11 Economic Performance Flashcards
(422 cards)
1
Q
What is macroeconomic performance?
A
How well an economy satisfies the 4 main macroeconomic policy objectives.
2
Q
What is long-run economic growth?
A
Increase in productive capacity.
3
Q
What is short-run economic growth?
A
Productive capacity achieved.
4
Q
What primarily causes short-run economic growth?
A
Demand-side intervention.
5
Q
How can you illustrate short-run economic growth on an AD/AS diagram?
A
AD shifting right to Yn, no movement of SRAS/LRAS.
6
Q
What determines the effect of short-run economic growth on economic objectives?
A
Shape of SRAS.
7
Q
Why is short-run growth over Yn considered bad?
A
It is inflationary, not reflationary.
8
Q
Can short-run economic growth result from AS differences?
A
Yes, SRAS may shift right due to real wage falls leading to increased output.
9
Q
When do GDP figures come out?
A
6 weeks after the end of the measured period.
10
Q
What is the trend growth rate?
A
The rate at which output can grow, on a sustained basis, without putting upward or downward pressure on inflation. It reflects the annual average percentage increase in the productive capacity of the economy.
11
Q
What is the UK’s trend growth rate?
A
About 2.5%.
12
Q
What are 2 reasons why 2.5% trend growth is not bad?
A
- Double living standards every generation.
- GDP is higher so 2.5% of that higher figure is more significant than 10% in LICs.
13
Q
Why has the UK’s trend growth rate fallen in recent years?
A
Furlough during COVID-19.
14
Q
Where do the main causes for long-run economic growth lie?
A
On the supply-side.
15
Q
Why is demand not irrelevant in determining LRAS?
A
Accelerator effect - AD creates AS.
16
Q
What are the 2 main theories of long-run economic growth?
A
- Neoclassical growth theory.
- New growth theory.
17
Q
What is neoclassical growth theory?
A
Exogenous growth theory. Investment can increase LRAS, but only up to a point. Increases in technology are exogenous to the theory but are the principal cause of LRAS increases. Weak because it doesn’t explain the incentive for technological improvement by firms.
18
Q
What replaced neoclassical growth theory?
A
New growth theory.
19
Q
What is the paramount macroeconomic objective?
A
Sustainable economic growth.
20
Q
Why is economic growth the paramount economic objective?
A
Others all fall into place: 1. Growth eliminates inflationary pressure. 2. Growth eliminates non-structural/non-frictional unemployment.
21
Q
Where are high rates of economic growth least sustainable and why?
A
In developing countries due to rapidly using up scarce resources in secondary industries.
22
Q
Do all economists agree that economic growth is bad for the environment?
A
No, some supply-side new-growth free-market economists believe that it will develop new and more efficient technologies.
23
Q
What are 4 costs of economic growth?
A
- Inequality tends to widen.
- Externalities.
- Opportunity costs in growing industries.
- Temporal considerations e.g. long term resource depletion.
24
Q
What is an example of a local culture damaged by economic growth?
A
Nomads e.g. Tuaregs.
25
What are 4 benefits of economic growth?
1. Fiscal dividend - increasing tax revenues can be used to correct market failures and make right the wrongs of capitalism.
2. New-growthers believe we will cover the cost of using up finite resources with research.
3. Rising living standards.
4. All other macro objectives.
26
Why is economic growth not always good for the labour force?
Due to automation in the labour force, as forecasted by new-growthers.
27
Why is economic growth not good at an international level?
Trade surpluses cannot be sustained by all countries simultaneously.
28
What is an example of how finite resources mean economic growth doesn't 'work' anymore?
1973 Yom Kippur War and Suez blockade. People realized that dependence on finite resources does not work.
29
Why might economists not accept zero-growth?
Donella Meadows - The Limits to Growth 1972. Economists are trained to believe zero growth = stagnation = bad. Private agents have no interest in zero growth.
30
What are 2 ways economic activity fluctuates?
1. Seasonally.
2. Cyclically.
31
What is the economic cycle?
Cyclical fluctuations (aka trade cycles or business cycles).
32
What causes the economic cycle?
Changes in AD.
33
What is a common cause of the economic cycle and why is this view limited?
Demand-side shocks. It persists anyway - more easy to see as a catalyst.
34
What are the gaps between long-run trend growth and actual output?
Output gaps.
35
What are the 2 main causes of the economic cycle and their political relevance?
1. Fluctuations in AD - this is Keynes' idea. Keynesians like this.
2. Supply side factors - fluctuations in supply-side change can cause economic cycles.
36
What evidence is there that supply-side factors can cause economic cycles?
2004 Nobel Prize Winners in Economics Finn Kydland and Edward Prescott showed a link between 'real business cycles', i.e., changes in technology on the supply side of the economy and economic cycles.
37
What are 7 other explanations for economic cycles beyond Keynesian and supply-side arguments?
1. Speculative bubbles.
2. Political business cycles.
3. Outside shocks.
4. Changes in inventories.
5. Marxist explanation.
6. Multiplier/accelerator interaction.
7. Climactic cycles.
38
How might speculative bubbles cause the economic cycle?
Rapid economic growth in boom phase creates speculative demand in certain markets due to information failure. There is then a massive sell-off which kills consumer confidence and hence induces a recession.
39
What phenomenon creates the speculative bubble issue?
Overshoot/undershoot of financial markets. Traders are suffering from information failure and so move in herds.
40
What is the political business cycle theory?
Elections take place every 4/5 years. Keynesianism gets popular around election times. After election, the economy is deflated to prevent overheating and price instability.
41
What is an example of a supply-side shock that caused an economic cycle?
War in Ukraine affected everything: SRAS, consumer confidence, business confidence. Catalyzed a larger than proportional AD collapse.
42
What fact shows destocking is a significant cause of recessions?
In the US, half of GDP falls in a typical recession is destocking.
43
What is destocking and why is it a cause of the economic cycle?
Firms keep a stock in order to keep supply elastic. When demand slows, they overcook the reduction in the amassing of stock. This hits AD and creates a cycle which can turn a slowdown into a recession.
44
What is the Marxist explanation of the economic cycle?
A sort of 'purge' where weak firms are eradicated and their assets accumulated by stronger firms.
45
What is the Keynesian cause of the economic cycle?
Accelerator/multiplier interaction. The investment multiplier increases income, leading to a rise in AD which triggers the accelerator effect. Eventually overcorrects.
46
What did Stanley Jevons believe caused economic cycles? Evaluative comment?
Agricultural cycles. Variations in sunspots were causing economic cycles by affecting grain prices and hence confidence. Never widely accepted - however, new El Nino ideas stem from this.
47
An economy had nominal GDP growth of 8%, an inflation rate of 5.5% and population growth of 2.5%. What is the approximate change in real GDP per capita?
0% change
48
How do we normally measure stages of the economic cycle?
Fluctuations in real GDP.
49
What other variables are used to measure economic cycles and how?
1. Inflation - inflation increases (demand-pull) during the upswing.
2. Investment - accelerator effect of increased AD in the upswing creates more investment.
3. Unemployment - upswing, employment higher.
50
What link is there between unemployment and real GDP during the economic cycle? Why is this significant?
Usually, employment lags slightly behind real GDP. Politicians are more concerned with employment - GDP doesn't have votes. Hence they may overcorrect the economy to ensure employment rises faster than real GDP would naturally let it, or cool off the jobs market when real GDP has already begun to fall.
51
What does the economic cycle necessarily produce?
Output gaps.
52
What does an output gap mean?
We are not on trend output.
53
How long is the economic cycle in the view of the UK government?
Ends when there are no more output gaps. Hence we must go through the full cycle of positive output gap and negative output gap.
54
How can you illustrate a positive output gap in two ways?
1. Trend growth diagram - real GDP on y-axis, time on x-axis, trend growth line, a line labelled 'real GDP' going up and down, and the up part labelled with a line between apoapsis and the trend growth with the title 'positive output gap'.
2. An AD/AS diagram - AD fluctuates. LRAS remains put. SRAS remains put. AD1 and AD2 - one below the full employment equilibrium and one above.
55
Why are output gaps created by AD only?
Fluctuations in AD alone are responsible for economic cycles (with the exception of the research done by the Nobel Prize winning economists).
56
Why is a nominal GDP rise of 10% not considered economic growth?
We measure real GDP changes as economic growth ONLY.
57
What are the 5 types of unemployment and their significance?
1. Frictional - between jobs.
2. Structural - long-term unemployed.
3. Cyclical - AD deficient unemployment.
4. Real wage unemployment.
5. Seasonal unemployment.
58
What is inflation?
Consistent and persistent rise in price levels across the economy.
59
What is deflation?
Consistent and persistent fall in price levels across the economy.
60
When was inflation worst?
1970s.
61
What was inflation in 1980?
20%.
62
What happened to inflation over the 80s?
It became a government priority to deal with it, hence fell from a high of 20% in 1980 to low single figures.
63
Why can monetarism not take credit for reducing inflation during the 1980s?
1. Much of it was cost-push.
2. It failed to reduce inflation initially.
3. In 1990, it peaked at 10%.
64
What was the period of inflationary stability?
1993-2007. Stayed within the safe range for all but one quarter.
65
What is the Great Moderation?
Period 1980s-2007 where control of inflation created the longest period of continued economic growth in history.
66
What ended the Great Moderation?
1. 2007 - huge cost-push inflation due to economy-wide issues with imported raw materials.
2. 2008 - financial crash - loans went bad.
67
What are 3 impacts of the end of the Great Moderation?
1. Low business/consumer confidence.
2. Collapse in AD.
3. Disinflation.
68
When was the last period of high inflation?
2022. Supply-side pressures and cost-push inflation.
69
What is stagflation?
Inflation accompanied by low or stagnant economic growth.
70
What happened regarding inflationary control in the 1990s?
On 6/5/97, operational control of monetary policy was granted to the Bank of England.
71
What is the main purpose of monetary policy?
Price stability.
72
One reason to think the Bank of England was successful in controlling inflation?
Period up to 2022 of low inflation.
73
One reason to think the Bank of England is unsuccessful at controlling inflation?
Factors outside its control e.g. cost-push inflation.
74
Why is deflationary policy a misnomer?
Since the 1930s and Keynesianism, it has simply meant reducing AD to cool off the economy.
75
What is demand-pull inflation?
Excess AD.
76
What is cost-push inflation?
Insufficient AS.
77
What are 2 reasons why demand-pull inflation happens?
1. Increased factor scarcity towards full employment increases costs of production, particularly labour.
2. Firms need incentivising to produce this extra output - marginal cost of production increases (diseconomies of scale).
78
What can cause demand-pull inflation?
C + I + G + (X-M).
79
Why can firms not produce above Yn?
Factor scarcity causes wage costs to rise, hence SRAS collapses back left.
80
What is the unemployment created when AD is too far left?
Demand-deficient/cyclical unemployment.
81
Where does cost-push inflation theory come from?
1960s/70s - inflation seemed to be increasing even when AD was not rising.
82
What usually causes stagflation?
Supply-side issues.
83
Why did stagflation happen in the 1970s?
Supply-side issues such as unionisation and low capital investment shifted SRAS left.
84
What is more likely to cause cost-push pressure today and why?
Raw material costs due to the dismantling of the unions.
85
What happens if the economy is in recession when cost-push pressures take place?
The shift is not as great as factors of production are more readily available.
86
What was the assumption regarding inflation during the early 2000s and by whom?
The Bank of England said it was likelier to be demand-pull.
87
Why did we experience an economic boom in the 2000s?
AD was allowed to grow and induce accelerator/multiplier without creating supply-side strains due to supply-side policies of the 1980s/1990s.
88
Why is monetary policy effective at controlling inflation?
Because it is believed that most inflation is demand-pull.
89
Why does interest rate not work against cost-push inflation?
It would cause a recession.
90
When did stagflation happen last?
In 2022, rising costs, falling real wages, and stagnant economic growth due to the lack of demand.
91
How can supply-side pressures cause stagflation?
1. Real wages fall as firms cut costs.
2. AD becomes deficient.
3. AD driven economic growth fails.
92
When did monetarism emerge?
About 50 years ago.
93
Who comprised monetarists?
Free-market economists.
94
What is the key thrust of monetarism?
"Inflation is always and everywhere a monetary phenomenon."
95
What is narrow monetarism?
Increases in money supply as the prime cause of inflation.
96
What is broad monetarism?
Some tangential rants about the virtues of free market resource allocation.
97
Who comprised monetarists?
Free-market economists
98
What is the key thrust of monetarism?
"Inflation is always and everywhere a monetary phenomenon"
99
What do demand-pull theory of inflation subscribers believe?
All inflation is stimulated by a prior increase in the money supply
100
What is narrow monetarism?
Increases in money supply as the prime cause of inflation
101
What is broad monetarism?
Some tangential rants about the virtues of free market resource allocation
102
What is the oldest theory of inflation and its relevance today?
Quantity theory of money - inflation is caused by an increase in the money supply
103
What is the equation of exchange?
MV=PQ
104
Who uses the equation of exchange?
Economists from many backgrounds
105
What is the monetarist interpretation of the equation of exchange?
V is a constant hence, if Q is unable to expand, P=M
106
What is the Keynesian interpretation of the equation of exchange?
When M increases, it can be partially absorbed by a slowdown in V.
107
What are the three criticisms the Keynesians made of the quantity theory of money?
1. Velocity of circulation is not constant
2. Under-full-employment equilibrium
3. Reverse causation
108
What does V mean?
How often money is spent - essentially a proxy of multiplier
109
Why do monetarists believe V is constant?
No rational reason to hold onto new money
110
Why do Keynesians believe V is changeable?
People save under many circumstances to spend later, e.g. if asset prices are expected to fall
111
Why is the idea of the Keynesian LRAS curve relevant to the critique of the monetarist theory of inflation?
If there is spare capacity in the economy, an increase in M stimulates AD and increases output more than P
112
What is the paramount attack on the monetarist theory of inflation?
Reverse causation
113
When were Keynesian views about monetarism vindicated?
2007 - credit crunch had more of an impact on real output than inflation
114
Who drew attention to the role of expectations in the inflationary process?
Milton Friedman, bizarrely
115
What is the relevance of expectation in inflationary outcomes?
Economists now accept widespread that inflationary expectations can influence outcomes
116
What are the two reasons for inflationary expectations equalling inflationary outcomes?
1. SUPPLY-SIDE FACTORS - particularly unions asking for higher wages to safeguard against inflation
2. DEMAND-SIDE FACTORS - people bring forward big-ticket spending, causing a surge in AD
117
What is inflation psychology?
The psychology that adapts to, or even thrives from, inflation e.g. homeowners with large mortgages benefit
118
What is an example of how the government has attempted to influence inflation psychology?
Move the BoE into independent control 6/5/97 and set a target of 2% CPI
119
What are the two theories for inflation expectation formation?
1. Adaptive expectations
2. Rational expectations
120
What is the theory of adaptive expectations?
Inflation psychology is dependent on past experience. For instance, 1980s business confidence initially low after chaos of 1970s.
121
What view of inflation psychology do free market economists favour?
Rational
122
What is creeping inflation?
Low, persistent, stable inflation
123
What are three reasons creeping inflation may actually be good?
1. Erodes the value of debt, incentivising further borrowing to grow the economy
2. Associated with an increase in AD, which grows LRAS through the accelerator
3. Reduce unemployment
124
How can creeping inflation reduce unemployment?
Real wage devaluation incentivises economy wide hiring
125
What are five negatives of inflation?
5 Ds
1. Distributional effects
2. Distortion of economic behaviour
3. Devaluation of money
4. Declining international competitiveness
5. Discovery costs
126
What is the distributional effect of inflation?
1. Low income earners less likely to be able to negotiate a security of real wage
2. Interest rates can actually go negative, particularly during cost-push inflation, taking money from lenders and giving it to borrowers
127
What is the distortion effect of inflation?
1. Reduction in investment as firms invest into stock they can sell later, reducing investment spending
2. Purchasing behaviour skewed as expectations bring forward big-ticket purchases
128
What is the devaluating effect of inflation?
If inflation is extreme enough, the price mechanism can break down to be replaced by barter.
129
What is the decreasing international competitiveness effect of inflation?
If inflation in the country is higher than in others, nominal price of exports rises, and hence becomes less competitive
130
What is one of the ways demand-pull inflation corrects itself?
Exports become uncompetitive and hence there is a leakage of AD as trade balance tips to negative
131
What is the search cost effect of inflation?
Rapidly evolving prices lead to greater incentives for consumers to 'shop around' which undermines business confidence and also imposes time costs on the consumer
132
What are the two types of deflation?
Benign and malign
133
What is the main reason deflation can be malign?
Causes a collapse in AD as people delay purchases until prices have fallen, and incentivises saving to achieve this.
134
What illustrates malign deflation?
AD shifts left
135
What illustrates benign deflation?
AD stays put but LRAS/SRAS moves right
136
What is the fundamental flaw of both deflation and inflation?
Disrupts relevance of relative prices and hence the price mechanism breaks down
137
What evidence suggests that cost-push inflation is no longer caused by labour?
2008-2017 - most private sector wages were cut in real terms, and many public sector workers had it worst
138
What is the main cost of contemporary cost-push inflation?
Leftward shift of SRAS
139
What is a policy instrument?
Something governments use to achieve an objective
140
Do we want no inflation?
No. Some inflation is good because it erodes debt and is usually associated with growth
141
What is the inflation target for India and the UK?
4% India
2% UK
142
What does economic growth mean?
Increase in the TOTAL VALUE of goods and services produced in a country over a given unit of time
143
What are two things that influence LRAS?
1. Supply of factor inputs
2. Quality/efficiency of factor inputs
144
What is the AD formula?
C+I+G+(X-M)
145
Which is the only component of AD that, if it rises, will reduce AD and short run economic growth?
Imports
146
True or false: economic growth is a rise in the quantity of goods and services produced in an economy over time.
False
147
An increase in exports, ceteris paribus, causes ___ economic growth.
Short-run
148
What is the fiscal dividend?
As tax revenues rise, government income rises too
149
What is a recession?
2 or more consecutive quarters of negative growth
150
What does output gap mean in terms of GDP?
Difference in output between actual GDP and potential GDP
151
What can the social consequences of unemployment be regarded as?
Externalities of labour market failure
152
When will LRAS contract because of unemployment?
Hysteresis effect sets in
153
Why can unemployment worsen the fiscal deficit?
More spending on welfare
154
What are two ways to measure unemployment?
1. Claimant Count (bad)
2. Labour Force Survey (good)
155
What is underemployment linked to UK GDP issues?
Where you are employed but on a contract that is part-time/flexible so makes very little
156
What is economic inactivity, as opposed to unemployment?
Not seeking employment
157
What illustrates real wage unemployment?
AD&S graph with price too high
158
Why are governments not worried about frictional unemployment?
1. Can't really be eliminated
2. Usually a sign that workers are motivated to look for new jobs
159
Real wage unemployment occurs when...
Wages are too high
160
What kind of argument is this?
Neoclassical
161
What are three arguments of free marketeers to explain unemployment?
Real wage unemployment
1. Trade union power
2. National Minimum Wage
3. Sticky wages
162
What are the two sides to the causes of unemployment?
Demand side: Firm's business. Strength of economy, demand, confidence, government intervention etc.
Supply side: Supply given by workers. Trade union power, factoral mobilities, skills etc.
163
If unemployment does not see workers replaced with capital...
Real GDP is likely to fall
164
Why is full employment impossible?
Natural Rate of Unemployment (NRU)
165
What is the NRU and its value?
The unemployment present in the economy due to frictional, seasonal and structural unemployment
2-4% in the UK
166
How can we show the NRU diagrammatically?
Two LRAS curves with the NRU one just to the left of the nominal one
167
What is voluntary unemployment?
Not willing to work at current wage rate, but would work for a higher wage rate
168
What must NRU be remedied with?
Supply-side solutions
169
What part of NRU is most stubborn and why?
Frictional - will always exist
170
Why might unemployment benefits raise the NRU?
Income and substitution effects - easier to spend leisure time
171
What does hysteresis mean, literally?
The past of the system affects the future of the system.
172
When unemployment > NRU for long periods of time...
NRU rises due to hysteresis
173
Who argued for hysteresis in unemployment?
Mankiw (2001)
174
What is the main cause of hysteresis?
Insider-outsider - some people are more prone to frictional unemployment than others. Asymmetric information in hiring so long gaps on their CV are seen as evidence that they are a poor substitute for other labour. They may also lose motivation for work.
175
What is an example of insider-outsider?
Young people
176
How is CPI calculated?
700 goods and services in the basket. % weighting to each good. ONS calculates price change
177
Why does SRAS shift left when firms experience an increase in cost?
The position where MC=MR shifts left because firms need to preserve their profits
178
What is the exchange rate depreciation effect?
1. INCREASE in AD
2. Cost push inflation
179
How could government failure create demand pull inflation?
1. Excessively loose fiscal policy
2. Excessively loose monetary policy
180
How can rising animal spirits create inflation?
If everyone is buying more out of the blue, expect AD to surge
181
What is an example of a time exchange rate depreciation caused inflation?
June 2016 Brexit - pound tumbled
182
What is the standard of living and inflation relationship?
Inverse relationship because purchasing power falls
183
Why does inequality worsen during periods of high inflation?
More skilled workers can negotiate pay deals
184
What is the real interest rate definition?
Nominal interest rate - inflation
185
Why does inflation reduce or hamper LRAS growth?
Business uncertainty
186
What impact does a high inflation rate have on the BOP?
Worsens it because it is now more expensive for foreign countries to buy our imports
187
Why might demand pull inflation self-correct?
1. Consumption falls due to erosion of income
2. Investment falls due to uncertainty
3. International competitiveness falls due to rising nominal price of UK goods and services
188
Why does inflation not self-correct?
Behavioural factors - if people expect prices to rise further, demand may surge as people panic-buy.
189
What are wage price spirals?
When nominal wages overtake inflation, and firms put up prices to account, and the cycle continues
190
What are two risks of deflation?
1. The deflationary trap
2. Borrowers can find the costs impossible
191
What are the four parts of the deflationary trap?
1. Behavioural - consumers put off spending until prices have fallen further
2. Instrument related - interest rates become ineffective when they are almost 0%
3. (X-M) improves at the expense of AD
4. Reduced profit for firms reduces the potential for investment
192
When inflation rises, real interest rates...
Fall
193
Who loses out from an interest rate perspective during inflation?
Savers
194
How is a currency depreciation an example of a cost-push inflationary pressure?
Harder to afford imports
195
True or false - during a period of high inflation, savers lose out because the rise in real interest rates reduces the value of their savings.
False - real interest rates FALL
196
What is the Great Moderation?
1980s-2008 period of consistently low inflation and consistent growth
197
What was the cause of inflation in 2007?
Cost-push inflation
198
How can a credit crunch cause cost-push inflation?
Workers demand higher wages
199
What is the inflation and exchange rate link?
Bad exchange rate = high inflation and vice versa
200
What are the two causes of 2022 inflation?
1. Cost-push
2. Inflation psychology
201
Is the MPC effective?
Evidence suggests so.
202
What is an example of how the government manages the base interest rate worse than the MPC?
1972 Barber boom
203
How did the Barber boom cause inflation?
Initial AD, but we had to float the pound because it had depreciated so much.
204
What do deflationary policies aim to do?
Remove excess AD from the economy
205
Is there an SRAS in the Keynesian model?
No
206
Why were cost theories developed?
Stagflation of 60s and 70s
207
What are two sources of cost push inflation?
1. Monopoly labour provision
2. Raw materials cost
208
Why is competitiveness a determinant of SRAS?
Inefficiency or monopoly labour premiums represent unrealistically high costs
209
How can cost-push inflation be associated with poor economic growth?
Y shifts left as well as P increasing, presuming AD is constant
210
What theory do monetarists subscribe to regarding inflation?
Demand pull
211
What is monetarism?
The belief that inflation occurs due to excess AD, that excess AD is itself caused by a prior increase in the money supply
212
What is the difference between monetarism and pre-existent demand-pull theories?
For monetarists, the change in money supply comes first.
213
What theory underlines monetarism?
The Quantity Theory of Money
214
What is the Quantity Theory of Money?
Changes in price always follow changes in the money supply
215
What is monetarism?
The belief that inflation occurs due to excess AD, which is caused by a prior increase in the money supply.
216
What theory underlines monetarism?
The Quantity Theory of Money.
217
What is the Quantity Theory of Money?
Changes in price always follow changes in the money supply - 'too much money chasing too few goods'.
218
What is the Fisher Equation of Exchange?
MV=PQ
## Footnote
Money Supply x Velocity of Circulation = Price Level x Quantity of output.
219
How do monetarists and Keynesians differ in their view of the Fisher Equation?
1. Monetarists - V and Q are fixed hence deltaM = deltaP. 2. Keynesians - accelerator causes increase in Q and decreasing V due to falling MPC - hence M does not equal P.
220
Who resurrected the Fisher equation and applied it to monetarism?
Friedman.
221
How would Friedman defend the premise that V and Q are constant?
1953 - assumptions valid if the conclusions are.
222
What is an alternative expression of the Fisher equation?
MV = PT
## Footnote
T for total quantity of goods and services exchanged.
223
What are three criticisms of the monetarist theory?
1. Velocity of circulation not constant. 2. Q is not constant, this is an insane assumption. Established Keynesian theory shows a deltaP has an impact on Q. 3. Reverse causation.
224
Why might V be more constant than Keynesians care to admit?
It might even increase. If inflation is expected, AD surges. And V follows.
225
Why is reverse causation a bold criticism of monetarism?
Means only cost-push inflation is acknowledged.
226
How do Keynesians and monetarists differ over their views about government action regarding money supply and inflation?
For monetarists - tight control of the money supply prevents inflation from worsening. For Keynesians - real activity will fall more precipitously than price level, because money supply comes after the initial shock which causes the price change.
227
Why, in Keynesian thought, does the government need to increase money supply after inflation?
Because otherwise, according to the equation of exchange, Q gets hit. And this would cause a negative output gap.
228
Keynesian inflation of the 70s is considered to be a ___ theory, because it...
Cost-push
## Footnote
Argues the change in money supply comes after the change in prices.
229
Why does the government spend so much time convincing us of the fiscal credibility of its policy?
Inflation expectations.
230
Why are inflation expectations less important now?
Reduced union power.
231
What are the two theories of inflation expectations?
1. Adaptive - based on past experiences. Supported by Friedman. 2. Rational - based on all available evidence. Supported by later free market weirdos.
232
What kind of inflation is desirable?
Creeping inflation.
233
What, besides debt erosion, is creeping inflation good for?
Encouraging enterprise and competition.
234
What political reasons are there for creeping inflation?
1. Politically hard to lower nominal wages. 2. Fiscal drag necessary.
235
What do firms do when inflation is expected and why is it bad?
Make money by speculating
## Footnote
Unproductive.
236
Why is the solution to the exchange rate and inflation problem not just to fix the exchange rate?
Exports increase in price, whilst imports fall.
237
What is a deflation trap?
Falling AD -> More falling AD.
238
What evidence suggests that wage cost push inflation is moribund?
Whilst some high skilled professions which are highly unionised still get pay increases greater than inflation, 2008-2017 average real wages stagnated or fell.
239
What is the main cause of cost-push inflation today?
Commodity prices
## Footnote
2014-15 - disinflation due to falling food prices; 2022 - surges due to global supply pressures.
240
During a period of global economic growth, why can we still experience inflation?
We import it.
241
What impact can an American boom have on UK inflation?
Stokes it.
## Footnote
- Export demand - Inward investment - Business and consumer confidence.
242
How can a boom in a trade partner fuel inflation?
- Their demand-pull inflation increases the import price for us. - They buy our imports and push AD right.
243
What are four macro objective conflicts?
1. Full employment/growth and satisfactory balance of payments. 2. Low unemployment versus controlling inflation. 3. Economic growth versus equal distribution. 4. Higher living standards now versus higher living standards in the future.
244
What is the Phillips Curve used to debate?
Whether inflation is cost-push or demand-pull.
245
Who was A.W. Phillips?
Keynesian economist.
246
What is Phillips also famous for?
The Phillips machine (circular flow of income model).
247
What did the Phillips curve show?
The inverse correlation between the rate of inflation and the unemployment rate.
248
What is the menu of choice?
The array of points on the SRPC the government can choose.
249
What is the demand-pull explanation of the SRPC?
More demand = more labour but also more price level.
250
What is the cost-push explanation of the SRPC?
More labour = more union power = more wage increases.
251
What is the rate of unemployment at the LRPC?
NRU.
252
Why do Keynesians and monetarists disagree on the SRPC?
Keynesians only need one because it depends on the actual inflation rate; Monetarists say it depends more on the expected inflation rate.
253
How does the monetarist disagree about where the expected inflation rate is relevant?
We go up the SRPC, but because this creates cost-push pressure, our inflation expectation is revised up. Our expectation of our future wage hence falls in real terms. Hence we leave the labour market. BUT THE INFLATION IS BAKED IN.
254
What are two solutions suggested by free marketeers to the SR/LRPC trade-off?
1. Don't reduce unemployment below NRU using AD. 2. Shift LRPC left in the long run by reforming the supply side.
255
Why does inflation get baked in from the monetarist view?
Because inflation expectations => inflation.
256
What assumptions are necessary for the PC relationship to hold?
- Wage inflation = price inflation. - There is no change in worker productivity with wage increases.
## Footnote
Increased inequality suggests not the case.
257
What is money illusion?
The asymmetry between workers and employers where workers mistake a nominal rise in wages for a real one.
258
Why do we end up back on the LRPC besides labour leaving the market?
Firms demand less labour because they realise the increase in AD was nominal, not real.
259
How do firms suffer from money illusion?
Don't see that rising revenues => rising costs and think their profits are up.
260
Can we get under the NRU permanently according to free marketeers?
Yes, but only if real inflation > expected inflation for the whole period, and this is probably not worth it.
261
What trade-off does a SRPC show?
Unemployment versus stable prices.
262
What are two conditions when there is no trade-off?
1. A highly depressed economy with excess capacity. 2. In the long run.
263
How can economic recovery be illustrated?
Move onto PPF.
264
What primarily causes short-run economic growth?
Demand-side factors.
265
Can short-run economic growth be caused by supply-side factors?
Yes - SRAS can shift right.
266
Why is early GDP measurement often inaccurate?
Uses the output method (i.e. measuring the value added at each stage of the production process) which can omit important additions in the production processes.
267
What is an example of how inaccuracy in measurement can lead to different determinations of macroeconomic performance?
In 2013, ONS revised its post-recession GDP figures. This showed that the UK had experienced 0% growth in 2012, not a small amount of negative growth.
268
What is another term for trend growth rate?
Potential growth rate.
269
What is an evaluative comment on 2.5% trend growth?
May now be an overestimate, may now be closer to 1%.
270
Example of a group who may be responsible for recent fall in trend growth rate?
Economically inactive has risen - many are retired early due to COVID-19
271
All determinants of long-run economic growth are...
Supply-side
272
Why is LRAS linked to AD?
Without AD, firms have no incentive to expand LRAS
273
Who developed neoclassical growth theory and when?
1950s, Robert Solow
274
Explain neoclassical growth theory.
The economy's growth rate is increased by investment, but only up to a point. When the supply of labour runs out, firms stop investing in capital due to diminishing marginal returns. The rate of investment is therefore proportional to the rate of increase in labour supply, plus a factor for technological progress.
275
Main weakness of neoclassical growth theory?
The factor affecting growth is technological progress, but technological progress is exogenous to the theory.
276
Explain new growth theory.
New growth theory, a.k.a. endogenous growth theory, brings the causes of technological progress within the economic theory. Firms seek research in order to maximise profits. They are constrained in this by their openness to foreign ideas and their ability to accumulate versatile human capital.
277
3 main sources of technological progress explained by new growth theory?
1. Profit-seeking research
2. Openness to foreign ideas
3. Accumulation of human capital
278
How is profit-seeking research relevant to new growth theory?
1. There is a stock of ideas.
2. Diminishing returns occur in the accumulation of ideas. This is known as 'OVER-FISHING'.
3. The opposite may be true. We may have the 'standing on the shoulders' effect.
4. Paul Romer identifies this 'standing on the shoulders' as the dominant force.
279
How is openness to foreign ideas central to new growth theory?
1. Research is either foreign or domestic.
2. 1999 Cameron, Proudman and Redding - rate of technical progress is determined by domestic technical progress and furthermore the availability and ease of adoption of foreign innovation.
280
How is human capital relevant to new growth theory?
1. Migration and education are key sources of human capital.
2. This is a necessary but not sufficient condition, because we need the ability to adopt new skills, not existing skills.
281
What is the implication of new growth theory?
There is a role for government to play, for instance by deregulating migration, providing skill programmes and tightening up patent laws and incentives to innovate.
282
Some argue that the main con of economic growth is its short-termism, the fact that eventually it uses up resources or creates externalities. Eval?
Some say will not happen because of innovation i.e. new growth.
But they are probably wrong. USA is super advanced yet still biggest polluter.
283
Key fact about economic growth?
Always an OPPORTUNITY COST - higher marginal returns in some sectors so growth is usually at the expense of another sector. For instance, industrialisation over farmland.
284
Example of how economic growth is rival?
Current account surplus - if I grow and export more, you might get an exchange rate crisis.
285
How big was the supply-side shock in 1973?
Crude oil prices more than doubled.
286
Who reminded economists about scarcity and growth?
Limits to Growth 1972.
287
When discussing the possibility that a non-renewable resource may run out, for instance oil, we should always evaluate by saying...
Oil was predicted, at exponential growth rates, to be fully depleted by 2000.
1. Increases in extraction technology meaning existing known supply is expanding.
2. Increased use of renewable sources and substitution for renewables makes depletion less likely.
288
Economic cycle definition
The variations in aggregate economic activity which take place cyclically, for instance every 4-12 years.
289
Can the supply-side ever create an economic cycle?
Yes - recent evidence suggests that supply-side shocks can be causes of economic cycles.
290
The trend output line on an economic cycle diagram illustrates...
Trend growth rate.
291
What is a depression?
There is no formal definition, but generally 2 or more years of falling real national output.
292
Prevailing theory for why recessions happen?
Fluctuations in AD caused by changing confidence, as theorised by Keynes in the 1930s.
293
What is a real business cycle?
Fluctuations in the rate of technological development leads to economic cycles.
294
Why is a real business cycle flawed as an explanation?
Depends on rational expectations and de-emphasises the role of monetary policy and AD.
295
Explain how speculative bubbles may cause the economic cycle?
1. Rapid economic growth causes a rapid rise in asset prices, as people buy assets to store wealth.
2. When speculators realise the value of the asset is inflated, they sell, which causes the value to plummet.
3. This has a dampening effect on consumer and business confidence but can also, by negative equity and negative wealth effect, erode consumer's savings.
4. Financial markets and 'exuberance' tends to exacerbate this - when asset prices rise, financial markets tend to 'overshoot' their value, and when they fall, they tend to 'undershoot'.
296
Example of political business cycles theory in action?
1972 Barber Boom - created double digit inflation but did get unemployment down.
297
Example of a speculative bubble recession?
Dot-Com bubble - 1990s-2000s exuberance, 2001 recession.
298
How do changes in inventories cause the economic cycle?
Firms also invest in stocks of raw materials and manufactured goods to ensure high PES. When a slowdown occurs, firms stop supplying these stocks and begin to sell from them, a process called 'destocking'. This means that the initial fall in AD is complemented by a fall in AD from firms investing in their inventories. This can make recessions deeper and more severe.
299
Evidence that changes in inventories are significant causes of recessions?
Less than 1% of GDP is inventory stocking, but recent calculations suggest up to half of recent GDP falls in US recessions were caused by this.
300
Why is the Marxist explanation of recessions limited?
Doesn't explain fundamentally why they happen in the first place, only why they need to happen.
301
How does the multiplier/accelerator interaction stimulate the economic cycle?
The two stoke one another - when investment increases due to a rise in demand, this represents an injection, which causes a multiplier, which causes further AD, which invokes the accelerator again.
302
Keynesian unemployment
Another term for cyclical unemployment.
303
Involuntary unemployment
When workers are willing to work at current market wage rates but there are no jobs available.
304
Example of how voluntary unemployment is normative?
If someone chooses not to relocate to find employment, are they voluntarily or involuntarily unemployed as a result?
305
Transitional unemployment
Another term for frictional unemployment.
306
How to measure frictional unemployment and why?
Number of unfilled job vacancies in the labour market.
Short run immobility of labour is the reason these jobs are not being filled.
307
2 causes of frictional unemployment and policy consequences?
1. Information failure.
2. Immobilities of labour.
Schemes to reduce the above will reduce frictional unemployment, ceteris paribus.
308
2 types of immobility of labour and examples?
1. Geographic - family ties, housing costs, search costs for housing.
2. Occupational - training periods.
309
What is the search theory of unemployment, explained?
A theory of how frictional unemployment occurs. Upon losing their job, a worker seeks comparable employment. When they fail to find this, they gradually lower their pecuniary expectations for their next job. Eventually they find a job they can satisfy. The gradual reduction and search costs take time, which is the time they are frictionally unemployed.
310
Why do free market economists believe a reduction in welfare benefits will reduce frictional unemployment? Counter-eval?
The threat of poverty accelerates the reduction in aspiration associated with search theory of unemployment.
Welfare benefits necessary to prevent worst effects of poverty and inequality. FURTHERMORE, RUSHING INTO SUBOPTIMAL JOBS MAY CAUSE SKILLED WORKERS TO CREATE AN ALLOCATIVELY INEFFICIENT LABOUR MARKET. THIS IS COMMON WITH GRADUATES LEAVING UNI AND SEARCHING FOR THE FIRST JOB TO GET SOME SECURITY.
311
Structural unemployment
Long term unemployment resulting from the decline of established industries and the subsequent widespread redundancy of the incumbent workforce.
312
Technological unemployment
Associated with structural unemployment - when workers do not possess the skills to satisfy labour market needs.
313
What is the effect of mechanisation on labour markets? How about automation?
Automation -> employment falls.
Mechanisation -> employment rises.
314
How is structural unemployment linked to factor immobility?
Factor immobility can entrench structural unemployment.
315
Example of an industry which experienced automation?
1993-2008 - manufacturing output rises whilst manufacturing employment fell.
316
Key cause of structural unemployment?
Globalisation.
317
Effect of unemployment levels on LRAS?
When persistently high, e.g. high frictional unemployment, LRAS is left.
318
Example of how underemployment has increased?
2012 - underemployment at more than twice the pre-recession levels.
319
Evidence zero-hours contracts have become more common?
250,000 in 2011 to 1,000,000 by now.
320
Why are women more likely than men to be underemployed?
Prevalence of zero-hours contracts in female dominated industries - e.g. around 25% in food and accommodation.
321
What is a sunset industry and how is it linked to structural unemployment?
An industry in decline due to changes in technology or international competition.
Can often leave huge tranches of unemployed e.g. Northern England and unemployment.
322
Why would deindustrialisation create structural unemployment for private security contractors?
They are in derived demand for securitising production plants etc.
323
Why is there a danger of overstating structural unemployment in many sunset industries?
Outsourcing.
324
Is frictional unemployment voluntary?
Normally, yes.
325
Why did Keynesians argue that deficient effective AD could persist in employment?
Sticky wages.
326
2 ways to show cyclical unemployment? Eval?
1. AD/AS.
2. PPF.
Both show it only implicitly.
327
How does Say's Law allegedly work? Keynesian criticism?
Supply creates the purchasing power to buy itself. If the potential demand is low because households wish to save, then the interest rate falls to equate savings with investment, and equilibrium continues.
Keynes disputed this. In recessionary conditions, savings will exceed investment, and there will be a surplus of savings.
328
Who did Beveridge say was responsible for maintaining full employment?
The government.
329
Why does Beveridge's employment definition seem to justify positive output gaps?
He says full employment is when vacancies > unemployment.
330
Beveridge full employment definition? When?
3%.
1944.
331
Which types of employment are caused by demand-side factors? Which by supply-side? Eval?
Demand side:
- Cyclical
- Seasonal
Supply-side:
- Structural
- Frictional
Appropriate policy response varies.
332
Why was unemployment in the UK high in the 1920s and eval?
Lack of international competitiveness, both structurally and due to high exchange rate.
Never forget the role of an exchange rate in unemployment.
333
Real-wage unemployment
Unemployment caused by an excessively high wage above the market-clearing wage rate, creating a disequilibrium.
334
Illustrate real-wage unemployment
Labour supply price floor graph.
335
Classical unemployment
Another word for real-wage unemployment.
336
What do free-marketeers blame persistent real-wage unemployment on? Policy justification?
Sticky wages and labour market imperfections.
Supply-side reforms.
337
Main example of the voluntary/involuntary normative debate?
Whether you think real-wage unemployment is voluntary or involuntary.
338
Equilibrium unemployment
The same as the natural rate of unemployment - unemployment when the labour market is in equilibrium.
339
Main reason unemployment is bad for the economy?
Waste of human capital - not all factor resources employed, hence productive efficiency not achieved, hence living standards below what they could be.
340
Why can high unemployment reduce investment?
1. Generally, business confidence and credit availability is diminished during periods of high unemployment.
2. Firms retain high labour intensity, low capital investment production methods because labour is cheap.
341
Why can high unemployment reduce competitiveness?
Firms not pressured to invest and cut costs if they can simply hire labour. When labour costs rise again in the long run, they will have higher costs and hence higher prices than international competitors.
342
Why can high unemployment also increase business costs? Why can this create a downward spiral?
Business taxes may rise to support increased welfare bill.
Need cash for investment.
343
What benefits are available to those who are unemployed?
First, the JSA. Then if unemployment persists, one may become eligible for UC.
344
2 causes for hysteresis?
1. Legitimate skill degradation.
2. Asymmetric information.
345
Why is hysteresis particularly bad?
Will cause LRAS to shift left.
346
2 benefits of unemployment?
1. Widening wage differentials can increase incentives.
2. Can reduce inflation.
347
7 consequences of unemployment?
1. Worsening fiscal position.
2. Recession and hence falling living standards.
3. Reduced investment.
4. Reduced international competitiveness.
5. Long run reduction in LRAS from hysteresis.
6. Widening inequality and poverty.
7. Social consequences.
348
When governments seek to rectify unemployment, the correct policy solution depends on...
The cause of the unemployment.
349
In the long run, the only way to reduce unemployment is...
Successful supply-side reform and economic growth leading to increased derived demand for labour.
350
3 ways to reduce frictional unemployment, policy and eval?
1. Improving geographical mobility of labour - subsidise house prices - unlikely in UK, 'property owning democracy'.
2. Improving occupational mobility of labour - firms complain that training programmes provided by government are ineffective, whilst suffering from hysteresis and refusing to fund them themselves.
3. Reduce search periods for re-employment - JSA - risk of poverty and inequality.
351
Eval on the government provision of training to increase occupational mobility of labour to decrease structural and frictional unemployment?
Firms complain about quality, whilst also suffering HYSTERESIS, and seeking to OUTSOURCE COSTS to the public sector.
352
How does JSA accelerate search theory of unemployment?
1. Restricted access.
2. Low wage.
Incentivises shorter search times to avoid savings depletion.
353
How can we reduce both structural and frictional unemployment?
Supply-side policies.
354
Why did deindustrialisation create inequality?
Structural unemployment was REGIONAL.
355
Why is structural unemployment natural?
Joseph Schumpeter and creative destruction.
356
When did inflation become the number one macro objective and why?
1979.
1970s - era of turbulent inflation, often in the tens, sometimes caused by attempts to maintain full employment.
357
How did monetarism initially fail?
1980 - inflation hits 20%, Thatcher most unpopular post-war PM, and unemployment hits 3 million.
358
Evidence inflation control has been successful?
1993-.
359
How does deindustrialisation create inequality?
Structural unemployment was regional.
360
Why is structural unemployment considered natural?
Joseph Schumpeter and creative destruction.
361
When did inflation become the number one macro objective and why?
1979
## Footnote
1970s - era of turbulent inflation, often in the tens, sometimes caused by attempts to maintain full employment.
362
What evidence shows inflation control has been successful?
1993-2007 - 2% +/-1% for nearly the entire period.
363
Why is the Great Moderation an argument for inflation control?
The supply-side growth seen which led to the Great Moderation arguably occurred because low and stable inflation meant business confidence was higher.
364
Who doesn't accept cost-push inflation?
Friedman.
365
Why is deflationary policy considered a misnomer?
Unlikely to lead to price deflation.
366
Any component of AD can cause DP inflation. Which two components are least likely to cause DP inflation?
Investment and Government Spending
## Footnote
If successful, should increase LRAS too.
367
How can imperfect competition lead to cost-push inflation?
1. Monopoly firms more likely to accept higher wage costs if they believe they can shift incidence to consumers. 2. Monopoly suppliers of factor resources or raw materials may refuse to lower prices.
368
Why does cost-push inflation reduce output too?
Also increase costs of production (incentive function).
369
Why did the BoE assume most inflation was DP? Why might this be wrong?
Success of supply-side policies
## Footnote
Success of inflation control itself a reason why supply capacity has increased.
370
Why can reducing interest rates to reduce cost-push inflation represent a conflict of macro policy objectives?
MAY STILL WORK: 1. Reduce AD to offset. 2. Reduce AD for imported goods and hence reduce imported inflation. But unemployment/growth at expense of inflation?
371
Explain the quantity theory of money.
1. Real national output increases. 2. Government increases money supply more than proportionately. 3. Prices rise - TOO MUCH MONEY CHASING TOO FEW GOODS.
372
What are the two views of Keynesians on the Fisher equation of exchange?
When M rises, 1. V likely to slowdown (MPC falls). 2. Q likely to rise as well as P (due to investment).
373
Why is MV = PQ better than MV = PT?
T includes secondary transactions so is not as good a measure of national output.
374
What is the key reason Keynesians expect V to fluctuate?
Liquidity preference - some people prefer to hold cash, often if asset prices are expected to fall.
375
Why do monetarists reject the idea that Q could increase?
In the mainstream they are classical economists anyway, who believe Q is likely to be at full employment equilibrium all the time.
376
How does the Keynesian reverse causation argument work? How do monetarists respond? Keynesian counter-eval?
1. Inflation is cost-push. 2. Cost of transactions rises. 3. Money supply passively adapts. So government should not allow this to happen. Real output more likely to be hit e.g. credit crunch and unemployment.
377
Why did Brown decide to make MPC operationally independent?
Reduce inflation psychology/expectations - when government controlled, people generally distrusted ability of government to control.
378
What kind of inflation are homeowners amicable with?
Property inflation. If this > CPI then the real value of houses exceeds the value of mortgages.
379
Why is inflation psychology present?
People benefit from inflation.
380
Why is inflation forecasting very important, if inaccurate?
Many economists argue that if inflation could be forecast with any certainty, it would be fine because it would simply be something consumers could account for in their spending decisions.
381
What are two benefits of creeping inflation?
1. Erodes debt. 2. Indicates successful expansionary and employment increasing policies.
382
Why do labour markets function best when inflation is low but stable (creeping)?
It is very unlikely that workers will accept cuts to their real wages. But they may accept less than inflation pay rises, as has been the case in the UK for much of the last decade.
383
What effect does absolute price stability have on unemployment?
Tends to increase it by creating wage stickiness.
384
Why does inflation often worsen income inequality? Counter-eval?
Those in strong bargaining positions gain, whereas those in weaker positions are less likely to have this ability. Very high inflation can exceed interest rates, meaning that savers are paying borrowers. Borrowers are often lower income.
385
What is inflationary noise?
When relative price changes are disguised by inflation.
386
What are three ways normal economic behaviour may be distorted by inflation and eval?
1. Consumers - bring forward spending. 2. Firms - buy assets to speculate, substituting from investment spending. 3. Inflationary noise can mean consumers adverse select or price mechanism breaks down. Overall result is demand > supply and hence further inflation.
387
How can inflation cause a breakdown in the functions of money?
Severe inflation - money becomes less useful and efficient, so barter is pursued instead. Barter imposes extra costs on most transactions and is allocatively inefficient.
388
How exactly does inflation reduce international competitiveness? Eval?
When inflation exceeds that of competitor nations, exports increase in price, and pressure is placed on the exchange rate, so demand is hit. May lead to a self-correcting deflationary effect. But rising import prices giving UK's high MPI may offset.
389
What is an example of fiscal drag?
Occurred in 2021-23 inflation bout.
390
What is benign deflation the product of?
Supply-side improvement.
391
Why is malign deflation more of a worry?
More likely and more damaging.
392
Why is benign deflation good specifically?
Real national output and employment rise but price levels fall.
393
What is the deflationary spiral?
Speculating on future price reductions, people delay spending such as weddings and houses, itself manifesting further AD falls. Similar to the reverse of the inflationary spiral.
394
How else can a deflationary spiral start? Counter-eval?
People realise that the value of debt is going to rise, so they sell their assets and therefore aggregate supply shoots right again. They end up with more liquid assets they could spend.
395
How have theories about cost-push inflation evolved? Why?
Away from wage-cost theories to raw-materials cost. Decline of trade union power.
396
What are three reasons global prosperity can lead to imported inflation?
1. Price of imported goods rises. 2. Demand for exports rises (rivalrous with UK consumption). 3. Increased trade deficit could lead to exchange rate depreciation.
397
Give an example of a key country the UK imports inflation from and how?
US
## Footnote
Rising price of US exports when US economy is overheating - we import that inflation.
398
Fundamentally, why does demand pull inflation occur?
Firms are only willing to supply more if the price level rises.
399
How can we reduce the policy conflict of economic growth and inequality and eval?
Redistributive taxation e.g. income tax.
400
How is there an inter-temporal living standards trade-off?
We can boost living standards now by increasing share of national income for consumption rather than investment, but this can reduce economic growth in the long run.
401
Give an example of the politicisation of macroeconomic policy trade-offs.
2015 - Austerity swapped for expansionary fiscal policy but largely returned after election.
402
Give an example of a macroeconomic policy trade-off.
2022 - Bank of England forced to choose between raising interest rates and extinguishing already non-existent growth, or leave them where they were and potentially stoke a wage-price spiral.
403
How do free-marketeers and interventionists differ in their view of macroeconomic policy objective conflict in the long run?
1. Interventionist - measures will be cancelled out by other countries. 2. Free-market - supply-side reforms -> growth -> BOP -> inflation down -> unemployment down.
404
What is the Phillips Curve often used for?
The argument over whether inflation is mostly cost-push or demand-pull.
405
What appropriation was made to the y-axis of the Phillips Curve?
Wage inflation -> general inflation.
406
How can the Phillips Curve be analysed both from a cost-push and a demand-pull perspective?
Cost-push - due to increased unionisation of the workforce. Demand-pull - excess demand causes wages to rise due to factor scarcity.
407
Why do free-marketeers believe that the SRPC causes inflationary spirals?
Christmas Tree diagram
## Footnote
ADAPTIVE EXPECTATIONS that are ROUNDED UP EACH TIME UNANTICIPATED INFLATION OCCURS.
408
What two simplifications are made to make the Phillips Curve model make sense? Eval?
1. No increase to labour productivity. 2. Price inflation can be conflated with wage inflation.
409
What is the general definition of money illusion?
The tendency of economic agents to confuse nominal with real values.
410
How can we link the Phillips Curve to the Bank of England?
Operational independence was, to a large extent, about reducing the potential for SRPC shifts.
411
Why do Keynesians believe there is a legitimate trade-off between inflation and employment and counter?
Because they don't use adaptive expectations of inflation as the monetarists do.
412
How does the theory of rational expectations work and how would we illustrate it for a Phillips Curve?
Straight vertical LRPC
## Footnote
Economic agents immediately see through, so there is not even a short run decrease in unemployment. Agents immediately see their real wages devalued and hence do not substitute into the labour market.
413
What is another key way rational expectations' Phillips Curve is different from Friedman's? Eval?
To reduce inflation back to the target rate, it is not necessary to have a long period of unemployment above NRU to reduce adaptive expectations. Instead, if rational agents believe the government's policy, for instance through credibility, then it will come down much faster. This is why government monetary policy seeks to be credible.
414
When is short-run reconciliation between conflict macro objectives possible?
Significant recession when unused factors are everywhere.
415
Give an example which shows the initial difficulty with which monetarism controlled inflation.
1979 - reached 22% RPI.
416
What was inflation during the oil crisis?
1974-75 - 27%.
417
Is NRU at SRPC = 0 on a Phillip's Curve?
No. Draw an AD/AS diagram and show that when LRAS = AD, NRU is at the standard inflation rate e.g. 2% CPI+/-1%
418
What fundamental improvement does an LRPC make?
Explains how STAGFLATIONARY UNEMPLOYMENT can occur when SRPC shifts up but unemployment does not decrease, for a long time, below NRU.
419
WHEN A SUPPLY-SIDE SHOCK OCCURS WHICH INCREASES COST OF PRODUCTION, THE SRPC
SHIFTS TO THE RIGHT
420
How can demand-pull and cost-push inflation both be shown using a Phillip's Curve?
Demand-pull - movement along the Phillip's Curve
Cost-push - shift of the Phillip's Curve
421
What is the monetarist criticism of the SRPC alone?
They didn't believe that SRPC was sustainable into the long run - the economy must be able to return to a full employment level of output and employment in the long run.
422
What is NAIRU and how is it distinct from NRU?
NAIRU = LRPC. It is the non-accelerating inflation rate of unemployment
