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A Level Economics > Steedsy Theme 2 > Flashcards

Steedsy Theme 2 Flashcards

1
Q

3 ways of calculating economic activity

A

Expenditure method -how much is spent
Output method - total output produced by firms
Income method - total value of income for firms

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2
Q

Marginal propensity to consume definition

A

The marginal propensity to consume measures the change in consumer spending following a change in someone real disposable income

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3
Q

Why is the value of the marginal propensity to consume important?

A

When the government is considering cutting direct taxes - the aim of this might be to stimulate consumption to help drive economic recovery after a recession. The impact of the tax cut depends on the MPC. If it’s high, most of the extra disposable income will be spent rather than saved. However, if the marginal propensity to save is high, then a tax cut might be ineffective. This suggests that the government might do better to tell the tax reductions on low income families with a higher expected MPC.

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4
Q

Key factors influencing household saving

A

Real interest rate - high interest rates, high savings
Price expectations - if consumers expect prices to fall, they may choose to save more now
Availability of credit
Job security / unemployment - when unemployment is rising, people save more as a precaution as a job security declines
Consumer confidence - when consumer confidence is stronger than people are more willing to borrow and save less
Taxation of savings
Trust in savings institutions

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5
Q

Name, the seven government, economic objectives

A

GDP
Inflation rate
Borrowing costs /debt
Balance of payments - imports and exports
Unemployment rate
Sustainability
Inequality

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6
Q

Formula for aggregate demand and the percentage for each component

A

AD = C + I + G + (x - m)
Consumption = 65%
Investment by firms into machinery etc = 15%
Government spending = 25%
Exports - imports = -5%

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7
Q

Key factors influencing consumer spending

A

Real disposable income
Employment and job security
Availability and cost of consumer credit
Rate of interest
The wealth affect (increase in wealth leads to an increase in consumption)
Inflation
Expectations of future price changes
Consumer confidence
Level of savings

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8
Q

How do you calculate marginal propensity to consume?

A

Change in consumption / change in income

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9
Q

Marginal propensity to save definition

A

The proportion of an increase in income that is saved

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10
Q

Definition of marginal propensity to consume

A

The proportion of an increase in income that is spent

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11
Q

Consumption definition

A

Total expenditure on goods and services by individuals

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12
Q

What is the capital investment?

A

Spending on machinery, equipment, factories, technology, and infrastructure to create new capital goods

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13
Q

Factors affecting investment

A
  • Interest rates
  • Availability of credit (whether you can borrow money - lowering interest rates increases availability of credit)
  • Expected profits and retained profits - more profit, more investment, but bad to use profits because of opportunity cost
  • Actual and expected demand for goods and services - the accelerator affect - investment expenditure increases when either demand or income increases. An increase in GDP leads to an increase in the rate of investment ( accelerates )
  • Business confidence, when confidence is low, you save more
  • Rate of technological change influences the level of investment
  • Price of the product of the risk related to it
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14
Q

Definition of budget deficit / fiscal deficit

A

Spending is greater than income for one year

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15
Q

Debt definition

A

Some of all deficits over the period of time expressed as a percentage of GDP

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16
Q

What are the three areas of government spending?

A

Welfare spending / transfer payments (e.g benefits)
Public services / recurring spending
State investment - investment projects ( capital expenditure)

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17
Q

How much did the government spend as a percentage of GDP?

A

45%

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18
Q

State the three multiplier formulas

A

1 / MPS
1 / (1- MPC)
1/ MPW

MPW = MPM (marginal propensity to import), MPT (marginal propensity for taxation), MPS
MPW = all the withdrawals on the circular flow of income

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19
Q

Factors affecting the multiplier value

A
  • MPC - the higher, the MPC, the large in the multiplier
  • Leakages - more leakages of taxes, savings and imports, means the multiplier will be smaller
  • Degree of spare capacity (if operating to max capacity, the multiplier is limited)
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20
Q

Multiplier definition

A

Initial injection into the economy leads to a bigger increase in output (GDP)

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21
Q

Are the products we import highly elastic or inelastic

A

Inelastic

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22
Q

What are the three accounts measuring the balance of payments?

A

Current account
Capital account
Financial account

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23
Q

What makes up the current account

A

-Visible trade balance (e.g. cars) this is negative as we import more than we export
- Invisible trade balance (services) this is a surplus

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24
Q

What are the factors affecting exports of goods and services?

A
  • Relative prices of exports in the world markets
  • Non-price demand factors (e.g. design, and branding)
  • Strength of aggregate demand in key export markets
  • The exchange rate (a stronger currency, makes exports more expensive)
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25
Q

What are exchange rates?

A

The value of one currency against another

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26
Q

What is the acronym for whether a strong currency makes it more expensive or less expensive?

A

SPICED
Strong
Pound
Imports
Cheap
Exports
Dear (expensive)

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27
Q

What is the output gap

A

The difference between the actual level of GDP and its estimated potential level

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28
Q

What is meant by potential output

A

It represents the level of production an economy can achieve when all resources (CELL) are fully exploited without causing inflationary pressures.

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29
Q

What does a negative output gap often mean for employment

A

Higher unemployment

30
Q

What is a positive output gap

A

When an economy’s actual output or GDP exceeds its potential output.

31
Q

How can you achieve a positive output gap

A

Doing things like working overtime

32
Q

What impacts would cause a fall in aggregate demand

A
  • fall in net exports (x - m)
  • cut in government spending
  • higher interest rates
  • decline in household wealth and confidence
33
Q

What impacts would cause an increase in Aggregate demand

A
  • depreciation of the exchange rate
  • cuts in direct and indirect taxes
  • increase in house prices (wealth affect)
  • expansion of supply of credit (lowering interest rates)
34
Q

What is an economic shock

A

When unexpected events cause changes in the level of demand, output and unemployment

35
Q

What is aggregate supply

A

The total output of goods and services that firms in an economy are willing and able to supply at a given price level

36
Q

What is long run aggregate supply

A

Represents a maximum output when all factors of production are fully and efficiently employed

37
Q

Factors causing a shift in short run aggregate supply

A
  • wage costs due to a change in minimum wage
  • labour productivity (higher efficiency means lower costs)
  • Kew raw material prices
  • business indirect and direct taxes
  • cost of imported materials
  • supply shocks
38
Q

What can cause a change in potential GDP

A

(CELL)
- changes in the labour supply
- changes to the stock of natural resources
- improvements of productivity
- advances in the state of technology
- improvements in institutions such as banking

39
Q

What does the Keynes graph show

A

3 situations of one where output is greater than aggregate expenditure, one where aggregate expenditure is equal to output and one where output is less than aggregate expenditure

40
Q

What is the difference between the Keynesian model and the classical model

A

Keynes believe the government and economists should help the economy occasionally. The classical model involves economic growth in the long run while the Keynes model involves economic growth in the short run. The classical model shows the maximum total output level of just a straight line when the keynes model is a curve.

41
Q

What are the three different types of taxes?

A

Progressive taxes - the marginal rate of tax rises as income rises
Proportional taxes - the marginal rate of taxes, constant average rate of tax
Regressive taxes - the rate of tax paid falls as income rises

42
Q

Which fiscal policy aims at controlling inflation

A

The tight policy

43
Q

What do the government do to control inflation

A

They will increase taxes and reduce government spending to reduce inflation ( tight policy )

44
Q

What happens to the 7 government objectives, when the tight fiscal policy is introduced?

A

Unemployment : increases
Sustainability : improves
Balance of payments : decrease in imports, which COULD lead to an increase in exports if inflation reduces as the prices are more competitive
Economic growth : decreases
Debts : improves as government spending decreases and taxes increase
Inflation : decreases
Inequality : decreases

45
Q

Which policy aimed at stimulating economic growth and what does it involve?

A

Loose policy - decreasing taxes and increasing government spending

46
Q

What are the impacts on the 7 government objectives on introducing the loose fiscal policy

A

Potentially inflationary
Unemployment decreases
Inequality increases
Sustainability decreases
Balance of payments : import increase
Economic growth increases
Debt increases

47
Q

Evaluate why the loose or tight fiscal policy might not have as big of an impact on the economy as people might think

A

The multiplier may not be as large due to consumer confidence, they could save, depends on the magnitude of the change in government spending and taxes, depends if consumers already have debt

48
Q

Evaluate the expansionary policy (loose policy)

A

Higher market interest rates
And acceleration in the rate of price inflation
Marginal propensity to spend save of households
Marginal propensity to import
Change in business confidence

49
Q

How does the fiscal policy attempt to reduce inequality?

A

Progressive tax (taxing more, the more you earn)
Public (state) pensions
Social housing (council houses)
Government investment in education and healthcare
Welfare state transfers e.g. benefits

50
Q

What are automatic stabilisers?

A

Changes in tax revenues in the state spending arising automatically as the economy moves through the trade cycle
For example, when the economy is expanding tax revenues increase as more people working in the state spending decreases or stays the same
And when the economy is in a trough tax revenue will decrease as less people are working and spending and government spending increases to get the economy out of the trough

51
Q

What are the four functions of money?

A

Medium of exchange
A unit of account to measure prices
Standard or deferred payment - e.g. using credit cards
A store of value

52
Q

What is interest?

A

Interest is what you pay for borrowing money, and what banks pay you for saving money with them.

53
Q

What are the five tools of the monetary policy?

A

Credit availability
Interest rates
Quantitive easing
Quantitive tightening
Exchange rates

54
Q

What do higher interest rates mean for exchange rates?

A

Higher interest rates mean higher exchange rates as more foreign investment into the UK banks (hot money)

55
Q

Who sets the interest rates for England?

A

The bank of England, or the monetary policy committee (MPC)

56
Q

What factors are considered by the MPC when setting interest rates?

A

Economic growth
Bank, lending and consumer credit figures
House prices (the wealth effect)
Consumer and business confidence
Unemployment figures
Inflation
Expectations

57
Q

What is the transmission mechanism of monetary policy?

A

There are several ways in which changes in interest rates influence, aggregate demand, output and prices. These are collectively known as the transmission mechanism of monetary policy.

58
Q

How would you reduce inflation using the monetary policy?

A

Drop credit availability so less money is available to spend
Increase interest rates as this leads to an increase in saving and a decrease in borrowing which leads to a decrease in aggregate demand

59
Q

After using the monetary policy to reduce inflation, evaluate the impact

A

The aggregate demand could reduce more due to a negative multiplier
And it can take between 12 to 24 months for the full effects on real GDP after a change in policy interest rates

60
Q

Evaluate the effects of exchange rate changes

A

Time lags
Low price elasticity of demamd

61
Q

Explain quantitative easing

A

When the economy is sluggish, the central bank (Bank of England) generates new money electronically and buys assets like government bonds from commercial banks (e.g Lloyds bank) and other financial institutions. More demand leads to higher prices for assets which rises the price of bonds which leads to a lower yield on bonds. Therefore the base interest rate drops.

62
Q

What are the economic effects of higher interest rates

A
  • Consumer spending decreases
  • household saving increases
  • less investment in new capital
  • appreciation of pound
63
Q

Evaluate quantitative easing

A

Time lags
Higher income groups can take advantage and invest instead of spend so doesn’t go round the circular flow of income
Depends on consumer and business confidence
Depends on personal debt

64
Q

What is a liquidity trap

A

When interest rates are already low and they go lower it will have a limited effect on aggregate demand

65
Q

Demand side causes of deflation

A
  • deep fall in aggregate demand
  • large negative output gap
66
Q

Supply side causes of deflation

A

Things that cause higher supply:
- improved productivity
- technological advancements
- fall in wage rates

67
Q

Why is deflation damaging

A
  • people hold back on spending waiting for the price to go lower
  • lower profit margins for businesses
  • lower consumer confidence so more saving
68
Q

What is the purpose of quantitative tightening and what does it involve

A
  • deflationary monetary policy
    Selling government bonds to banks. When banks buy bonds, this reduces liquidity (amount of credit available) as the bank will lend less
  • bond prices drop as the Bank of England is no longer a purchaser, causing the yield to increase, and so less spending and more saving
69
Q

What were the demand side policies used in the Great Depression

A

Cut in interest rates ( UK 9% to 0.6%)
Uk chose to increase taxes but this actually worsened the depression

70
Q

What were the demand side policies used in the financial crisis of 2008

A

Quantitative easing
Government spending on banks

71
Q

Describe crowding out

A

The government increases spending
They have to borrow so they fund it by issuing bonds.
Consumers have less to spend as they buy the bonds
To attract more bond demand, they increase the yield
As bond interest rate goes up, other interest rates also go up so more save and less invest.

A Level Economics (4 decks)

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