Unit 2: AOS1 Economic Activity

Question 1

KK3:
Outline the 4 key flows of the Five-Sector circular flow model of Economic Activity.

Answer 1

Flow 1: Resources (land, labor, and capital) owned by the household sector are provided to the business sector to aid production.

Flow 2: Income is provided by the business sector to the household sector as compensation for their assistance in aiding production.

Flow 3: The income earned by the household sector is spent on goods and services produced by the economy (household consumption). However, there are leakages due to taxation (leakages to the government sector), savings (leakages to the financial sector), and imports (leakages to the overseas sector). Finally, there are injections from these sectors including government expenditure (injection from the government sector), investments (injection from the financial sector), and exports (injections from the overseas sector).

Flow 4: The total production of goods and services within the economy.

Question 2

KK4:
Explain the meaning of the “Business Cycle.”

Answer 2

The Business cycle highlights how economic activity changes over time, where periods of extreme economic growth will be followed by periods where there is an extreme decline in the growth of an economy.

Question 3

KK4:
Identify and explain Phase 1 of the “Business Cycle.”

Answer 3

Phase 1: Peak/Boom
- During a peak or a booming phase, economic growth rates in an economy will be relatively high, entailing great amounts of spending and investment in the economy, with fewer savings or leakages. This, however, places upward pressure on prices and yield inflation, causing an economy to move into the next phase.

Question 4

KK4:
Identify and explain Phase 2 of the “Business Cycle.”

Answer 4

Phase 2: Contraction/Downturn
-As a result of the high and unsustainable prices in a booming cycle, the ability for consumers to purchase goods/services will reduce, causing a decrease in consumption and an increase in savings. Thus, slower rates of economic growth will be seen.

Question 5

KK4:
Identify and explain Phase 3 of the “Business Cycle.”

Answer 5

Phase 3: Trough/Recession
- This is a period where economic activity/growth is at its minimum point. Due to this reduction in spending, unemployment levels increase rapidly, followed by price decreases as well.

With a recession occurring if there are two consecutive quarters of negative GDP growth.

Question 6

KK4:
Identify and explain Phase 4 of the “Business Cycle.”

Answer 6

Phase 4: Recovery
- After the trough/recession in the economy, spending levels will increase again due to low prices and interest rates, which is known as a “recovery.” This will stimulate higher rates of Economic growth once again.

Question 7

KK5:
Define a “Leading indicator.”

Answer 7

A leading indicator provides insights into future trends of economic activity in a nation. An example including a consumer survey that seeks insight into future spending patterns.

Question 8

KK5:
Define a “Coincident indicator.”

Answer 8

A coincident indicator provides insight into current trends of economic activity within a nation. An example could include levels of retail sales.

Question 9

KK5:
Define a “Lagging indicator.”

Answer 9

A lagging indicator provides insight into past trends of economic activity within a nation. An example including historical figures of GDP from previous quarters.

Question 10

KK6:
Define the term “Aggregate Demand.”

Answer 10

Aggregate Demand (AD) comprises the total expenditure on goods and services within an economy over time, with this spending including household consumption, government expenditure, investments, and net exports.

Question 11

KK8:
Define the term “Aggregate Supply.”

Answer 11

The Aggregate Supply (AS) of a nation describes the economy’s maximum productive capacity at a given point in time with the resources the economy has available. This depends on both the quantity and quality of resources available to aid production in an economy.

Question 12

KK7:
List the factors affecting Aggregate Demand.

Answer 12

: Levels of consumer confidence/sentiment
: Disposable incomes
: Interest rates
: The exchange rate
: Levels of growth experienced by an economy’s trading partners

Question 13

KK9:
List the factors affecting Aggregate Supply.

Answer 13

: Costs of production
: Technological changes
: Productivity growth
: The exchange rate
: Climatic conditions
: Government regulations

Question 14

KK10:
Define the term “Gross Domestic Product.”
: Distinguish between Real and Nominal GDP.

Answer 14

GDP represents the final dollar value of production within an economy over a given period.

Nominal GDP measures the final dollar value of goods and services produced in an economy at current price levels. In contrast, real GDP adjusts this dollar value for price changes over time.

Question 15

KK11:
List the benefits of economic growth within an economy.

Answer 15

: Improved material living standards in the economy. More production requires higher labor levels, which creates higher incomes and greater accessibility to goods and services.

: Improved non-material living standards. Economic growth demands more labor, which creates higher levels of employment, improving life quality factors like social well-being, self-esteem, and overall mental health.

: Improved economic development: The government collects more in taxation revenues during periods of high growth, allowing them to invest in more projects that improve the economic development of a nation.

Question 16

KK12:
Identify some costs of Economic growth.

Answer 16

: Boom and bust cycles.
: Congestion and pollution.
: Affluenza.
: Widening inequality.

Question 17

KK12:
Explain the meaning of a “Boom,” and a “Bust,” cycle.

Answer 17

A boom cycle occurs when economic activity and spending is high in the economy, with certain markets seeing high levels of inflation. These high prices reduce the ability for lower income households to assess goods and services produced in the economy.

A bust cycle occurs when economic activity and spending reduces in certain markets of the economy. Here, prices drop immensely and unemployment rises as a result, causing a reduction in both material and non-material living standards.

Question 18

KK12:
Explain how economic growth can lead to higher rates of Congestion and Pollution.

Answer 18

Higher rates of growth in the economy require greater levels of employment, causing more traffic and strain on infrastructure as a result.

Higher growth rates naturally increase CO2 emissions in the nation, as well as a depletion of further non-renewable resources in the economy.

Question 19

KK12:
Define “Affluenza,” and explain its correlation with economic activity.

Answer 19

Affluenza as a concept states that consumers have an addictive pursuit of continually purchasing more goods and services produced in the economy, where they are never satisfied by their consumption. This is ultimately damaging to their mental health as a whole and is exacerbated by higher rates of economic growth, given this increases incomes and excessive spending habits.

Question 20

KK12:
Explain how economic growth can yield a “widening inequality.”

Answer 20

If a nation doesn’t have an equitable taxation system in place, then higher growth rates will yield greater profits for certain producers in the economy and company shareholders who are responsible for this production. This is relative to the minimal benefits received by lower-income households/consumers in the economy.

Question 21

KK13:
Identify some limitations of using GDP as a measurement of living standards in the economy.

Answer 21

: GDP does not account for non-marketed (or unpaid) goods and services produced in an economy, which do still have value.
: GDP measures such a large amount of economic activity and production overtime, meaning it’s often inaccurately measured.
: GDP growth overtime can be inaccurate due to the effects of inflation in the economy, meaning there is a need for “Real GDP,” to be calculated instead, which can be inaccurate as well.
:GDP/GDP per capital provides no information as to the non-material living standards within an economy.

Question 22

KK14:
Explain an alternative measurement of living standards to GDP.

Answer 22

: Human Development Index (HDI)
The HDI compares the well-being of citizens within different economies, providing each nation with a ranking from 0-1.
The three key dimensions of the HDI are as follows.
1: Living standards- Gross National Income.
2: Heath-Life expectancy.
3: Education- The access citizens have to education services.