Theme 2 (Macro) Flashcards
What is Gross Domestic Product?
(2.1.1)
Economic Growth
the total value of goods produced and services provided in a country during one year.
How is GDP Calculated ?
(2.1.1)
Economic Growth
3 ways of calculating:
1 - The total value of goods and services (‘output’) produced;
2 - Everyone’s income
3 - Or what everyone in the country has spent (C+I+G+(X-M))
What is the difference between real and nominal GDP ?
(2.1.1)
Economic Growth
Nominal - current monetary values
Real - are adjusted for inflation and show prices/wages at constant prices
What is gross national product and gross national income ?
(2.1.1)
Economic Growth
GNP - Total value of goods produced and services provided in 1 year
GNI - Total value of all goods and services including international revenue in 1 year
Whats the difference between value and volume ?
(2.1.1)
Economic Growth
Volume - quantity of output - uses constant prices
Value - accumulated price of output - uses current prices
What are the advantages of using GDP to compare countries ?
(2.1.1)
Economic Growth
Global recognised measurment
Ease of making comparisons
Average income has strong links to standard of living
What is the purchasing power parity ?
(2.1.1)
Economic Growth
Uses a basket of G/S to compare prices and therefore purchasing power
What are the drawbacks of the purchasing power parity ?
(2.1.1)
Economic Growth
Must consider a wide range of goods and services across a country, which is not easy because of the amount of data that needs collecting
Between survey dates, purchasing power parity has to be estimated which could cause innacuracy
Does not cover all countries
Whats the relationship between averge income and subjective happiness ?
(2.1.1)
Economic Growth
Research shows that generally as income increases so does happiness
Explain what is meant by the Easterlin paradox ?
(2.1.1)
Economic Growth
1) Within a society, rich people tend to be much happier than poor people.
2) But, rich societies tend not to be happier than poor societies (or not by much).
3) As countries get richer, they do not get happier.
Easterlin argued that life satisfaction does rise with average incomes but only up to a point. Beyond that the marginal gain in happiness declines.
What is inflation, deflation and disinflation?
(2.1.2)
Inflation
Inflation - An increase in the general price level
Deflation - A decrease in the price level
Disinflation - Increase in the price level but at a slow rate
How do you calculate the consumer price index ?
(2.1.2)
Inflation
Choose a base year
Use a shopping basket of 700 G/S which change on a yearly basis
The prices of most of the items is collected from around 150 locations each month
The indices are waited to reflect the importance of the G/S
What are the limitations of uing the consmer price index to measure inflation ?
(2.1.2)
Inflation
The CPI is not fully representative = Spending patterns are different = meaning CPI change may be under or over represent of your basket
chaging quality of G/S = Inflation may be overestimated if a high price reflects a better good / CPI is slow to respond to new products
Doesnt factor in substitution = People will buy cheaper substitute products = the CPI wont factor this in and assume D for product is falling
What is the retails price index ?
(2.1.2)
Inflation
it monitors the monthly change in prices of goods and services used by most households
The RPI inclues mortgage interest repayments. Therefore changes in interest affect the RPI
RPI also includes council tax and some other housing costs
What is cost push inflation and what causes it ?
(2.1.2)
Inflation
Cost-push inflation happens when there is a decline in the supply of goods and services and demand remains unchanged or even grows
Causes :
- Higher wages = higher avg cost to produce = firms pass on cost to consumers
- Higher price of commodities (increased price of oil = increased price of petrol)
- Profit-push inflation = if firms gain enough monopoly power they can push prices up
What is demand pull inflation and what causes it ?
(2.1.2)
Inflation
When supply cannot meet growing demand, prices for goods and services are pulled higher.
Causes :
A cut in interest rates = higher consumer spending =increased demand
Devaluation in the exchange rate (WPIDEC) = increased demand for cheap exports
How can an increase in the money supply cause inflation ?
(2.1.2)
Inflation
Increase in money supply = consumers spend more on G/S = shift AD outward
Firms increase output in S/R
Firms need more workers = wages rise = increase cost = increase prices
Economy returns to equilibrium at higher price
What are the effects of inflation on consumers ?
(2.1.2)
Inflation
Inflation > increase in wages = reduction in real income = reduce standard of living
Real value of savings reduced = significant effects on those relying on income (Retired) / those saving for a house
Their may be time lag for those on fixed incomes (Benefits) and restrictions on the amount of increase
What are the effects of inflation on workers ?
(2.1.2)
Inflation
High inflation will raise the cost of living = if wages cannot increase at the same amount as inflation = reduction in real wages
Cost-push inflation whereby GDP is negative = Increase unemployment = firms seek to reduce costs and require less FOP = workers lose jobs or suffer from underemployment
What are the effects of inflation on firms ?
(2.1.2)
Inflation
Reduced IPC
Wage pressure if workers see fall in real income
Inflationary pressure causes uncertainty
Higher inflation, face menu costs (the cost of changing prices)
How does inflation effect the government ?
(2.1.2)
Inflation
Increases taxes = support tax revenue
What are the 2 types of deflation ?
(2.1.2)
Inflation
- fall in AD
- Lower costs of production
What is meant by unemployment ?
(2.1.3)
Employment and Unemployment
someone of working age does not have a job but is actively willing and seeking employment
What is the claimant count ?
(2.1.3)
Employment and Unemployment
the actual number of people claiming Jobseeker’s Allowance
What is the international labor organisation’s 2 measures to determine if you are unemployed?
(2.1.3)
Employme=nt & Unemployment
You are unemployed if :
You have been without a job, have been actively seeking work in the past four weeks and are available to start work in the next two weeks
out of work, have found a job and are waiting to start it in the next two weeks
Give a reason why ILO using Labour Force Survey (LFS) might not be accurate
(2.1.3)
Employment & Unemployment
The LFS is a random household survey of approximately 50,000 households in the UK
Which of the two measures (Claimant Count / ILO) is typically higher and why
(2.1.3)
Employment & Unemployment
ILO tends to be higher :
Claimants may feel a social stigma attached to claiming and therefore choose not to.
What is meant by ‘underemployment’
(2.1.3)
Employment & Unemployment
the ONS defines an under-employed worker as someone who is currently in employment, but wants to work more hours.
What is meant by ‘employment’?
(2.1.3)
Employment & unemployment
Number of people who are in work
What is meant by ‘economically inactive’?
(2.1.3)
Employment & Unemployment
a person is neither working or actively seeking employment. Economic inactivity includes students, early retirees and the long-term sick.
What is the difference between the population of a country and its labour force?
(2.1.3)
Employment & Unemployment
The working-age population consists of all the people in a country who are old enough to be part of the workforce. Therefore excluding students etc.
Why do we find that Employment and Unemployment sometimes rise at the same time?
(2.1.3)
Employment & Unemployment
Due to the economically active population has grown faster than employment has.
What are the three types of unemplyment
(2.1.3)
Employment & Unemployment
Seasonal unemployment - occurs when people are unemployed at particular times of the year when demand for labour is lower than usual
Structural unemployment - caused by a mismatch of skills between the unemployed and available jobs.
Frictional Unemployment - unemployment that occurs from the inevitable time delays in finding new employment in a free market.
Solutions for the types of unemployment
(2.1.3)
Employment & Unemployment
Frictional Unemployment - Reduce unemployment benefits.
Structural unemployment - Education/training
Seasonal Unemployment - transition from working in tertiary sector rather than primary sector
What is cyclical unemployment and demad deficiency
(2.1.3)
Employment & Unemployment
Demand deficient unemployment- occurs when there is insufficient demand in the economy to maintain full employment
Therefore :
Cyclical Unemployment - When companies got no bread so they cant pay workers
What is ‘real wage inflexibility’?
(2.1.3)
Employment & Unemployment
Real wage inflexibility occurs when wages are set above the equilibrium level causing the supply of labour to be greater than demand.
How would a lack of skills in an economy effect the unemployment rate?
(2.1.3)
Employment & Unemployment
A lack of skills reduces the labour flexibility, This is known as occupational immobility.
Given markets are dynamic. There is a risk that a labour lacks the necessary skills and becomes U overtime due to free rider problem attached to training staff.
Result is structural U.
What is meant by ‘net inward migration’?
(2.1.3)
Employment & Unemployment
Total amount of people moving into a country in order to find work
What is the Balance of Payments?
(2.1.4)
BOP
The Balance of Payments is a record of a country’s transactions with the rest of the world, usually to do with trade.
What are the four components of the balance of payments?
(2.1.4 )
BOP
Export revenue – Import expenditure (X-M)
1 - Trade in goods
2 - Trade in services e.g. tourism, insurance
3 - Investment income e.g dividends from shares, profits MNC’s
4 - International transfers e.g Govt transfers to the UN, Aid
What is meant by a current account surplus and deficit?
(2.1.4)
BOP
Trade Surplus - import expenditure is smaller than export revenue
Trade Deficit - = import expenditure is greater than export revenue
When might a current account deficit be considered a problem?
(2.1.4)
BOP
Demand Pull Inflation
How might a current account deficit affect unemployment?
(2.1.4)
BOP
Growth = increase average Y = (M have +ve YED) = M>X
Exchange rate (SPICED) = appreciation currency = reduction IPC = M>X
IPC (relative wages, productivity, K/tech, relative inflation rate)
Lack of competiveness quality (R&D, K/tech, skilled L)
It will increase Cyclical U as there is a reduction in IPC,
How might a current account deficit affect inflation?
(2.1.4)
BOP
A reduction in AD = lower demand pull inflation
How might growth affect the current account balance?
(2.1.4)
BOP
A higher rate of economic growth will cause higher levels of consumer spending. Therefore, there will be a rise in import spending – which will tend to cause a deterioration in the current account. In this case, economic growth is causing inflationary pressures as the economy gets close to full capacity.
What is Aggregate Demand?
(2.2.1)
AD
Total amount of expenditure by all economic agents within the economy over a given period of time.
What are 4 components of AD?
(2.2.1)
AD
C = consumption (households expenditure on G/S)
+
I = investment (firms expenditure on capital [K])
+
G = government (public G/S, but it does not include transfer payments like benefits)
+
(X-M) = exports – imports
What % of AD is comprised of each component?
(2.2.1)
AD
Household consumption (C) makesup approximately 65% of AD
Government spending (G) accounts forapproximately 25% of AD
Investment (I) is around 15% of AD
Net exports(X-M) around -5% of AD
Explain why a 1% increase in consumption would have a bigger impact on the economy than a 1% increase in investment
(2.2.1)
AD
This is because ‘C’ takes up a high percentage (65%) of AD while ‘I’ takes up a lower percentage (15%) therefore a 1% increase in ‘C’ would be much greater
Explain 2 reasons why the AD curve is downward sloping
(2.2.1)
AD
Increase in the average price level reducesthepurchasing power / real income of economic agents. Therefore you’d expect them to spend less i.e. fall in consumption.
At higher averageprices means reduced international price competiveness of UK G/S and exports. Therefore an economy is less likely to export, more likely to import.
Illustrate a contraction & expansion of AD
(2.2.1)
AD
Define consumption ?
(2.2.2)
Consumption
use of goods and services by a household
What is disposable income ?
(2.2.2)
Consumption
Income after tax
What is the relationship between disposbale income and consumption ?
(2.2.2)
Consumption
Positive relationship - the more we receiv in disposable income the more we consume
What is the relationship between savings and consumption ?
(2.2.2)
Consumption
As consumers save more they spend less = decrease in consumption
What is the household savings ratio and how is it calculated ?
(2.2.2)
Consumption
Gives an idea of average extent of saving for all ouseholds in the UK
Calculated as percentage of disposable income that is saved
How do interest rates influence consumption ?
(2.2.2)
Consumption
IR - the reward for saving and cost of borrowing
High interest rate = increase reward saving = increase savings ratio = reduction C
High interest rate = increase cost of borrowing = reduce demand big ticket consumer durables
How does consumer confidence effect consumption ?
(2.2.2)
Consumption
Consumer confidence - effected by anything you feel may influence your future earnings or employment status
Increasing consumer confidence increases consumer spending - and vice versa
What is wealth ?
(2.2.2)
Consumption
Total amount of anything with value
What is the wealth effect ?
(2.2.2)
Consumption
What is investment ?
(2.2.3)
Investment
Expenditure of firms into FOP
What is the difference between net and gross investment ?
(2.2.3)
Investment
Gross investment is total level ofexpenditureby firms on capital equipment before depreciation is taken into account
Net investment accounts for the depreciationof capital too
What are animal spirits ?
(2.2.3)
Investment
where entrepreneurs, encouraged by a rising market, tended to take too many risks
Keynes thought that if there was great uncertainty, only a manic, strong-willed entrepreneur would put capital at risk
When animal spirits are strong, investment is sufficient to maintain aggregate demand; when they are weak aggregate demand falls, and the economy lapses into depression.
How do interest rates impact investment ?
(2.2.3)
Investment
Low interest rates = lower costs = increase profitability of investment decisions
Known as marginal efficiecy of capital
What is the relationship between access to credit and level of investment ?
(2.2.3)
Investment
Firms will borrow from either corporate or retail banks depending upon the size of the loan
Firms have uncertainty about economy = access to credit harder = reduced investment
How might government reduce investment ?
(2.2.3)
Investment
More regulations = reduces the profit incentive for I/FDI into that country
Government borrows from financial markets
This reduces the amount of finance available for private firms to borrow from
A reduction in supply = in price, the cost of borrowing becomes more expensive
Therefore higher government spending fails to increase overall aggregate demand
As higher interest rates that follow causes an equivalent fall in investment
What is government spending ?
(2.2.4)
Government Spending
Public sector spending on goods and services
Define Transfer Payments
(2.2.4)
Government Spending
a payment made or income received in which no goods or services are being paid for, such as a benefit payment or subsidy
Explain the difference between expansionary and contractionary fiscal policy
(2.2.4
Government Spending
Budget surplus = Tax receipts > G
Budget deficit = G > Tax receipts
What is National Debt
(2.2.4
Government Spending
National debt = Accumulation of budget deficits overtime which are yet to of been repaid
What is Gordon Browns Golden Rule
(2.2.4
Government Spending
The Golden Rule states that over the economic cycle, the Government will borrow only to invest and not to fund current spending
Explain the meaning of The Trade Balance
(2.2.5
X-M
Export revenue – Import expenditure
Explain the effect of an increase in Imports on AD
(2.2.5
X-M
AD would shift to the left
Explain the impact of an increase in real incomes on the trade balance
(2.2.5
X-M
increase real Y = increase in M as more people are W+A = increase risk trade deficit
Explain the impact of an increase in real incomes on the trade balance
(2.2.5
X-M
increase real Y = increase in M as more people are W+A = increase risk trade deficit
Explain the impact of depreciation of the £ on the trade balance
(2.2.5
X-M
SPICED =
Strong Pound Imports Cheap Exports Dear
Therefore Depreciation in £ = Increase IPC
Lead to an increase in X
Imports more expensive = reduction in M
Improvement in (x-m) = trade surplus or reduction in the size of the deficit
Explain the effect of increasing protectionism on the UK’s trade balance
(2.2.5
X-M
Tariff = tax on imports = reduce M IPC = reduction M
Quota = limit amount of M allowed to be sold = reduce quantity M
Embargo = ban on a certain G/S or from a certain country
Red tape = legislation/paper work = impact the cost and ease of importing = reduce M
Explain some ‘non price factors’ that might affect the UK’s trade balance
(2.2.5
X-M
Quality of G/S – linked comparative adv of L &/or K
Investment into R&D – production & product development
MNC marketing economies of scale and brand power
Government’s can encourage this through their supply side policy i.e. investment into education & training, or a subsidy for firms
What is the definition of Aggregate Supply?
(2.3.1)
AS
AS = total value of output at a given PL in an economy/country
How is the ‘short run’ defined in economics?
(2.3.1)
AS
atleast 1 FOP is fixed
Why is the SRAS curve upward sloping?
(2.3.1)
AS
The short-run aggregate supply curve is upward sloping because the quantity supplied increases when the price rises. In the short-run, firms have one fixed factor of production (usually capital)
Illustrate an expansion / contraction in AS
(2.3.1)
AS
What are the three conditions (shifters) of SRAS?
(2.3.1)
AS
Capital – machinery/tech improvements often increases productivity lowering unit costs = expansionary shift AS
Land – raw materials/natural resources are scarce and volatile. Higher prices will increase costs = contractionary shift AS
Labour – Low unemployment and NMW/NLW regulation will increase costs for firms = contractionary shift AS
Why does AS classically take a different shape in the short run to the long run?
(2.3.1)
AS
On the AS curve, in the short run, money wage rates, Prices of FOP and the state of technology are fixed and can’t change; a change in these results in a shift of the curve. In the long run, all factors of production are variable
Give 3 factors which influence the position of LRAS
(2.3.1)
AS
- Changes in cost of FOP
- Exchange rates
- Government intervention / regulation
Give 3 reasons why the economy may come to rest at a point below full capacity
(2.3.1)
AS
- Low level of confidence
*
What is the circular flow of income?
(2.4.1)
Circular Flow of Income
Exchange of inputs (FOP - labour) and outputs (G/S)
Supply your labour in exchange for income (wage/salary)
Income used to consume G/S i.e. output
Becomes the firms income
Generates the profits via GVA to invest into more capital
Draw the circular flow
(2.4.1)
Circular Flow of Income
What is the difference between income and wealth?
(2.4.1)
Circular FLow of Income
Income is a flow concept while wealth is a stock concept
What is the opportunity cost of accumulating wealth?
(2.4.1)
Circular FLow Income
Wealthier people have a High MPS therefore less tax revenue is gained
What is an injection with examples
(2.4.1)
Circular Flow Income
Injection - variables in an economy that add to the circular flow of income
Injections (examples):
Government spending (G), Investment (I) and Exports (X) are injections into the circular flow of income.
What is a leakage with examples
(2.4.1)
Circular Flow Income
Leakage - Variables in the economy that withdraw from the circular flow of income
Leakages (examples):
Taxation (T), Savings (S) and Imports (M) are withdrawals (or leakages) out of the circularflow.
What happens when injections are bigger than withdrawals
(2.4.1)
Circular Flow Income
It can be said that the economy is growing / multiplier effect
What happens when withdrawals are bigger than injections
(2.4.1)
Circular Flow Income
It can be said that the economy is shrinking / negative multiplier effect
What happens when withdrawals equal injections
(2.4.1)
Circular Flow Income
The circular flow of income is said to be balanced
Meaning the economy isnt growing or shrinking
What is the equilibrium of real national output ?
(2.4.3)
Macro Equilibrium
Planned AD equals planned AS
What is meant by the multiplier ratio ?
(2.4.4)
Multiplier Ratio
change in national income / initial injection = multiplier
How does the multiplier ratio boost AD further ?
(2.4.4)
Multiplier Ratio
Injection via component of AD will lead to a shift to AD2.
This will increase real GDP from Y1 to Y2.
This will reduce cyclical U.
This will increase average income.
This will increase C.
This will cause another shift in AD from AD2 to AD3.
Whereby economic growth Y to Y3, is greater than the initial injection of Y to Y2.
What is a negative multiplier ?
(2.4.4)
Multiplier Ratio
Asset bubble of 08/09 or covid, lead to a contraction in AD to AD2 as C & I fell due to a lack of confidence and uncertainty.
The macro equilibrium means negative growth and GDP falls from Y to Y1.
This leads to an increase cyclical U due to the fall in output (L= derived demand)
Higher U = fall average income (JSA<W)
This will lead to an additional fall in C
Which means AD2 will contract to AD3
This cycle could continue leading to a depression as U increases & confidence continues to fall
What is MPS ?
(2.4.4)
Multiplier Ratio
Marginal Propensity to Save
the proportion of one additional unit of incomethat issaved
What is MPC ?
(2.4.4)
Multiplier Ratio
Marginal Propensity to Consume
the proportion of one additional unit of incomethat is spent on domestic G/S
What is MPM ?
(2.4.4)
Multiplier Ratio
The marginal propensity to import
the proportion of one additional unit of incomethat isspent on imports
What is MTM ?
(2.4.4)
Multiplier Ratio
Mark to market
the proportion of one additional unit of incomethat istaxed by the Government
What is MPW ?
(2.4.4)
Multiplier Ratio
marginal propensity to withdraw
MPW=MPS+MPT+MPM
What are two formulas used to calculate the multiplier ?
(2.4.4)
Multiplier Ratio
1/(1-MPC)
or
1/MPW
What is the difference between actual and potential growth ?
(2.5.1)
Causes of Growth
Actual growth is measured as an increase in real GDP
Potential growth is an increase in the capacity of the economy
What is the difference between actual and trend growth ?
(2.5.2)
Output Gaps
Actual growth = changes in GDP
Trend growth = changes in GDP overtime and in the productive potential of an economy
What is a negative output gap ?
(2.5.2)
Output Gaps
If actual real GDP is less than potential real GDP, then there is a negative output gap
This signifies that the economy is operating with spare capacity and unemployment is likely to be relatively high
What is a positive output gap ?
(2.5.2)
Output Gaps
when actual output is greater than potential output
Does a positive output gap result in inflationary or deflationary pressure ?
(2.5.2)
Output Gaps
Inflationary pressure
How can a positive output gap occur ?
(2.5.2)
Output Gaps
Asset bubble = increased value of assets which is unsustainable = leads to a crash = creates significant losses for the owners of these assets
What are two ways to reduce the risk of positive output gaps ?
(2.5.2)
Output Gaps
Supply side policy
Increase LRAS you can increase the sustainable rate of growth
Invest into capital or labour = increase productive potential
Diversify the economy into different types of output
If one market fails/slows, others to fall back on to support GDP and employment
What are the difficulties in measuring output gaps ?
(2.5.2)
Output Gaps
1 – You can’t observe/measure potential output for an entire economy and all its FOP working at 100%. Therefore it’s estimate can be inaccurate.
2 – Actual GDP measures can be inaccurate i.e. the hidden economy
Draw and label the trade cycle ?
(2.5.3)
Trade Cycle
business cycle describes how the economy tends to exhibit recurring trends in economic growth rates
What are the chracateristics of a boom ?
(2.5.3)
Trade Cycle
High Growth
Low Unemployment
Low Spare Capacity
Inflationary Pressure
High Consumer Confidence
High Tax Revenue
Low Gov spending
How is a recession defined in the UK ?
(2.5.3)
Trade Cycle
2 or more consecutive quarters of negative income
What are the characteristics of a recession ?
(2.5.3)
Trade Cycle
High rates of unemployment
High levels of spare capacity
Low rate of inflation
Low business and consumer confidence
Worsening government budget balance
What are three benefits of growth to consumers ?
(2.5.4)
Impact growth
Increased GDP
Lower cyclical U
Increased average income
What are 3 drawbacks of growth to consumers ?
(2.5.4)
Impact growth
Subjective happiness
Longer hours/stress of work
Exploitation and income/wealth inequality
What are three benefits of growth to firms ?
(2.5.4)
Impact Growth
Higher sales & profits
Smaller negative output gap
Increased investment
What are three drawbacks of growth to firms ?
(2.5.4)
Impact Growth
Risk positive output gap
Higher scarcity FOP
Increased costs
What are three benefits of growth to governments ?
(2.5.4)
Impact Growth
Lower cyclical U
Reduced JSA expenditure
Higher income tax receipts
What are three drawbacks of growth to governments ?
(2.5.4)
Impact Growth
Risk trade deficit (M>X)
See previous IPC inflation argument
Harm GDP / certain sectors
What are three benefits of growth on living standards ?
(2.5.4)
Impact Growth
Positive multiplier effect
Encourage investment
Increase LRAS
What are three drawbacks of growth on living standards ?
(2.5.4)
Impact Growth
Non-renewable resources used up
Negative production externalities created
EC cost on environment
What are the 7 macro economic objectives ?
(2.6.1)
Macro Objectives
Trade
Inflation
Growth
Employment
Redistribution of income
Sustainibility
What is the long run trend rate of economic growth ?
(2.6.1)
Macro Objectives
average sustainable rate of economic growth over a period of time
Why do governments not aim for 0% unemployment ?
(2.6.1)
Macro Objectives
It is unsustainable and unnatainable
Would create inneficient labour markets
Why do governments aim for an equilibrium on the current account ?
(2.6.1)
Macro Objectives
To create sustainable long term growth
What is monetary policy ?
Demand Side Policies
When central banks control interest rate and money supply
What is a base rate ?
(2.6.2)
Demand Side Policies
the interest rate set by the Bank of England for lending to other banks, used as the benchmark for interest rates generally
Can change up to 8 times a year
How do interest rates tackle inflation ?
(2.6.2)
Demand Side Policies
Increase interest rate = increase marginal propensity to save = reduce consumption = deflationary pressure
What is quantatative easing ?
(2.6.2)
Demand Side Policies
- The central bank creates money electronically
2.They purchase Government bonds from financial markets
3.As demand for Government bonds increases so does their price.
4.This then reduces the yield on these bonds for investors.
5.This encourages banks/financial institutions who’ve sold previous government bonds to issue corporate bonds at lower interest rates to encourage borrowing.
6.This will filter through the financial markets into lower interest rates for all agents.
What is the term for demand for cash ?
(2.6.2)
Demand Side Policies
Liquidity preference
What is the liquidity trap ?
(2.6.2)
Demand Side Policies
once base rates get to a certain point then additional reductions have an inelastic response
Meaning the changes to C, I & (X-M) is less effective
What are government bonds ?
(2.6.2)
Demand Side Policies
a bond issued by a country’s government, promising to repay borrowed money a fixed rate of interest at a specified time
Why was QE used in the great recession of 08/09 ?
(2.6.2)
Demand Side Policies
Banks reduced interest rates from 5.75% to 2% but it had little effect, so further reduced to 0.5%
There was still little change in borrowing and banks wouldn’t lend out money
UK government then used quantatative easing totalling to £375 billion to compensate and promote lending
What are the strengths of monetary policy ?
(2.6.2)
Demand Side Policies
The central bank is independent and therefore politically neutral
Interest rate changes can be implemented quickly with either minor changes for long term planning or large swift changes when faced with a supply side shock
Expansionary monetary policy does not add to the UK’s national debt like Fiscal policy does
What are the weaknesses of monetary policy ?
(2.6.2)
Demand Side Policies
Time lag can be months or years as it has to filter through the transmission mechanism. If the increase in money does nothing to increase output in the long run, its only impact is inflationary
The liquidity trap. This makes interest rate changes more effective during boom periods to prevent overheating, which is not the current economic landscape
Monetary policy is more blanket than fiscal policy which can target a particular industry. Such national changes can then have negative effects for behaviour which the Government might want to encourage from its citizens
What is fiscal policy ?
(2.6.2)
Demand Side Policies
Government spending and taxation
What would expansionary fiscal policy involve ?
(2.6.2)
Demand Side Policies
Where the gobernment tries to boost the economy. Done by increasing government spending or decreasinf marginal rate of tax.
Result outward shift in AD
What is the difference between budget fiscal surplus and budget fiscal defecit ?
(2.6.2)
Demand Side Policies
Budget surplus = Tax receipts > Gov spending
Budget defecit = Tax receipts < Gov spending
What is the difference between indirect and direct tax ?
(2.6.2)
Demand Side Policies
Indirect - Taxes that are imposed on eocnomic agent but not paid directly. Tax is indirectly paid via third party.
Ex. Corp and Y tax
Direct - Taxes paid directly by economic agent they are imposed upon (cannot be avoided through consumption choice)
Ex. VAT and Stamp Duty
Limitations of fiscal policy ?
(2.6.2)
Demand Side Policies
Consistent deficit spending increases the level of national debt. This is unsustainable and has problems
Once debt is at a certain % of GDP, the ability to expansionary can be limited
Excessive use of expansionary fiscal policy can create a structural budget deficit where the economy’s performance is reliant on deficit spending
Indirect tax is regressive and future austerity can harm the most vulnerable groups
Problems cuased by high national debt ?
(2.6.2)
Demand Side Policies
Debt interest repayment = pure leakage from the circular flow = high OC
Crowding out effect = Govt borrowing from financial markets = reduce finance available for others = higher interest rates = reduced private investment
Future generations face higher tax & lower Govt. spending. This will reduce their standard of living
What examples of fiscal policy did the UK do during The Great Depression ?
(2.6.2)
Demand Side Policies
In1931, an Emergency Budget cut public sector wages and unemployment pay by10% and raised income tax from 22.5% to 25%.
In 1932, the UK government introduced tariffs at a rate of 10% on all importsexcept those from the countries of the British Empire
What examples of fiscal policy did the UK do during The Financial Crisis 08/09 ?
(2.6.2)
Demand Side Policies
£145 tax cut for basic rate tax payers
A temporary 2.5% cut in Value Added Tax
£3 billion worth of investment spending brought forward from 2010 and a variety of other measures such as a £20 billion Small Enterprise Loan Guarantee Scheme
What examples of monetary policy did the UK use during The Financial Crisis 08/09 ?
(2.6.2)
Demand Side Policies
The governments used quantatative easing of overall £375 billion
What is supply side policy ?
(2.6.3)
Supply Side Policies
is a form of either increased or decreased gov intervention
effect - SRAS or LRAS
What is the difference between market based and interventionist supply side policy ?
(2.6.3)
Supply Side Policies
Market based - Decrease gov intervention
Interventionist - Increase gov intervention
What are three examples of market based SSP ?
(2.6.3)
Supply Side Policies
Reducing or abolishing the national minimum wage
Reducing any tax
Deregulating and/or privatising the public sector
Give three examples of interventionist SSP ?
(2.6.3)
Supply Side Policies
Increased government spending on education and training
Increased government spending on healthcare
Increased government spending on infrastructure
Give three examples of interventionist SSP ?
(2.6.3)
Supply Side Policies
Increased government spending on education and training
Increased government spending on healthcare
Increased government spending on infrastructure
Using a Keysian and classical diagram show succesful SSP ?
(2.6.3)
Supply Side Policies
How would supply side policy support growth ?
(2.6.3)
Supply Side Policies
S/R growth Y to Y2 (Keynesian diagram).
Support reduction cyclical unemployment.
Increase average income (GDP/capita)
Increase C = positive multiplier effect.
Cause an increase in AD & future growth.
Create a profit incentive which will accelerate investment (accelerator).
Which will increase LRAS = increase trend growth (Classical diagram).
TIIB = higher standard of living, development (life expectancy), Government budget surplus & economic environment to foster further economic growth (I & FDI).
How can supply side policy support employment ?
(2.6.3)
