Week 3

Question 1

objectives of eco growth

Answer 1

o High and sustained eco growth
o Macro stability – economic fundamentals to remain strong - employment low inflation
o Distributive Justice - protecting vulnerable groups with “effective” social safety nets – health, pensions, etc

Question 2

Aggregate demand / eco growth formuala

Answer 2

AD = C + G + I + Net exports

Question 3

define GDP

Answer 3

a measure of the monetary value of all goods and services produced in one year.

Question 4

define unemployed

Answer 4

don’t have a job, looking for a job, they are available for work

‘real gdp’ = takes out price changes e.g. inflation

Question 5

explain productivity

Answer 5

LLC + productivity = output

major determinant of eco growth and inflation

A fall in labour productivity levels lead to a rise in production costs (assuming wages and fixed costs remain the same)

Higher productivity allows businesses to pay higher wages and achieve increased profits at the same time

Question 6

explain demand pull inflaiton

Answer 6

excess demand where suppliers cannot in the SR expand supply
• Caused by “too much money chasing too few goods” – easy money and easy fiscal policy
• Fix by ↓ MS and ↓ govt spending

Question 7

fall in Ad can come via:

Answer 7

fall in net exports
cut in govt spending
higher interests rates
decline in household wealth and confident

Question 8

Increase in AD can come via

Answer 8

depreciation of the exchange rate

cut in direct and indirect taxes

increase in house prices

expansion of supply of credit and lower interest rates

Question 9

potential causes of fall in AS

Answer 9

migrant workers leave

collapse in business capital investment spending

Higher production costs

effects of a major natural disaster

possible marco consequences:
may cause higher inflation 
reduce national GDP
reduce employment
Increase a BOP current account deficit

Question 10

explain cost push inflation (pass it on)

Answer 10

supply drivien CPI occurs when firms respond to rising costs by increasing their prices to protect their profit margins:

can be caused by:
rising unit labour costs

higher prices for important materials/ raw materials

Depreciation in the exchanged rate causing a rise in import costs

Increase in business taxes e.g.carbon tax

Question 11

inflation impact on real estate

Answer 11

1.) Reduce demand for real estate:
hurt mortgage lenders
money receive from loan repayments is worth less than when money was originally loaned

increase interest rate > increase monthly repayment > prevent potential buyers from qualifying for loans > reduced the demand for real estate

2.) Create uncertainty in real estate market:
hurts homeowner is space is leased > owner will receive rental that is worth less than before > increase rent > not all tenants can afford increases

3.) Investors move away from real estate market:
investors will seek higher returns, in other markets - this may reduce money available in the mortgage and housing market

4.) Price people out of the market:
Inflation results in an increased in construction costs (LLC) leading to higher housing prices

5.) Reduces discretionary income:
Drives up costs of basic necessities > reduces discretionary income > reduces demand for vacation home, motel, tourist attraction

Question 12

define financial sector

Answer 12

the set of institutions, instruments and the regulatory framework that permits transactions to be made by incurring and setting debts, by extending credit. This system makes possible the ownership of wealth from the growth of physical cap

Question 13

objective of monetary policy

Answer 13

• The Reserve Bank Board sets interest rates so as to achieve the objectives set out in the Reserve Bank Act 1959
• the stability of the currency of Australia;
• the maintenance of full employment in Australia; and
the economic prosperity and welfare of the people of Australia

Question 14

major tools of monetary policy

Answer 14

• Changes in reserve requirements – ↑ reserves restricts lending → ↑ interest rates
• Open-market operations – buying and selling of govt T-notes, bonds to impact on the amount of cash available in the FS – impacts on i/r
• Changes in the discount rate (the i/r at which banks can borrow from the Central bank)

Question 15

explain expansionary monetary policy

Answer 15

helps speed up the economy or increase economic growth

draw graph

Question 16

Contractionary monetary policy

Answer 16

Helps slow down the economy or slow economic growth

draw graph

Question 17

type of taxes

Answer 17

DIRECT:
income tax
wealth tax
service tax

INDIRECT:
Service tax Value added tax excise duty
custom duty

Question 18

define progressive tax

Answer 18

Progressive tax – as income goes up the % of income paid in taxes goes up (PAYG = direct)

Question 19

define regressive tax

Answer 19

Regressive tax – as income goes up the % of tax paid goes down (GST = indirect)

Question 20

define proportional tax

Answer 20

Proportional tax – as income rises tax remain the same

Question 21

problems with tax environment

Answer 21

• Difficult state and federal relationships…
• Problems in controlling the cash “black’ economy
• Public perception of excessive taxation and inequality
• Low tax morality in Australia!
• Value for money argument…ie what do you get for your taxes

Question 22

If you knew in the next five years, the economy would experience growth with moderate inflation, would you invest in real estate today or would your wait for a couple of years? Why?

Answer 22

Home owners will try and enter the real estate market whilst they can still afford it.
Investors may enter the market today in anticipation of further price increases.
Where there is a rush to try and get into property in these circumstances it may create an asset bubble
As demand doesn’t tail off as house prices rise

Question 23

Assume fixed interest rate loans, does unanticipated inflation benefit mortgage borrowers or mortgage lenders?

Answer 23

There are positive and negative effects of inflation for savers and borrowers.
Unanticipated inflation means that investors/borrowers can’t arrange their affairs so are more likely to be adversely affected.
With fixed interest rate loans
The mortgage borrower will benefit as there will be no change to the interest rate despite the increase in inflation.
This effectively reduces the real interest rate payable on the loan.
Conversely, the Mortgage lender will receive a lower real return on their loans.
With variable interest rates
When inflation increases
The mortgage lender is able to increase the interest rate in line with the inflation rate and maintain real rates of return.

Question 24

If the economy is in a recession,
should the government increase or decrease taxes?
Government spending? Money supply?

Answer 24

If the economy is in a recession,
Economic growth is slow or even negative;
Unemployment is rising;
Inflation tends to be low.
The economy needs either a fiscal stimulus or an easing of monetary policy.
Fiscal or budgetary stimulus occurs when the federal government runs expansionary fiscal policy – either by:
Increasing government spending on health, education or infrastructure,
By cutting taxes (the reduced taxation gives consumers/businesses more disposable income and hence increase consumption and investment).
Or a mix of reduced taxes and increased government spending can occur simultaneously.
The money supply should be increased and interest rates reduced in a recession (via RBA buying govt securities (see in Q4).

Question 25

The Central Bank wishes to stimulate demand in an effort to fight a slowdown in the economy by using Open Market Operations (OMOs). 
Trace through the transmission mechanism from the money markets to the real output markets illustrating with diagrams. 
Discuss what happens to:
Interest rates
Inflation
Investment
Consumption
Aggregate Demand AD = C + I + G + X
National output (GDP)

Answer 25

Transmission mechanism” Definition
The process which shows how a monetary policy change is transmitted through the economy
Begins with a change in central bank (RBA) policy to either increase or decrease the cash interest rate
Cash Rate: The borrowing rate at which banks can obtain funds from the central banks or other banks exchange settlement accounts (ESA) held with the RBA

Open Market Operations (OMOs) are the buying or selling of government treasury notes by the RBA to
Influence cash conditions in the money markets and hence the cash interest rate.

In the scenario referred to in the question,
RBA will want to stimulate the economy by:
Increasing cash in the money market (increasing the money supply)
Reducing the cash interest rate
The RBA will buy government securities from the banks and holders of T-notes
“Pay” for them by transferring cash into bank accounts and ESA of banks
Resulting in more cash in the banks
Money markets putting downward pressure on the cash interest rate

Question 26

What is meant by “shifting” the property tax? When is it difficult to shift the tax?

ii. How does property taxes affect real estate and land use?

Answer 26

Property Tax – collected from owner/user of privately owned land, based on value of the property. Who pays it? Can it be shifted?
Tax Shift: When you can pass the tax onto others?
d
Property tax cannot be shifted to others in owner-occupied homes (no-one to pass it onto)
Can be shifted in rental and business-owned properties – shifted on to the customer or tenant as increased rent
Difficult to “shift” in soft rental markets with high vacancies - as fear loss of tenants if rent increased.

Increases in property taxes can reduce property value (capitalised tax increase over the years)
No property tax on some property may encourage more – eg schools, churches
Low property tax to encourage business, industry to a local council area
High property taxes  greater density and intensity of land use to offset higher tax
Increasing property tax  reduce property extensions/renovations – as value reassessment increases tax Increase in rate notice cost

Question 27

pros and of negative gearing

Answer 27

pros:
Capital Growth 
(On high capital growth area)
High Depreciation
(Can get tax refund)

Potential Tax Saving
(As rental income @loss tax claim)

Opportunity for development
(Speculation on negative cash flow area)

Question 28

cons of negative gearing

Answer 28

Cash Flow Reduce
(Rental Income < Interest Repayment)

Capital Gain
(Reliant on market fluctuation)

Serviceability
(More income for the mortgage cal)

Blamed for housing price increases

Increases demand for housing by investors with so-called crowding out of first home buyers

Rental properties in New South Wales purchased by investors has grown by 61% since 2013 (50% of these were in Sydney)

Since 2011, the percentage of first home buyers entering the market in NSW has fallen from 18%  8%

Tax advantages to “wealthy” investors should be pruned back

Negatively geared properties impact on cash flow

Probably isn’t the best investment strategy if you don’t have a lot of money to spare or if you want to create an influx of passive income

Negatively geared property is completely reliant on capital gains for profits

Need to be able to service the loans and associated costs of negative geared properties

The lack of serviceability prevents the development of a large investment portfolio