The National Economy Flashcards
1
Q
How is short-run (actual) growth achieved?
A
Bringing idle resources into production to increase real GDP/capita.
2
Q
How is long-run (potential) growth achieved?
A
Increase in the productive potential of the economy.
3
Q
Define the trend growth rate.
A
The rate at which output can grow on a sustained basis without putting pressure on inflation.
4
Q
List three common policies used to stimulate AD.
A
- Lower income or corporation tax
- Higher government spending
- Lower interest rates
5
Q
Define fiscal dividend.
A
Higher economic growth will raise tax revenues and reduce government spending on unemployment and poverty related welfare benefits.
6
Q
Why do Keynesian economists argue that short-run growth may not be inflationary?
A
The economy can be at equilibrium below full employment.
7
Q
List some possible causes of long term growth.
A
- Improvements in technology
- Increase in size of labour force
- Education and training
- Enterprise and entrepreneurship
- Improving mobility of FoP
8
Q
List four benefits of economic growth.
A
- Improved standard of living
- Reduction in inequalities in the distribution of income and wealth
- Positive impact on government finances
- Cumulative impact
9
Q
List four costs of economic growth.
A
- Potential inflationary impacts of short-run growth
- Widening inequality gap
- Depletion of natural resources
- Increased negative externalities (e.g. pollution)
10
Q
Define unemployed.
A
Someone of working age, willing and able to work and actively seeking work but can’t find a job.
11
Q
Define economically inactive.
A
Someone who is of working age but is neither in work nor actively seeking work.
12
Q
What are the issues with using the claimant count and Labour Force Survey to measure unemployment?
A
Claimant Count:
- Difficult to compare across countries
- Some people out of work don’t claim unemployment benefits
Labour Force Survey:
- Sample may not be representative
13
Q
Define long-term unemployment.
A
People who have been out of work for at least one year.
14
Q
Define under-employment.
A
Workers willing to supply more hours of work than their employers are prepared to offer.
15
Q
Define hidden-employment.
A
People who have stopped looking for work (demotivated) or work less than they want to. Not counted in government reports.
16
Q
List the cost to individuals of unemployment.
A
- Low incomes
- Lower standard of living
- Marginalised and social exclusion
- Physical and mental health impacts
- Increased risk of debt and depleted savings
- Impact on savings and pension
- Pushed into relative poverty
17
Q
List the cost to economic performance of unemployment.
A
- Waste of human capital
- Loss of income tax revenue and higher government spending on unemployment benefits
- Rising inequality
- Possibility of hysteresis
- Lower incomes and spending power
18
Q
What is meant by full employment?
A
The number of people wishing to work at the going market real wage rate equals the number of workers employers are willing to hire at that wage rate.
19
Q
Which types of unemployment occur at full employment (equilibrium unemployment)?
A
Frictional and structural
20
Q
When and why does frictional unemployment occur?
A
Time between a worker switching jobs.
Caused by:
- Immobilities of labour
- Imperfect information
- Generous welfare benefits
21
Q
What is the replacement ratio?
A
The ratio between money received out of work divided by the wage an unemployed worker could receive in work.
22
Q
What is structural unemployment?
A
The decline of industries unable to compete or adapt in the face of:
- Changing demand conditions
- The development of new products
- Increased competition from more efficient competitors overseas
23
Q
When does real wage unemployment occur?
A
When real wage rates are too high to clear the labour market (excess supply of labour).
24
Q
When does cyclical unemployment occur?
A
When the economic is operating below its trend rate of growth.
25
How can frictional unemployment be reduced?
- Reduce unemployment benefits
- Improve job information available
26
How can structural unemployment be reduced?
- Better/ compulsory education
- Retraining programmes
- Subsidies for cheap rented accommodation, government spending on social housing
27
How can cyclical unemployment be reduced?
- Low interest rates
- Increased government spending
28
How can real wage unemployment be reduced?
- Reduce national minimum wage
- Reduce trade union power
29
Which types of unemployment are voluntary?
- Frictional
- Structural
- Seasonal
- Real wage (classical view)
30
What is the natural rate of unemployment?
The percentage of workers who are voluntarily unemployed.
31
Why does the government aim for low and stable inflation?
- Little impact on the day to day decisions of firms and consumers.
- Precondition for sustained growth (Mervyn King, 2008).
32
What is the CPI?
A ‘basket’ of weighted goods meant to represented typical household spending on different goods and services.
33
How is weighted index number calculated?
Weighted index number = sum of (price x weight) / sum of weights
34
List 5 limitations of CPI.
- What is a ‘typical’ household?
- Weightings may differ
- Doesn’t account for regional differences
- Doesn’t account for changing quality of goods and services
- Can be slow to respond to emergence or decline of goods and services
35
List some of the consequences of high inflation.
- Fall in standards of living and increased inequality
- Wage-price spiral
- Loss of confidence in money
- Favours borrowers at the expense of savers
- Disrupts planning, leads to uncertainty
- Associated with high interest rates which reduce economic growth
- Can lead to increases in unemployment
- Impact on competitiveness of economy
- Menu costs and shoe leather costs
36
Evaluate the costs of inflation.
- Rate of inflation
- Temporary or persistent
- Rates of inflation in trading partners/ competitors
- Central bank tolerance
- Wage bargaining power
- Confidence
- Anticipated or not
37
List some of the consequences of malign deflation.
- Holding back on spending
- Increase in value of debts
- Real cost of borrowing rises
- Lower profit margins
- Falling confidence (falling asset prices)
38
What is monetarism?
The belief that inflation is solely caused by increases in the money supply. (Links to Fischer Equation)
39
List and define the 5 different types of taxes.
- Indirect - can be shifted by the person legally liable to pay the tax onto someone else. Levied on spending.
- Direct - can’t be shifted. Levied on income and wealth.
- Progressive - as income rises, a larger proportion of income is paid in tax.
- Regressive - as income rises, the proportion of income paid in tax falls.
- Proportional - the proportion of income paid in tax stays the same as income increases.
40
What is the purpose of demand-side fiscal policy?
Boost AD to return to trend rate of growth and use up spare capacity (Keynes).
41
What is the purpose of supply-side fiscal policy?
Improve the economy’s productive potential.
42
Give an example of demand-side fiscal policy.
- Higher government spending and lower taxes.
- Spending on infrastructure projects.
- Increase public sector spending.
43
Give an example of supply-side fiscal policy.
- Income tax rates cut, personal tax thresholds increased, unemployment benefits cut (incentivises working).
- Subsidies and cuts in corporation tax to incentivise firms to invest in new technology or capital.
44
What are the benefits of using demand-side fiscal policy?
- Stabilises the economy and achieves full employment
- ‘Fine-tune’ the economy
- Initial injection benefits from multiplier
45
What are the potential drawbacks of using demand-side policy?
- Conflicting macro objectives; fall in unemployment leads to rising inflation.
- Can have time lags.
- Chancellor suffers from imperfect information.
- Economy doesn’t always behave as expected.
- Impact on national debt.
46
What are the benefits of supply-side fiscal policy?
- Improves the economy’s productive capacity.
- Could lead to good deflation which offsets demand-pull inflation.
- Can improve productivity, efficiency and competitiveness.
- No conflict of macroeconomic objectives.
47
What are the potential drawbacks of supply-side fiscal policy?
- Time lags.
- Potential impact on budget position and national debt.
- No guarantee of success.
48
What is active/ discretionary fiscal policy?
The deliberate manipulation of government expenditure and taxes to influence the economy.
49
What are automatic stabilisers?
Policies which dampen the multiplier effects resulting from change in aggregate demand within the economy and don’t require active implementation or manipulation by the government.
50
List some examples of automatic stabilisers.
- Welfare benefits
- Progressive taxation
- VAT on non-essential goods
51
List and define Adam Smith’s 6 canons of taxation.
Equity - fair system, based on taxpayer’s ability to pay.
Economical - cheap to collect in relation to revenue it yields.
Efficient - achieve desired objectives with minimum undesired side effects or consequences.
Flexible - easy to change to meet new circumstances.
Convenient - convenient to pay
Certain - taxpayers should be reasonably certain of amount of tax they will be required to pay
52
State the benefit principle of taxation.
Everyone who receives government spending should contribute towards it. People should be taxed in proportion to the benefits they receive from goods and services provided by the government.
53
Why is the benefit principle of taxation hard to apply in practice?
Many of those in need of government benefits (old, sick, unemployed) are the least likely to be able to pay. A general principle more commonly used is the ability to pay.
54
Define hypothecation.
The process of assigning tax revenues to a specific end (e.g. spending all receipts from motoring taxes on improving public transport infrastructure).
55
What are the 4 categories of government spending?
- Current - providing public services
- Capital - new public infrastructure
- Transfer payments - welfare spending
- Debt interest repayments
56
What is meant by the cyclical budget deficit?
- Increases and decreases with the downturn and upswings of the economic cycle.
- If all the growth of the budget deficit was cyclical, it would disappear during periods of economic growth.
57
What is meant by the structural budget deficit?
- Budget deficit caused by changing structure of UK economy.
- Won’t go away when economy recovers.
- Seen to be more problematic.
58
Explain why the budget deficit increases during a recession.
- Increased government spending on unemployment benefits
- Reduced income and corporation tax revenue
- Lower consumption so less indirect tax revenue
- Increased government spending overall
59
List some causes of structural budget deficit.
- Banking sector bail out
- Ageing population
- More single parent families (larger benefit burden)
60
What 4 problems are associated with larger budget deficits?
- Crowding out
- Adds to national debt
* Future generations foot the bill through tax rises
* Impact on credit rating and cost of government borrowing
- Possibility of tax rises/ spending cuts on merit and public goods
- Could be inflationary if high G and low T - economy is overheating
61
List 4 causes of a **falling** budget deficit.
- Economic growth leading to more employment and higher employment tax revenues.
- Economic growth means less need for government to stimulate economy or spend on unemployment benefits.
- Discretionary tax rises.
- Austerity measures.
62
List 3 benefits of a budget surplus.
- Use towards reducing the national debt.
* Reduce burden on future generations.
* Improvement in government credit ratings and debt interest.
- Reduce crowding out.
- Possible reduction in inflation.
63
List 5 drawbacks to a budget surplus.
- Less public and merit goods.
- Negative long-term impact - less spending on supply-side of economy.
- Negative impact of higher taxation on consumption and investment.
- Negative multiplier effects.
- International impact of higher taxes.
64
Define the national debt.
The amount of accumulated debt, resulting from past government borrowing, that is owed by the government.
65
What is reproductive debt?
Debt used to finance spending for large, lasting projects - interest payments on debt will be paid out of contribution to future national output.
66
What is deadweight debt?
Debt used to finance current spending - doesn’t cover any real asset. Interest payments end up being a burden on current and future generations and taxpayers.
67
How is the budget deficit financed?
Via the issue of government bonds:
- Short term - treasury bills
- Long term- government bonds
68
What does renewing or ‘rolling over’ the national debt entail?
Each year, part of the national debt matures. If the government runs a deficit, it must sell new debt in order to raise funds to repay the maturing debt.
69
What is the DMO?
Debt Management Office - auctions gilts and bills to finance government spending.
70
List 3 likely positive impacts of increased government borrowing.
- May be necessary to respond to external shock and prevent deep recession/ hysteresis.
- Could be self-financing if it supports LR growth.
- Provision of infrastructure, healthcare and education promotes development, increases productive capacity and increases living standards.
71
List the likely negative impacts of government spending
- Future austerity policies.
- High debt may lead to defaulting on interest and debt repayments.
- Opportunity cost of servicing debt.
- May reduce confidence of lenders.
- Increase the cost of borrowing in future.
- Could lead to crowding out.
72
What are the 2 types of crowding out?
- Financial crowding out
- Resource crowding out
73
What is sovereign debt, and why is it such a huge issue?
- Sovereign debt is public sector debt issued in a foreign currency and sold abroad.
- A sovereign debt crisis emerges when the country is unable to repay the debt and the annual interest payments.
- Currency becomes negatively impacted, required debt restructuring.
74
List the issues with increasing taxes, including specific consequences with direct and indirect.
- Higher direct taxes reduces disposable income and retained profits - negative impact on incentives, brain drain
- Higher indirect taxes - higher prices, regressive impact affecting equity and living standards.
- Lower AD, negative multiplier effect
- Impact on tax revenue
- Wage-price spiral
75
What are the issues with reducing government spending in the three main categories?
- Capital: limits increases in productive capacity of economy
- Transfer: negative impact on living standards
- Current: poorer quality/ provision of merit and public goods, lower wages for public sector workers
76
What 5 monetary policy instruments are available to the Bank England?
- Money supply
- Interest rates
- Control over bank lending and FSL
- Exchange rates
- Forward guidance
77
What is the purpose of forward guidance?
- Attempts to send signals to markets, businesses and individuals about future Bank policy
- Tries to increase credibility of monetary policy
- Reduces uncertainty and alters expectation
78
Why might forward guidance be ineffective?
- Relies on accurate predictions
- Ineffective if keep moving goal posts
- Susceptible to external shocks
79
How does funding for lending work?
BoE swaps Treasury bills for loans, which commercial banks can use to back borrowing in wholesale financial markets from other lenders.
80
Outline how a rise in the Bank Rate affects inflation through the monetary policy transmission mechanism.
- Increase in market rates and exchange rate
- Fall in asset prices and expectations
- Lower domestic demand, greater external demand
- Deflationary effect
81
Evaluate the effectiveness of changing the exchange rate.
- Depends on how big the change
- Confidence in the economy
- What are interest rate currently?
- Time lags
- Liquidity trap
- Zero lower bound
82
What is the purpose of pre-emptive monetary policy
- If the MPC’s 2 year forecast for the rate of inflation is different from the target rate, they will alter interest rate to keep the economy on track.
- They will also alter rates to head-off likely adverse effects of external shocks.
83
What sorts of things does the MPC consider when setting the Bank Rate?
- Financial markets
- Exchange rates
- Confidence
- Global developments
- AD
- Fiscal policy
- Housing market
- Household savings
84
Why does the BoE use quantitative easing?
When interest rates are already at the zero lower lower bound.
85
How does quantitative easing work?
- Central bank creates money
- Bank uses money to purchase government debt from financial institutions
- Interest rates decline because cost of borrowing falls
- Businesses and consumers borrow more, commercials banks lend more
- Increase in consumption and investment
86
What are some possible drawbacks to increasing the money supply?
- High, unpredictable inflation
- Cyclical instability
- Asset price bubbles
- Inequality
- Malinvestment
- Possible future increases in interest rates
87
What are some possible benefits of increasing the money supply?
- Increased output and growth
- Increased employment
- Increased consumption and investment
- Possible multiplier effects
- Increased income/ wages
- Increased confidence
88
What is hysteresis?
When workers remain unemployed for so long during a deep recession that they are deemed ‘unemployable’ and lose their skills, lowering the trend rate of growth of the economy.
89
What are the 4 benefits of free trade?
- Wider choice of goods and services
- Increased specialisation
- Increased competition
- More and larger markets
90
What is absolute advantage?
When a country can produce more of a good than other countries from the same amount of resources.
91
What is comparative advantage?
When a country has the least opportunity cost when producing a good.
92
What does free trade and specialisation allow countries to do?
Consumer beyond their PPFs.
93
Evaluate the assumptions of the model of comparative advantage.
- 2 goods, 2 countries
- Perfectly mobile factors of production
- Labour is homogenous
- Constant returns to scale
- Full employment
- No externalities
- No transport costs
- Identical goods
- Similar tastes for goods in each country
- Not dynamic
- Ignores ‘strategic industries’
94
What are 4 sources of comparative advantage?
- Factor endowments
- Levels of technology
- Differences in climate and natural resources
- Specialisation and economies of scale
95
List some benefits of free trade.
- Benefits of comparative advantage
- Economies of scale
- Increased competition
- Lower prices
- Access to more diverse markets
- Trade creation
- Export-led growth and employment
- Encouraging FDI
- Increase product and process innovation
- Welfare gains
- Improving international relations
96
List some drawbacks of free trade.
- Loss of domestic industry
- Structural unemployment
- Potential loss of infant/ sunset industries
- Leakages to the circular flow of income if a net importer
- Environmental damage due to transportation
- Potential trade of demerit/ illegal goods
97
What are trade barriers?
Measures polices or restrictions that governments put in place to regulate and control the flow of goods and services across international borders.
98
State the causes of protectionism.
- Protect domestic industries
Avoid dependency on one industry
- Respond to changes in demand or cost conditions
- Anti-dumping
- Self sufficiency
- Employment and job protection
99
State the 4 forms of protectionism.
- Import tariff
- Import quota
- Subsidy
- Non-tariff barrier
100
List a benefit and drawback of protectionism for domestic producers.
- Higher output, sales and profits for domestic firms.
- Higher prices on imports subject to tariffs, so increased costs.
101
List a benefit and drawback of protectionism for workers.
- Could protect jobs.
- Workers in the long run may have been better off if firms closed down and market reallocated resources into industry where country could compete (new jobs, more security).
102
List a benefit and drawback of protectionism for the government.
- Benefit in short-term from higher tax revenues.
- In the long-term, government can lose out if the economy is inefficient and growth is restricted.
103
List a benefit and drawback of protectionism on the standard of living.
- May protect living standards by protecting jobs in the short term.
- Less freedom of choice, lower consumption and lower long run growth.
104
What do protectionist measures generally lead to?
- Higher prices and lower levels of domestic demand
- Loss of economic welfare
- Productive inefficient
- Opportunity costs
- Worsening of international relations and retaliation
105
What is meant by the pattern of trade?
The mix of goods and services that a country imports and exports, as well as the mix/ range of countries that are most important for a nation in their trade relationships.
106
What is the Hecksher-Ohlin theory?
- Differences in factors of endowment among countries is the basis for trade.
- Capital rich countries are likely to industrialise and export manufactured goods.
- Labour rich countries specialise in labour-intensive primary products.
107
What are the issues with primary product dependency?
- Country’s macroeconomic performance is vulnerable to fluctuations in global commodity prices and demand.
- Can lead to economic instability and hinder the overall development of a nation’s economy.
108
List some causes of changes in the pattern of trade.
- Changes in absolute advantage
- Changes in policies in other countries
- Joining/ changing membership of trading blocs
- Exchange rate changes
- Changing quality/ reputation
- Government intervention distorting markets
- De-industrialisation
- Causes and changes in globalisation
- External shocks
- Economic development
- Factor enrolment and exploitation resources
- Innovation and invention
109
What is the purpose of the World Trade Organisation?
- To help its members use trade as a means that to raise living standards, create jobs and improve people’s lives.
- Ensure trade flows as smoothly and predictably as possible.
- Help developing countries build their trade capacity.
- Facilitate negotiations of trade agreements and resolve trade problems among members.
110
What is economic integration?
The process whereby countries coordinate to reduce trade barriers and harmonise monetary and fiscal policy.
