Theme 2 - Economic Growth Flashcards
How does economic growth occur?
An increase in quality or quantity of one of the four factors of production, or more efficient use of these FoPs
An increase in LRAS will increase the potential level of output in an economy. Any factor which increases the LRAS, will also increase economic growth.
What is actual growth?
Percentage change in real GDP
What is potential growth?
The change in productive potential of the economy over time, so the LRAS or PPF curve shifts
What is the long-run trend rate of growth?
The average sustainable rate of economic growth over a period of time
What is an output gap?
The difference between the actual level of GDP and the estimated long-term value for GDP
What is a positive output gap?
When GDP is higher than estimated
What is a negative output gap?
When GDP is lower than estimated
What is the trade cycle?
The periodic but irregular up and down movements in economic activity, measured by fluctuations in real GDP and other macroeconomic variables. Each business cycle is different, but they tend to have four main phases: boom, downturn, recession (slump) and recovery.
What are the characteristics of a boom?
National income is high
Economy likely working above the PPF where there is a positive output gap
Consumption and investment tend to be high as are tax revenues, and wages will be increasing
Increased imports to meet the demand of high-income consumers that cannot be met by the goods produced within the country
There will be inflationary pressure
What happens during economic downturn?
The economy begins to move from a boom to a recession, output and income fall which leads to a fall in consumption and investment as well as tax revenues. Payments for benefits rise as unemployment rises. People begin to accept jobs for lower wages due to higher levels of unemployment. This causes inflationary pressure to ease and a fall in the number of imports.
What are the characteristics of a recession?
High unemployment, causing low consumption, investment and imports
Inflationary pressure will be low and there may be deflation
What happens during economic recovery?
National income and output begin to increase with unemployment falling and consumption, investment and imports increasing. Inflationary pressure begins to grow as workers start to demand higher wages.
What is the impact of economic growth on consumers?
- Increased demand for housing as people have more money, so house prices will increase. Shares are likely to increase in value as businesses are making more money and future prospects. These will increase wealth and lead to a positive wealth effect
- Improved productive efficiency due to better technology could lead to lower prices or higher quality goods.
- Increased economic growth could lead to increased happiness, but this is not necessarily the case.
- could lead to increased inequalities and so may not have any effect on the average consumer and may lead to inflation, which has negative effects for consumers.
What is the impact of economic growth on firms?
● Investment will increase since businesses are more successful. They will have more money to invest and more incentive to invest as they will know they can make money from their investments.
● Business confidence will improve as there are potential demand increases for businesses’ products and this confidence will also lead to increased investment.
● As a result of increased investment from both businesses and governments, technology will improve. There will be more research and development done to invent more technology and more firms will be able to have the best technology, which is likely to increase productive efficiency and lead to lower costs.
● The combination of higher demand and lower costs is likely to lead to higher profits.
● Economic growth also provides the opportunity for new firms to establish
themselves and allows existing ones to make more profit.
● On the other hand, firms who sell inferior goods (with negative income elasticities) may lose out. Changing technologies and globalisation also mean that some firms find their markets disappearing
What is the impact of economic growth on the government?
● Tax revenues will rise as more goods and services are being bought, more income is being earnt and more profits being made. This means the government has more money to put into the NHS, education, benefits etc.; the quality of these systems will be improved, and this will help to improve living standards.
● It can help to reduce the budget deficit, perhaps even bringing about a budget surplus which would allow money to be saved for future recessions.
● However, economic growth tends to mean people expect more from the government i.e. better education, better roads etc.
What is the impact of economic growth on the current and future living standards?
● Economic growth will result in lower poverty levels. An increase in the production of goods and services will increase jobs so there will be less unemployment and less people on benefits. Wages are also likely to increase.
● There will be more goods and services for people to enjoy, so the poor will be able to get the goods and services they need instead of only the rich getting what they want.
● Housing standards and the quality of food increases due to economic growth. Health also tends to increase: not only does life expectancy rise but people have a higher quality of life in their old age.
● Increased government spending will lead to improved living standards both now and in the future, as better educated people usually have higher living standards.
● Economic growth is likely to have the highest benefits in developing countries.
● However, there could be decreased future living standards due to exploitation of the environment. A rise in income means more people have access to electricity etc. and use it more freely. This causes depletion of non-renewable resources, concern about sustainability of growth for future generations and increased levels of
pollution/waste/congestion.
● On the other hand, it could be argued that people with higher incomes are able to
buy cleaner fuels and richer countries can devote resources for research and development of cleaner resources and ‘greener’, more efficient technology. Also, higher income households tend to have less children which lowers natural rate of population growth, meaning less resources are needed for the future.
● Another cost may be that economic growth may result in increased inequalities between rich and poor. The rich may be the only ones that have gained from the economic growth and they may even lower the living standards of the poor by exploiting the poor.
Why is international trade important for (export-led) growth?
● Many economists argue that AD can affect economic growth, through export-led
growth: a rise in AD through increased exports.
● This has been effective in countries such as Germany, Japan and China and prevents the poor balance of payments that tends to occur as a result of economic growth.
● Although increased exports initially increases AD rather than LRAS, sustained high export levels will encourage, or force, firms to invest and increase demand for labour, which will lead to economic growth.
● Moreover, in order to be competitive in the international market, British firms will have to become more efficient as they are competing with more firms than in just the UK market.
Why are output gaps difficult to measure?
The exact position of the LRAS is unknown and also because initial estimates of the real GDP are often inaccurate. Some economists believe they are so difficult to measure that they are not a valid concept to use from the purpose of economic policy. It is not possible to measure the productive potential of an economy as there is no single monetary value for the level of variables such as machinery, workers and technology.
