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AS Economics > Unit 2 > Flashcards

Unit 2 Flashcards

1
Q

What is Aggregate Demand?

A

total demand for goods and services within an economy

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2
Q

What is the formula for AD?

A

C + I + G + (X-M)

C = consumption
I = investment
G = government spending
X = exports
I = imports
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3
Q

What is consumption?

A

Money spent by individuals and families on consumer goods

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4
Q

What affects consumption?

A
  • Disposable income - An increase in this will increase consumption as people are more willing an able to spend - depends on MPS and MPC
  • Interest rates - If high people will save as the reward is higher. If lower the cost of borrowing is lower so more consumption
  • Prices - Movement along AD curve
  • Consumer confidence - future expectation of wealth, income and interest rates
  • Wealth effect - if the value of assets rise people are more likely to consume more
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5
Q

What is investment?

A

Business invest in new stores and new technology

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6
Q

What affects investment?

A
  • Interest rates - if high the profitability of project is lower so will not be as viable
  • Business confidence - driven by the consumption of consumers, if high more profit is being made so firms will invest
  • Spare capacity - an increase in demand will lead to more capacity being needed
  • Corporation tax - high rates mean firms will make less profit and will be less able and willing to invest
  • Advance in technology - businesses want the latest most efficient methods so a change in technology will lead to investment
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7
Q

What affects government spending?

A
  • Size of population - more people will require more public goods
  • Shocks - natural disasters, healthcare, war, economic shocks etc will lead to increased spending
  • Economic cycle - if recession then more JSA and benefits paid out, less tax revenue due to unemployment (opposite for boom)
  • Politics - certain types of government (eg conservatives) will want to spend less money
  • Market failure
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8
Q

What affects imports and exports?

A
  • Exchange rates - value of one currency in terms of another, SPICED
  • Incomes within trade partners - affects exports as it depends on incomes of countries buying
  • Incomes in home country - if high then more luxury products will be wanted from abroad, therefore increasing M
  • Factor endowment - what a country has been born with, natural resources
  • Skills of workforce - highly skilled leads to higher quality goods therefore increasing exports
  • Protectionism - restricts trade between countries
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9
Q

What is Aggregate Supply?

A

Combination of all the willingness and ability of businesses to supply in an economy

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10
Q

Why is the AS curve curved?

A

Spare capacity

Lots of spare capacity = more able to supply more for a small increase in price

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11
Q

What affects AS so firms will supply more?

A
  • Increase in resources - will have more spare capacity
  • Fall in costs - at a given price more profit will be made so a firm will be more willing to supply
  • Subsidies/fall in tax - same as above
  • Increase in productivity/Advance in technology - output increases for a given amount of input, items are more profitable so are more willing to supply
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12
Q

What is the circular flow of income?

A

OUTPUT generates INCOME which is spent as EXPENDITURE which requires OUTPUT

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13
Q

What is an injection?

A

An addition of money to the circular flow

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14
Q

Examples of injections

A

Exports

Government spending

Dis-saving

Investment

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15
Q

What are leakages?

A

Removal of money from circular flow

Withdrawal

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16
Q

Examples of leakages

A

Tax

Savings

Imports

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17
Q

What is the multiplier effect?

A

The final impact on the total value of the circular flow is greater than the initial injection

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18
Q

How does the multiplier effect work?

A
  • Injection of money
  • Creates jobs and so wages are paid out
  • Wages are spent in the local economy
  • Creates more income for firms
  • Goes around until leakages reduce it to nothing
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19
Q

What are the macroeconomic objectives?

A 
B - trade balance
U - low unemployment
D - sustainable government debt
G - economic growth
I - low and stable inflation
E - fair distribution of income
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20
Q

How is economic growth measured?

A

Expressed as a % change in real GDP

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21
Q

Problems with measuring economic growth

A
  • Shadow economy - some income/expenditure not included
  • Double counting
  • Voluntary work - still produces output
  • GDP per capita is only an average
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22
Q

Why do we want economic growth?

A
  • More income leads to a higher quality of life
  • increased government spending
  • Attracts further investment
  • Reduces reliance on other economies
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23
Q

Drawbacks of economic growth

A
  • Inflation
  • Increase in pollution - more output and traffic
  • Resource depletion - run out of factors of production
  • People are busier - creates stress and may lead to to less family time
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24
Q

Evaluation points of economic growth

A
  • Inflation - depends on amount of spare capacity
  • Pollution - new technology may mean less pollution is produced
  • Unemployment - people may be made redundant due to firms acquiring new technology
  • Higher SoL - depends on distribution of income, may not benefit all
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25
Q

What causes short term economic growth?

A

Change in AD curve creating a movement up the AS curve

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26
Q

What causes long run economic growth?

A

A change in Aggregate Supply as it takes time to increase capacity

Once it increases it is unlikely to decrease again

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27
Q

What is unemployment?

A

When people are out of work and actively seeking employment

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28
Q

What is unemployment rate?

A

The % of working age people out of work and actively seeing employment

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29
Q

What is the claimant count?

A

The number of people claiming JSA

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30
Q

What are the disadvantages of the claimant count?

A
  • People may not claim due to embarrassment or not needing the money
  • People can only claim when they have been out of work for over 4 weeks
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31
Q

What is the labour force survey?

A

A survey of a large number of people to see if they’re working or not

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32
Q

Disadvantages of the labour force survey

A

Only an average so it is not accurate

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33
Q

What are the 3 types of unemployment?

A

Cyclical

Structural

Frictional

34
Q

What is cyclical unemployment?

A

Demand led which follow the economic cycle. When there is a lot of growth demand for labour is high so unemployment is low

35
Q

What is structural unemployment?

A

People who lack the skills to work in jobs with current vacancies (e.g. dock workers)

36
Q

What is frictional unemployment?

A

People who are stuck between jobs as they are temporarily unemployed

37
Q

What are the effects of unemployment of the individual?

A
  • Low income - low SoL
  • Low self esteem - depression
  • Loose skills due to lack of practise - less employable in future (Hysteresis)
38
Q

What are the effects of unemployment to society?

A
  • Crime - due to lack of income

* Negative multiplier - less consumption

39
Q

What are the effects of unemployment on the economy?

A
  • Less tax revenue - fewer people working, govt has less ability to correct market failure
  • More spent on JSA - more pressure on govt
  • Government deficit - less tax & more JSA
40
Q

What is inflation?

A

General increase in the price level over a period of time

41
Q

How is inflation calculated?

A

Weighted basket of goods - ONS purchases the basket and calculates the average price, it is then compared to the previous year and expressed as a %

42
Q

What are the causes of inflation?

A
  • Cost push - increase in the cost of factors of production increases so firms increase their prices to protect their profit margin
  • Demand pull - when there is excess demand so firms can increase their prices and increase their profit margin
43
Q

What are the impacts of inflation?

A
  • Effects household income - Assuming wages stay the same, can now buy a lower volume of goods which would reduce SoL
  • Menu costs - constantly changing prices, creates OC
  • Shoe leather costs - the OC of shopping around for the best price
  • Decrease in international competitiveness - assuming no change in exchange rate, it will take more foreign money to buy a product therefore decreasing exports
44
Q

What is the difference between real and nominal GDP?

A

Nominal: does NOT take into account inflation

Real: DOES take into account inflation

45
Q

What is the balance of payments?

A

Current account - trade balance, transfers balance, investment income balance

Capital account - short term capital flows, long term capital flows

46
Q

What is X and M in the trade balance?

A

X is money coming into the UK via exports

M is money leaving the UK via imports

47
Q

When is there a trade deficit or surplus?

A

Trade deficit - when X M

48
Q

What are the causes of a trade deficit?

A
  • low quality of UK goods - low demand of exports so X falls relative to M
  • Cost push inflation - costs of firms increase so they’re less willing to supply, decreasing exports
  • Fall in labour costs in Eurozone - import costs are less so imports will increase
  • Strong £ - imports will be cheaper and exports more expensive
  • Increase in interest rates - foreigners will money into UK so it will increase the value of the £ (previous point)
  • Low productivity in UK - high production costs means international competitiveness is lost so exports decrease
49
Q

What are the impacts of a trade deficit?

A

Decrease in AD (X-M) is negative

50
Q

What is government debt?

A

The accumulation of the previous years deficit and surplus

  • Deficit - gov spending > tax revenue
  • Surplus - gov spending
51
Q

Why is adding to the government debt ok?

A
  • If the country has the ability to pay it back
  • If the size of the debt is shrinking as a % of GDP (growing at a slower rate)
  • Inflation needs to be high as the value of the debt will be eroded away as it is worth less
52
Q

What are the negatives of a government deficit?

A

It is very expensive as interest has to be paid on top of the money owed meaning it has a large OC

53
Q

How can government debt be reduced?

A
  • Borrow less by spending less - less growth, leads to lower QoL, AD will decrease and the multiplier effect will not happen due to less injections
  • Increase revenue by increasing tax - less AD due to less consumption and investment, less of a multiplier effect
54
Q

What is a fair distribution of income?

A

An economy where 10% of the people have 10% of the money, 50% of people have 50% of the money etc

55
Q

Problems with inequality of income

A
  • Poverty - absolute and relative poverty
  • Tension in society - people who can’t afford anything will be living with people who can afford anything they want
  • Can make the problem worse - poorer children will not do as well at school which limits their employment prospects and leads to further income inequality
  • Inheritance - Inequality of wealth (money built up over time)
  • Crime - people who cant afford anything will resort to criminal acts so they can get what they desire
56
Q

What are the three policies to achieve macro objectives?

A

Fiscal

Monetary

Supply side

57
Q

What is fiscal policy?

A

Changing:
• tax
• government spending

58
Q

What is monetary policy?

A

Changing:
• interest rates
• Money supply
• Exchange rates

59
Q

What is supply side policy?

A

Anything that affects AS

60
Q

How does a cut in income tax effect growth?

A 
• More disposable income
• Increased consumption
• AD increases as C is a component
• Move up AS curve
• Increase in real GDP showing growth
- inflation
- businesses are closer to full capacity so unemployment falls
61
Q

How does an increase in government spending effect growth?

A
  • Increase G
  • Increase AD as G is a component
  • Increase in real GDP as AD shifts right and moves along the AS curve
62
Q

Evaluation of fiscal policy

A
  • depends on MPS/MPC
  • Assumes ceteris paribus
  • Cannot estimate value of multiplier
  • Depends how far up the AS curve you start - could be inflationary
  • Assumes AS remains the same
63
Q

How does a cut in the interest rate work?

A
  • Reward for saving decreases - MPS decreases
  • Repayments decrease (specifically mortgage) - people have more disposable income therefore consumption increases
  • Cost of borrowing decreases - firms more likely to borrow and therefore invest
  • C and I both components of AD therefore causing a shift to the right (and therefore economic growth)
64
Q

Evaluation for a cut in interest rates

A
  • Ceteris paribus
  • Assumes no change in taxes
  • Depends how far up AS curve you are
  • Depends on MPS/MPC
65
Q

How does a cut in interest rates affect exchange rate?

A
  • Reward for saving decreases
  • Investors remove money from your country
  • Demand for £ decreases
  • Value of the £ depreciates
  • Exports appear cheaper therefore demand rises causing a rise in AD = growth
66
Q

Evaluation for interest rate affecting exchange rate

A
  • Investors may not remove money
  • Value of £ may not fall depending on strength of other exchange rates
  • Depends on price elasticity of good (linked to quality of goods)
  • Protectionism may prevent exports from increasing
  • People may substitute cash investments for physical investments (take money out of bank but buy property)
67
Q

How is the money supply increased?

A

• Quantitative easing - Bank of England buys bonds from the government (new electric money)

68
Q

What does a supply side policy do?

A

Increase the money supply therefore devaluing the currency and causing the interest rate to fall (price of money) to encourage consumption and investment

69
Q

How do supply side policies work?

A
  • Increase productivity - more can be produced with the same resources
  • Increase investment - more capacity and more efficient technology
  • Improve mobility of labour - making it easier for people to move to where there are vacancies
  • Job incentives - persuade people to work which increases the labour force so wages fall/stop growing even further
  • Stimulate invention/innovation - reduce costs so firms are more willing to supply
70
Q

Examples of supply side policies

A
  • Apprenticeships - increase skill of the workforce
  • Start up loans for new businesses - incentives to start up therefore increasing capacity
  • Wage subsidy - acts as a reduction of costs
  • Benefit cuts - incentive to work
  • Promote higher education
  • Subsidise childcare
  • Privatisation - profit motive to be more productive and efficient
71
Q

Evaluation points of supply side policies

A
  • Assumes ceteris paribus - benefit of policy may be cancelled out
  • Brain drain
  • Start up loans not effective
  • People may not take up subsidies
  • Time lags on policies
  • People may not use new infrastructure
  • Benefit cut will only work if there are job vacancies
  • Needs to be demand for more spare capacity
72
Q

Why do policy objectives conflict?

A

One single policy is unlikely to achieve all 6 objectives

A compromise is needed to achieve all 6 objectives so multiple policies will need to be used

73
Q

What is absolute advantage?

A

When country A can produce at a lower unit cost than country B

74
Q

What is comparative advantage?

A

When country A can produce at a lower opportunity cost than country B

75
Q

What does absolute and comparative advantage assume?

A

That both countries have the same resources

76
Q

Advantages of trade

A
  • Allows a country to specialise so more units will be produced with the same resources
  • More production reduces the price so it becomes more affordable
  • Improved quality of life
  • Better quality products
  • Consumers get more choice
77
Q

Why is protectionism used?

A

To help stop a country losing its international competitiveness

78
Q

What is a tariff?

A
  • Tax on imports
  • % of the selling price added onto the price of the product
  • Imports will fall as producers put up their prices
79
Q

What is a quota?

A

• Physical restriction on the number of imports

  • Competition is reduced
80
Q

What are voluntary export restraints?

A

• When a country asks another to limit the number of exports

  • Restricts competition
  • Done to repay a favour
81
Q

What are non tariff barriers?

A

• Rules/quality standards that increase the cost of importing by making trade difficult

82
Q

Effects of protectionism

A 
On home producers
• Firms put under less pressure
• Less unemployment
On foreign producers 
• Products are made expensive so trade is lost
• Lower quality of life
• Can't grow their business
Consumers
• Increased costs
• Unsafe products

AS Economics (1 decks)

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