariffs)
causes of CA surplus
Falling real incomes –> decrease d for im –> decrease C inc im –> CA surplus
High IR –> more benefit of saving –> decrease d for im –> decrease C in im –> CA surplus
Long term improvement in TOT –> exports worth more than imports –> increase ex, decrease im –> CA surplus
High investment/R&D relative to other countries –> increase quality/quality of FoP –> improve efficiency –> increase ex –> CA surplus
eval for CA
CA deficit is not necessarily bad, If importing technology/capital, in the long run it will increase their quality/quantity of FoP –> increase LRAS –> lower cop –> increase ex –> CA surplus
A boom (in a business cycle) does not necessarily lead to CA deficit - it couldL EAD TO EXPANSION IN EXPORT PRODUCTION due to an increase in business confidence and hence more investment in the economy –> CA surplus
Depends on the spare capacity of the economy and how the government plays a role in the situation.
a stronger country in a monetary union has lower average exchange rates than on its own so higher export competitiveness –> increase exports –> CA surplus.
Policies to improve Trade Deficit
Expenditure-Switching policies: policies to improve balance of trade by encouraging consumers to switch from imports to domestic substitutes. (Eg tariffs)
Expenditure-Reducing policies: policies to improve trade deficit by reducing consumer spending including spending on imports. (Eg rise IR or income tax)
Exchange Rate
the price of one currency in terms of another
types of exchange rate systems
Fixed: exchange rate is set and maintained by the central bank
Managed: exchange rate is determined by market forces and central bank intervention/manipulation.
Floating: exchange rate is determined by market forces (supply and demand) eg UK
Devaluation
a type of protectionism
a way to manipulate the domestic currency in order to increase export competitiveness
Advantages of Devaluation
More export competitive
Increase d for labour —> increase domestic employment, wage rate and hence standard of living
Improves BOT
disadvantages of devaluation
Expensive - buying foreign currency reserves that would be worth less
One-off devaluation is ineffective
Increase price for imports so real income decreases – lower standard of living
Increase price levels – demand-pull and cost push inflation
eval for devaluation as a protectionist measure
Directly influences the foreign economy – the domestic economy becomes better off at the expense of the foreign economy
In a persistently high inflation economy, devaluation is causing more harm than benefit – it leads to demand pull and cost push inflation.
how devaluation works
Devaluation —> CB buys euros/sells pounds —> increase d for euros —> increase p for euros in pounds —> decrease p of pounds in euros = lower ER
revaluation is the opposite
Hot Money — money that moves frequently between countries and such of the highest rate of return (with a relatively low risk)
money that moves frequently between countries and such of the highest rate of return (with a relatively low risk)
J-Curve
In the LONG term, devaluation would lead to an improvement in balance of trade
In the SHORT term devaluation would lead to a worse balance of trade
condition for devaluation to lead to an improved BOT
* PED of exports + PED of imports > 1.
factors influencing international competitiveness
Unit Labour costs
Efficiency
Exchange rate
Product quality
Innovation
Infrastructure
Corporation Taxes
Regulation
Economic and political stability
Human Development Index (HDI)
a measure of development that includes, health, education, and economic growth
categories of HDI
Health: life expectancy
Education: mean and expected years of schooling
Standard of living: GNI per capita
limitations of HDI
Time lags
Inequality not included
does not account for quality of education
Are health, education, and standard of living equally important in measuring development?
Factor influencing dev: Primary Product Dependency
Exporting commodities and importing manufactured goods worsen ToT OVERTIME as export prices decrease relative to import prices. Balance of trade worsens –> decrease AD –> decrease economic growth –> lower development
Prebisch-Singer Hypothesis
price of manufactured goods increase overtime relative to the price of commodities, so ToT of MEDCs worsen by importing commodities
Factor influencing dev: dutch disease
New discovery of a natural resource —> increase d for exports —> increase d for currency —> exchange rate appreciates —> international competitiveness decreases —> decrease export of all other goods
Factor influencing dev: Volatility of Commodity Prices
Volatile commodity prices —> unpredictable cost and revenue —> increase business risk —> decrease business confidence —> decrease investments —> decrease AD —> decrease rGDP —> decrease economic growth —> decrease development
Volatile commodity prices —> volatile income for producers —> volatile spending —> in the long-term low spending on education and healthcare —> decrease human capital —> decrease development
why are commodity prices volatile?
Commodities are volatile in price as PED and PES are both inelastic. This means a small change in supply or demand would lead to a large change in price.
Factor influencing dev: Savings Gap (harrod-domar model)
Harrod-Domar Model: higher growth —increase Y increase MPS—> higher savings —banks increase money supply increasing lending—> higher investment —> higher capital stock —> higher development
Low development —> low incomes —> low savings —> low investment —> low capital stock —> low growth —> low development
Factor influencing dev: Capital flight
Capital flight —> foreign currency gap –> less able to afford ESSENTIAL imports (eg. Meds) –> poorer health –> lower standard of living/life expectancy –> lower development
Capital flight –> lower savings in dom banks –> higher IR —> decrease d for loans —> decrease C decrease I –> lower growth –> lower development
Factor influencing dev: Demographic factors
Increase old age dependency —> fewer quantity of labour —> lower LRAS —> lower potential growth —> lower development
Increase birth rate —> lower household income PER CAPITA —> lower standard of living —> lower development
Increase birth rate —> smaller labour force —> lower LRAS —> lower potential growth —> lower development
Increase birth rate —> lower educational attainment for mothers —> lower human capital —> lower quality of labour —> lower LRAS —> lower development
eval for factor influencing dev: demographic factors
High birth rates increase demand for resources, which is bad for the environment
Theoretically higher birth rate increases potential growth but ultimate benefit depends on relative growth of food supply, housing, etc. to population growth
in theory Increasing government spending on pensions and healthcare –> increases AD –> increases rGDP –> increases economic growth –> higher development
Foreign Currency Gap
foreign currency outflows persistently exceed foreign currency inflows
Factor influencing dev: National debt
High debt could have been a cause of high government spending —> high AD —> increase rGDP —> economic growth —> development
High debt —> high interest payments (servicing) —> large opportunity cost on education/healthcare —> explain —> lower development
High debt as a cause of corruption —> lower development
High debt —> lower credit rating —> lower FDI —> lower development
Factor influencing dev: Access to Credit and Banking
More access —> more spending on education and healthcare —> higher human capital —> increase LRAS —> increase potential growth —> higher development
More access —> more spending on education and healthcare —> higher standard of living
More access —> increase savings (due to interest rates and more secure) —> weather financial shocks —> more constant C —> increase standard of living —> higher dev
Increasing women’s access to banking is important for development as women are more likely to increase spending on children’s healthcare and education, areas that are good for dev
Factor influencing dev: Infrastructure
Poor hygiene and untreated sewage —> increase risk of diseases —> decrease life expectancy —> lower development
Poor transport infrastructure —> higher transport costs —> higher cop —> less export competitive —> lower experts —> lower AD —> negative economic growth —> lower development
Poor infrastructure —> high geographical labour immobility —> low productivity —> low SRAS + LRAS —> lower development
Factor influencing dev: Education/skills
More educated/skills —> higher human capital —> higher productive potential —> increase LRAS —> increases potential growth —> higher development
More educated/skills —> more research and development —> more export competitive —> more EX —> increase AD —> higher development
Factor influencing dev: Lack of property rights
Lack of intellectual property rights —> lack of incentive for innovation —> little R & D —> low quality of capital —> no change in LRAS or SRAS —> (so relative to growing economies) —> low potential growth —> low development
Lack of physical (eg. Housing) property rights —> reduce C in large purchases —> lower standard of living, or lower AD —> low rGDP —> low development
Lack of general property rights —> high risk of investment —> low FDI —> little improvement in quantity of capital —> low LRAS —> low potential growth —> low development
Factor influencing dev: corruption
Government Corruption —> low productivity —> low output —> low growth —> low development
Government corruption —> large spending on bribes, personal salaries, etc. —> large OC —> low G on healthcare and duration —> low HDI
dev strategy: Microfinance Schemes
Microfinance –> increase borrowing –> increase spending on education, healthcare etc. –> increase human capital –> increase productivity –> increase LRAS and SRAS –> increase economic growth –> higher development
advantages of microfinance schemes
Increase access to credit —> … —> higher development
Lower IR relative to loan sharks
Boost economy in the short run
Increase women’s access to banking —> increase spending on edu, healthcare —> … —> higher development
disadvantages of microfinance schemes
No regulation on amount of borrowing, could lead building up a lot of debt
Information gaps, consumers are not sure of the consequences
Consumers may be exploited by the high IR
eval for dev strategy: microfinance schemes
Dep on what the loan was spent on, which depends on how much support the government provides.
Dep on regulations on micro-finance: lots of regulations may lead to more red tape, so fewer households benefit from micro-finance.
Dep on the cause of poverty. If it was a structural cause (eg. Geographical immobility and uneven distribution of resources), micro-finance could only benefit the economy in the short run, but it does not reduce poverty in the long run.
Dep on the provider of micro-finance
dev strategy: Privatisation
Privatisation increases competition (lower X-inefficiency) –> lowers cop –> increases profit –> increases I –> increases AD –> higher development
Privatisation increases gov revenue (one off financial gain from selling and no longer need to spend on firm) –> improved gov budget –> OC: can now be spent on edu, healthcare… –> higher development
Privatisation reduces gov debt –> lower OC in interest payments –> … –> higher dev
eval for dev strategy: privatisation
Dep on who the firm was sold to. If sold to someone with high expertise in the field benefit is maximised
Dep on what the initial gov objectives are: if it were to generate profit, privatisation may be good. If it was used to increase public access, or increase social welfare then better not
dev strategy: Development of human capital
G on healthcare –> increase life expectancy –> higher dev
G on education –> increase productivity –> increase LRAS –> higher dev
dev strategy: Promoting joint ventures with global companies
Share of expertise and/or knowledge –> lower cop
Share of expertise and/or knowledge –> better quality goods –> increase profit –> increase I –> increase AD –> higher dev
purchasing EofS
dev strategy: Protectionism
support/protect Infant industry –> increase dom competitiveness –> improve BOT –> increase AD –> higher dev
Expenditure-switching policy –> increase d for dom g –> increase derived demand for labour –> increase employment –> increase household income –> increase standard of living
eval for deb strategy: dev of tourism
tourism requires low skill labour so a large tourism sector discourages education –> lower human capital –> lower dev
dep on how tourism receipts are used: if spent on improving infrastructure, this would lead to higher dev
dev strategy: aid
Aid as a form of injection –> multiplier –> increase AD –> higher dev
dev strategy: Managed exchange rates
Managed exchange rates
Lower ER volatility –> lower uncertainty of revenue/cost –> higher I –> increase AD + LRAS –> higher dev
Devaluation –> increase int competitiveness –> increase exports –> increase AD –> higher dev
dev strategy: Infrastructure development
G on infrastructure –> increase AD + LRAS –> higher dev
G on sanitation and clean water –> increase hc (life expectancy) –> higher dev
G on infrastructure –> increase employment –> increase income –> increase standard of living
Better infrastructure –> lower cop –> more export competitive –> increase exports –> increase AD – > higher dev
eval for deb strategy: buffer stock schemes
When price is too high: gov may run out of stock to sell
When price is too low: gov may go bankrupt due to extensive buying; storage issues: expensive
Vulnerable to political interference: some governments may use the scheme to benefit certain groups to achieve political goals, leading to ineffective scheme and corruption
dev strategy: Development of primary industries
Dev –> higher productivity –> lower unit cost of labour –> higher int competitiveness –> more output (inc exports) –> increase AD –> higher dev
dev strategy: Buffer stock scheme
involves the creation of a stockpile of the commodity when oversupplied and releasing it when it is undersupplied
dev strategy: Debt relief
Lower OC on interest payments –> more G on healthcare/edu –> increase human capital –> higher dev
dev strategy: Development of tourism
More tourism –> increase exports –> increase AD –> higher dev
More tourism –> increase consumption tax revenue –> improved BOT –> more G on edu/healthcare –> increase human capital –> higher dev
Lewis Model
Underemployment in primary sector–> labour move to secondary industries –> d for labour in factors increase without increase in WR
dev strategy: industrialisation
Underemployment in primary sector–> labour move to secondary industries –> d for labour in factors increase without increase in WR (large spare capacity –> cop remains low –> int competitiveness remains high –> high profit
As labour move from primary to secondary –> s for labour in primary sector decreases –> increase WR –> firms switch to cheaper alternatives (automation) –> increase productivity –> lower cop –> industrialisation –> higher dev
eval for dev strategy: industrilisation
ineffective strategy if industrialisation led to higher inequality, where firms take up most benefits
dep whether the increase in resources could keep up with the rate of urbanisation
Fair trade
Fair trade schemes –> increase WR –> increase consumption –> increase AD –> increase rGDP –> higher dev
Fair trade schemes –> increase WR –> increase consumption on edu and healthcare –> increase dev
eval for dev strategy: fair trade
only relevant to countries that produce commodity goods
only relevant to LEDC countries that have already made some development progress because in order to comply with FT conditions
overtime effectiveness of the FT scheme decreases due to the rise of more labels that increases computational difficulties, so labels hold less sway in decision making
Types of Government Spending
Capital Spending: spending on capital/infrastructure (eg. HS2, Elizabeth Line)
Current Spending: spending on providing and maintaining public services (eg. G on education, NHS, road maintenance)
Transfer Payments: spending on benefits (eg. JSA, disability/childcare benefits)
Laffer Curve
below threshold, increase in tax rate increases tax revenue
Above threshold, increase in tax rate decreases tax revenue as the workforce has lower incentives to work
Ricardian equivalence (Laffer curve)
if consumers anticipated a rise in tax rate as a result of a persistent period of high G, they would increase MPS which means the stimulus effect of high G is less significant
Gini coefficient
Measures inequality
0 being perfectly equal and 1 being perfectly inequal
Categories of Fiscal policies
Automatic Stabilisers: government spending and taxes that change automatically with the changes in the business cycle
Discretionary: changes in policies
Austerity policies
policies to reduce government budget deficits through increasing taxes and/or reducing government spending
cyclical and structural fiscal deficit
Cyclical Fiscal Deficit: gov spending > tax revenue that DISAPPEARS with an improvement in a business cycle (caused by downturn of a business cycle)
Structural Fiscal Deficit: gov spending > tax revenue that DOES NOT DISAPPEAR with an improvement in a business cycle
What factors limiting development can NGOs help overcome?
Access to credit and banking: providing microfinance schemes
Infrastructure: small scale infrastructure eg. Sanitation
Demographic factors: to reduce birth rates eg. through education
critisms of IMF
Forcing LEDCs to adopt a specific economic ideology: free markets are good; the government should intervene as little as possible
Free market approach does not suit all LEDCs
IMF does not address the fundamental problems in LEDCs that hindered development
IMF improves macroeconomic stability of LEDCs (increasing long term growth) but at the expense of short-term growth so people may have a lower standard of living in the short run
Gaining support from the IMF involves loss of autonomy
Suffer from conflicting interests of member countries, so very vulnerable to “gov failure” eg. bureaucracy
