MACRO - LS10 - Economic Growth (Part 1) Flashcards
Economic Growth
- increase in the real value of goods and services produced as measured by the annual percentage change in GDP
- also defined as a long-run increase in a country’s productive capacity/potential output
sustainable growth
growth in the productive potential of an economy today which doesn’t lead to a fall in the productive potential of an economy for future generations
what can cause economic growth
- increase in any component of AD
- increase in LRAS - considers the following factors:
- land
- labour
- capital
- technical process
- efficiency
Land
- defined as all natural resources
- countries like Saudi Arabia experience large growth rates due to it
- UK only started to exploit oil & gas resources in the mid 1970’s
- it’s unlikely to be a significant source of growth for developed economies, although more vital for developing economies
Labour
- increase in quantity of workers or increase in quality of labours
factors incl.: - changes in demography
- changes in participation rates
- immigration
changes in demography
- today’s birth rate will effect economy in 20 yrs time
- high birth rate –> increasing no. of workers e.g. African countries
- relatively low in recent decades in Europe
Change in participation rates
- it’s proportion of population in or seeking work
- increase of people staying on in education decrease workforce
- more workers can afford early retirement
- but increase in state pension age is seeing men working past 65 & women 60
- more women working due to higher wages & better childcare
immigration
- large inflows of migrant labour from Eastern Europe in UK
- may increase output but not economic welfare as work shared among more people so less income change
why is increase in human capital important?
- need to be educated to cope with demands of the exisiting stock
- workers need to be flexible - may have to change jobs/roles
- need to be able to contribute to change
capital
- needs to increase for sustainable growth so need sustained investment
- however some investment e.g. housing doesn’t cause growth
technological progress
- cuts average cost of production of products
- creates new products - causes consumers to spend more
efficiency
- increased efficiency of the use of resources will cause increase rises in output
- in market economy, competition will lead to greater efficiency - drive less efficient firms out of market - gov polices can encourage competition
- gov may also have to step in and reduce market failure
low and middle income countries
- many features of functioning market economy may be missing
- resources used inefficiently
- corruption possible
- laws may not protect property rights - less likely to invest
- rural areas may not be able to access banks - can’t take out loans to expand buisnesses
economic/business cycle
- Pattern of the level of economic activity which fluctuates over time
- ## measured by GDP
Key characteristics of trade cycle
- Peak/boom
- Downturn
- recession/depression
- recovery/expansion
Peak/boom
- high national income as well as consumption & investment
- high tax revenue
- increase in wages and profits
- imports will be high and inflationary pressures
- likely economy is working beyond full employment
- high levels of economic growth
- low levels of unemployment
Downturn
- output and income all - so does consumption & investment
- tax revenues start to fall
- gov expenditure also increases - more people on benefits
- wage demands are moderate
- unemployment rises
- imports fall and inflationary pressures decreases
Recession/depression
- bottom of cycle
- economic activity is low/negative growth
- high unemployment
- consumption, investment & imports may be low
- few inflationary pressures, may be deflation
Recovery/expansion
- national income/output start to rise
- unemployment falls
- consumption, investment, imports begin to rise
- workers feel more confident demanding wage increases
- inflationary pressures began to mount
Long run growth
- increase in potential output
Short run growth
- increase in real GDP, driven by an increase in AD that draws unemployed resources into use
Actual vs potential output
- actual output - current level of production (real GDP) in an economy - some resources may be unemployed
- potential output - economy’s productive capacity or the largest output that could be produced, given the prevailing output of technology and stock of available resources
Recession definition
Where GDP falls in at least two successive quarters
What are the two types of trade cycle
- traditional cycle with peak/booms etc…
- milder trade cycle
Mild trade cycles
- GDP doesn’t fall but economy fluctuates around its long-run real GDP
- doesn’t show recession phase, GDP still rises even in downturn - may be relatively small rise
- can draw trend line as straight line
Why does short term growth rate fluctuate around long term rate
Due to demand-side shocks and supply-side shocks
Shocks can be positive and negative
Demand side shocks
- affects AD
- housing market bubble bursts, prices rise too high causing a sudden collapse in housing demand and prices - decrease in consumer confidence
- stock market crash - may be as prices are too high - causes decrease in wealth & AD
- sharp interest rate rise due to inflation, reduce durable spending & investment - can lead to recession
- sharp increase in tax/decrease in gov spending - to balance budget/due to inflation - decreases AD
- world economy may go into recession, decreases exports, decreases AD
- sharp rise in pound value, X decreases, M increases
Supply side shocks
- Affect Aggregate supply
- large rise in world commodity prices - raise UK price level & imports if Inelastic, if import prices increase, it reduces AS, lower output
- outbreak of trade union militancy - large wage increase, so then does price level, decreasing AS (real wage unemployment)
Output gaps
- difference between actual level of real GDP & estimated long term value at point in time
- straight line - trend rate - associated with productive potential of economy
- actual level of real GDP varies around trend rate - trade cycle
Negative output gap
- economy in recession, high unemployment & deflation
- below trend line
- has spare capacity in economy
- actual GDP below productive potential of an economy
Positive output gap
- inflationary boom
- actual GDP above trend line
- actual GDP above productive potential of an economy
- boom period
How to show positive output gap
- use AD/AS
- vertical LRAS - equilibrium with AD at Y1
- SRAS & AD equilibrium at Y2
- +ve output gap at Y1Y2
- to fix - long term economic growth - moves LRAS to Y2
- or recession shifts AD down & SRAS up
How to show negative output gap
- use AD/AS
- vertical LRAS - equilibrium with AD at Y2
- SRAS & AD equilibrium at Y1
- -ve output gap at Y1Y2
- to fix AD rises faster then LRAS
- shift in AD moves to equilibrium
Size of output gaps
- can be hard to gauge size of output gap - as don’t know exact position of LRAS curve
- initial estimates of GDP showing where SRAS & AD meet are almost always inaccurate - GDP figures constantly revised