UK Business Cycle and Labour Demand

Question 1

What is the definition of the aggregate economy? How does this look in the UK (statistically)?

Answer 1

• The juristiction in which people earn a living and interact with politics
• GDP: £2.75 bn
• GDP per Capita: £48,000
• Population: 68 million

Question 2

Why is the aggregate economy important?

Answer 2

• Helps us to discover, explain and predict
• Illustrates the relationship to business cycle theory
• Differentiates indicators from models
• Sources include the OECD, BoE, ONS

Question 3

What is the business cycle? What happens to GDP during these cycles (FACTS)?

Answer 3

• Busienss cycle: the variation of economic activity around the path of trend growth
• Illustrates booms, upturns, downturns, recessions and depressions
• In a typical recession, GDP falls by ~2.75%
• In a typical expansion, GDP rises by ~20%
• In a typical depression, GDP falls by over 10%

Question 4

Further clarify the relationship between recessions and expansions

Answer 4

• Recessions last about a year, whilst expansions last around five years
• Expansions can offset recessions in under one year
• However, not all recessions are the same, some can be triggered by financial crises, which are more sustained and mean that recovery is slower
• These recessions tend to be spread across nations and cause weak domestic demand and tight credit

Question 5

Provide a brief outline on the history of the views on the aggregate economy

Answer 5

• Previously seen as largely deterministic (LR trends)
• Due to regularities in Business cycles, it took until 1920s/1930s to challenge this [Slutsky and Frisch]
• This led to a greater uptake of stochasticism (SR fluctuations)

Question 6

Summarise the views of Slutsky and Frisch on the aggregate economy

Answer 6

• Slutsky and Frisch suggested that economies are always subject to shocks (DS and SS), therefore the position is always changing

Question 7

What is the impulse-propagation mechanism?

Answer 7

• Explains how shocks (impulses) disturb the economy from long-run trends, and this leads to persistant (propagation) over time
• The propagation mechanism: The channels through which the shocks affect the economic outcome

Question 8

Further explain the process of the impulse-propagation method?

Answer 8

• When an economy is disturbed, the economy begins a deterministic adjustment until the next shock
• The mechanism transforms these random ‘impulses’ into irregular cyclical oscillations
• Given the endless amounts of shocks, the economy will never really settle down to a steady state

Question 9

How do random shocks link to AD-AS?

Answer 9

• Random shocks, paired with the AD-AS model, illustrate normal cyclical events
• AD-AS propagation mechanism filtered many shocks to simple trends
• Similarly, LR growth patterns can be shown which dominates SR business cycles

Question 10

Give some examples of shocks

Answer 10

• OPEC Crisis (1973/74), (1979,80) MONETARIST SQUEEZE
• ERM Exit (1992)
• DotCom Bubble (2000)
• GFC (2008)
• Brexit (2016)
• COVID (2020)

Question 11

What are some issues with understanding the British Macroeconomy?

Answer 11

• Data measurement issues: GDP has its issues
• Shocks and Key Policies unobserved: GDP has a lag and observing other macroindicators doesn’t tell us the reason from movement from the steady state
• Policy makers infer; inaccuracy
• UK is no longer in a position to greatly affect global markets

Question 12

What are Composite Leading Indicators (CLIs)?

Answer 12

• CLI= A set of componant series selected from a wide range of key ST economic indicators
• Example: Stock Market Indicies
• Using differentiation, we can see turning point in CLIs

Question 13

What are different macroeconomic trends?

Answer 13

• If deviations from trends in macroeconomic variables are positively correlated with the deviations from trends in real GDP, they are PROCYCLICAL
• If deviations from trends in macroeconomic variables are negatively correlated with the deviations from trends in real GDP, they are COUNTERCYCLICAL
• If deviations from trends in macroeconomic variables are not correlated with the deviations from trends in real GDP, they are ACYCLICAL

Question 14

Why are CLIs used?

Answer 14

• The OECD system of CLIs is designed to provide early signals of turning points in business cycles and fluctuations in output gaps
• CLI only shows qualitative analysis (when it turns) not quantitative (how much)
• Phases in CLIs will fluctuate like business cycle
• OECD observes ~6-9 months ahead of trend

Question 15

What can’t CLIs explain?

Answer 15

• CLIs cannot explain some phenomenoms
• Like the productivity puzzle

Question 16

What is the derived demand for labour? What are exogenous shocks with relation to this?

Answer 16

• Labour is derived for the demand of the product
• +ve exogenous shock: Increase demand for a product, increases demand for labour
• -ve exogenous shock: Decrease demand for a product, decreases demand for labour

Question 17

What is the Productivity Puzzle?

Answer 17

• Employment exceeded the pre-recession peak
• However, there has been a smaller increase in output, arguing that labour productivity has declined
• Main possible reason: Falling real wages allowing businesses to hold onto unproductive labour

Question 18

What is the reasons for poor productivity?

Answer 18

• Low levels of business investment
• Bank’s lower willingness to lend to new businesses
• Higher retirement age as a result of population and pensions changes
• Firms’ ability to retain staff because of low real pay
  growth
• The effect of incentives?
• The fall in productive potential in North Sea oil/gas
  and the finance/insurance sectors.

Question 19

What does the Bank of England say about poor productivity reasons?

Answer 19

• Firms’ ability to retain staff because of low real pay
  growth
• Lower ability to produce goods and services
• ‘Zombie firms’
• Fall in business investment
• Higher ULCs, reducing competition and labour demand

Question 20

What did the ONS say about the poor productivity rates?

Answer 20

• UK is 18 percentage points lower than the average for the rest of the G7 advanced economies
• We have also seen, Fall in the number of people working full time and rise in the number of people working part time,
• Lower average earnings
• Inaccurate measurement of labour productivity? (ONS)

Question 21

What are the views on the current British macroeconomic performance?

Answer 21

• Inflationary environment gives the ‘cost of living crisis’
• Outlook for GDP and employment appears weak over the short/medium term
• Despite recent government measures- freezing energy prices