Week 2

Question 1

Who are the 5 main economic agents?

Answer 1

-Individuals
-Households
-Firms
-Individual Markets
-Governments

Question 2

What is the difference between microeconomic theory and empiricism?

Answer 2

Theory = theory about how systems and agents behave

Empiricism = Data from observations, surveys and experiments

Question 3

How is the ‘economic human’ defined?

Answer 3

Assumed to always behave rationally; making self-interest orientated decisions, seeking to maximise their own welfare.

Unlikely to reject ‘free cash’

Question 4

What is economics?

Answer 4

Has no one single definition, a widely accepted definition is:
‘The study of the creation, distribution and consumption of wealth in human society’

Question 5

Who travelled across what countries and when…what did he discover?
Clue = Moroccan Scholar

Answer 5

Ibn Battuta (1304-1368) travelled across north and west Africa, Europe, the Middle East, south and central Asia and China.

He saw that the world was, economically speaking, relatively flat. No one country was more poor/more rich than any other, and within each country there was a solid divide between the rich and the poor.

Question 6

What is GDP (basic)?

Answer 6

Real GDP = The value of all final goods and services produced in an economy in a year. Real meaning it is adjusted for inlfation.

GDP = Gross Domestic Product

Question 7

What is GDP per Capita?

Answer 7

Total GDP divided by population

A measure of average income, commonly used to measure ‘living standards’

Question 8

What is history’s hockey stick?

Answer 8

A graph measuring the GDP per capita of all of the countries accross the globe, going back to circa the year 1000ad. The graph looks like a hockey stick that started to take off in the year 1800

NOTE THAT THE HOCKEY STICK IS NOT AS ABRUPT FOR ALL COUNTRIES

Question 9

Which british economist’s work laid down the foundation for the ‘hockey stick’ graph, and in which publication?

Answer 9

Angus Maddison (1986-2010)

'’Contours of the World Economy, 1-2030 AD” (2007) – This book presented global economic data, including GDP and population estimates, from the first century to the 21st century.

Question 10

When did the ‘hockey stick’ graph begin to take off for britain?

Answer 10

Around 1650

Question 11

Breifly, who is Adam Smith?

Answer 11

Adam Smith (1723 - 1790) is considered by most to be the ‘founder of modern economics’…through his book ‘An Inquiry Into the Nature and Causes of the Wealth of Nations’, published in 1776.

Question 12

What is the ‘invisible hand’?

Answer 12

A concept mentioned by Adam Smith thaty basically describes how economic agents acting purely out of self-interest will unintentionally benefit society.

Question 13

What are the benefits of using national income statistics i.e Real GDP as a measure of economic performance? 4

Answer 13

1) Report card for a country
Performance over time can be analysed, useful for politicians to see if objectives of macroeconomic growth are being met

2) Used to enact, inform and evaluate economic policy
Statistics provide crucial information regarding ouput and living standards so policy makers know what to do.
If real gdp is low ; expansionary demand side policies
If GDP is increasing rapidly with inflation side effects ; Supply side policies
Can use statistics to evaluate success of policies, allowing for succesful policies to be used again OR alternatives if havent worked

3) Build forecasting models
Individuals, business and Gov can use national statistics to forecast using for example extrapolation. To make policies, influence investment decisions and other important for other countries whos economic performance is interpendant

4) Benchmark to evaluate standards of living.
A rise in national income is interpretated as a rise in living standards for all, and if long term this is indicator of economic prosperity. Can comapre with other countries to compare effectiveness of policies

Question 14

What are some problems with using Real GDP as a measure of economic growth? 3

Answer 14

1) Large amount of data, varied sources, inaccuracies
This is why GDP figures are often revised

2) There exists an informal economy
This is unrecorded economic activity I.E unliscensed business, illegal activities, DIY work ETC.
Leads to inacurate unemployment figures and lower tax revenue, impacting gov spending
EXAMPLE = Italy and Greece estimated to have an informal sector of 25% GDP

3) Double counting in output method
Using output method to calculate real GDP is prone to error if primary sector output is double counted once manufactured in secondary sector; I.E mining of copper in primary sector, once sold adds to real GDP, then can be manufactured into copper wiring in secondary sector and is counted again.
To overcome problem, the final value of all goods and services is measured

Question 15

What are some problems with using Real GDP as a measure of living standards? 7

Answer 15

1) Only measure changes in income
Big flaw as living standards consist of alot more than just income; health, education, infrastructure, enviroment, gender equality, freedom.
Can be argued that composite indicators are more effective such as HDI

2) Only accounts for quantity of output, not quality
Doesnt account for existence of negative externalities; air pollution, resource degredation ETC. these reduce living standards and are not accounted for in GDP.
Can use ‘Green GDP’ instead, where enviromental costs of growth are taken away from figure. Problem is politcal sensitivity
EXAMPLE = India and China, resource delpetion and pollutio since 1990s

3) No info regarding distribution of income
Increases in Real GDP may only benefit small % of population ; growth from one dominant sector. Poor may see no improvements in standard of living at all and absolute/relative poverty will not change
EXAMPLE = Nigeria oil, Botswana Diamond

4) Some increases in output do not boose living standards, nature of good
I.E Defence related goods. GDP will increase but living standards will not

5) Using nominal rather than real exchange rates
GDP tends to be converted into USD to provide international comparisons, but to do so real exchange rates are not used therefore there is no adjustment for purchasing power.
EXAMPLE; India has lower GDP per capita than USA however given how cheap goods/services are in india then incomes can go alot further.
Therefore Real GDP per capita data must be calculated using PPP adjusted exchange rates to get a real comparison of living standards between countries.

6) Doesnt account for remmitance income (income earned abroad by domestic worker that is sent back to family)
Income earned abroad will not count towards that countries GDP despite coming from that countries factor of production and likely being sent back to the country, providing a boost to living standards

7) Multi National Cooporations
Will earn money where they are based BUT will send the money home, meaning their profits count towards the country where they are located’s GDP however that country will not see any imrpovements in living standards through re-investment, job creation ETC as the MNC will likely send money back to home.

Question 16

What is the Malthusian Model?

Answer 16

Developed by Thomas Malthus in 1798, explains the relationship between population growth and resources in pre-industrial societies.

Malthus argued that as the population increased exponentially, food produced by agriculture would only increase in a linear fashion, meaning we would reach a point at which there is not enough food to support the population…..meaning that a sustained increase in income per capita would be impossible

Question 17

On what model of the economy was the Malthusian Model based?

Answer 17

A simple model in which the output from agriculture depended on the number of people employed in agriculture.
Also, general living standards in an economy were directly related to the output of agriculture.

Question 18

If we know that the Malthusian Model is wrong, why is it useful?

Answer 18

Because it explains why there was little to no increase in living standards / gdp per capita for hundreds of years before his time.

Question 19

Explain a basic example of the malthusian model with the following factors:
Output = Grain
Input = N^of workers working in fields + Land
Quantity of land is fixed

Answer 19

Land and labour are the factors of production, the quantity of land is fixed.

As quantity of labour (farmers) increases, the average product of labour will fall as

average product = number of units of ouput produced / number of labourers

and there will be more workers on the same amount of land

Question 20

What is the definition of diminishing marginal returns to labour?

Answer 20

That average output will decrease over time as variable factors of production are added to a stock of fixed factors of production

Question 21

What is the Malthusian Trap?

Answer 21

Technological advances or improvements in agriculture can temporarily increase living standards, but these gains are undone as the population grows, pulling living standards back to subsistence levels.

Question 22

In the Malthusian Model, what is the subsistence level of output?

Answer 22

The minimum of agricultural products needed to sustain current levels of population

Question 23

What happens if APL is above or below subsistence level of output?

Answer 23

Above = Population rises, APL falls
Below = Population falls, APL rises

Question 24

What is equilibirum in the Malthusian Model of agriculture?

Answer 24

When APL is equal to subsistence level of output

Question 25

What occurs in the long run of the malthusian model?

Answer 25

Long-term stable equilibirum is achieved at the substinence level of output due to whay occurs when APL goes above / below this level.
Malthus also stated that if population reaches a point where population exceeds the food supply, natural checks like famine, war, disease, and poverty occur, reducing population back to sustainable levels.

Question 26

Which was the first country to experience sustained economic growth?

Answer 26

Britain around 1650

Question 27

What occurred in Britain in the middle of the 18th century that coincided with a massive kink in the hockey stick?

Answer 27

The Industrial Revolution:
Huge number of scientific and technological advances coincided
* New technologies emerged in textiles, energy and transportation
which themselves became obsolete quite quickly.
* Technological progress means less input (eg labour) is needed to
produce the same output.
* This period of cumulative innovation is called the Industrial
Revolution.
* Technology is a process that takes a set of inputs and creates an
output.

Question 28

Define capitalism

Answer 28

An economic system in which private actors own and control property in accord with their interests, and demand and supply freely set prices in markets in a way that can serve the best interests of society. The essential feature of capitalism is the motive to make a profit.

Question 29

What is an ‘Absolute Advantage’?

Answer 29

When a country can produce more of a good or service compared to another country using the same quantity of factors of production.
-Can produce it more cheaply than another country in absolute terms

Question 30

What is the law of comparative advantage?

Answer 30

That countries should specialise in good and services they can produce at a lower opportunity cost compared to another country.
Only then should they trade with another nation.

For example:
2 countries, same factors of production, making computers and cotton
Country A specialises in Computers, country B in cotton
‘It only makes sense for country A to sell a computer to country B if they get more cotton in return than they could have produced themselves using the resources they used to make the computer’

Question 31

What are the evaluation points for comparative advantage theory? 8

Answer 31

1) Assumes perfect information
For both consumers and producers however consumers lack info of where cheapest good is being produced and may buy from an inefficient producer allowing these countries to survive and be profitable

2) Transport costs are assumed to be 0
In real world, large transport costs may erode a country’s comparative advantage and make it cheaper to import goods from a closer, less efficient producer

3) Patentable power
Countries w/o comparative advantage may be able to afford expensive research and development spending allowing for patentable products giving countries advnatage despite not being most efficient producer

4) Assumes no EOS advantages
Countries w/o coparative advantage can set up large scale production of a good/service to benefit from eos and compete with countries that have the comparative advantage

5) Ignores impact of exchange rate changes
A country with comparative advantage will lose out to a less efficient producer if their exchange rate strengthens

6) High inflation rates
Overtime can erode price competitiveness of a countries good/service despite being specialised

7) Protectionist measures
Tariffs and quotas imposed by governments, inflate prices of imports from countries with comparative advantage, providing domestic producers an artificial advantage. Same with domestic subsidies and non-tariff barriers

8) Non-price competition
Countries w/o comparative advantage can compete on non-price factors such as: service quality, branding, advertising, product longevity ETC.
Creating strong customer base to sell to despite being pricier than specialised countries and less efficient.

Question 32

In terms of economic systems, what are institutions?

Answer 32

AKA The ‘Rules of the Game’
are the laws and social
customs governing the
production and distribution
of goods and services.

Question 33

What 3 elements must an economic system have in order to be defined as capitalist?

Answer 33

1. Private Property
2. Market
3. Firms

Question 34

Define Creative Destruction

Answer 34

When newer, more efficient firms enter an industry and outperform incumbent firms, as a result putting them out of business and creating ‘destruction’ in the form of a loss of revenue and employer.

Question 35

What is a natural experiment?

Answer 35

A natural experiment is a situation where we use an external event, such as a change in institutions or a natural disaster, to compare the outcomes for those who were not affected.

Question 36

What is a counterfactual event?

Answer 36

A counterfactual event is what would have
happened if there had been no change.