2.1 Measures of Economic Performance

Question 1

What is economic growth?

Answer 1

Economic growth is the ​rate of change of output​. It is an ​increase in the long term productive potential of the country ​which means there is an increase in the amount of goods and services that a country produces.

Question 2

How is economic growth typically measured?

Answer 2

The ​percentage change in real GDP per annum​. It can also be shown through the ​shift of PPF

Question 3

What is Gross Domestic Product?

Answer 3

​The standard measure of output, which allows us to compare countries. It is the total value of goods and services produced in a country within a year

Question 4

Is real or nominal GDP adjusted for inflation?

Answer 4

Real values are adjusted for inflation, nominal are not

Question 5

What is Gross National Income?

Answer 5

The value of goods and services produced by a country over a period of time plus net overseas interest payments and dividends. This means that it adds what a country earns from overseas investments and subtracts what foreigners earn in a country and send back home from the GDP. It is affected by profits from businesses owned overseas and remittances sent home by migrant workers.

This is increasingly used rather than GDP because of the growing size of remittances and aid

Question 6

What is Gross National Product?

Answer 6

The value of goods and services over a period of time through labour or property supplied by citizens of a country both domestically (GDP) and overseas. This means it is the value of all the goods produced by citizens of a country, whether they live in the country or not, whilst GDP is the value of all goods produced inside the country, whether they were produced by citizens of the country or not.

Question 7

What are purchasing power parities?

Answer 7

An exchange rate of one currency for another which compares how much a ​typical basket of goods ​in the country costs compared to one in another country

Question 8

How can there be inaccuracies with data when using GDP to compare living standards?

Answer 8

● Some countries are ​inefficient at collecting or calculating data, comparisons can become less effective.
● There is a ‘​hidden’ or ‘black’ market in which people work without declaring their income to avoid tax or to continue claiming benefits, and so GDP is underestimated
● GDP does not take into account ​home-produced services​, eg in many poorer countries people work as subsistence farmers, so the GDP is underestimated. This can also be true in the UK where DIY or the service of house-wives/husbands are not recorded.
● Over time, ​methods used to calculate GDP will change so it can be difficult to compare countries overtime. Similarly, different countries may use different methods to calculate their GDP.
● It’s important to take away ​transfer payments​, when money is paid to a person without any corresponding increase in output in the economy. E.g. the government taxes people who are employed and then gives it straight to the people who are unemployed. Other examples include pocket money and selling second hand goods.
● Errors in calculating the ​inflation rate means real GDP will be slightly inaccurate.

Question 9

How do inequalities make it difficult to use GDP to compare living standards?

Answer 9

An increase in GDP may be due to a growth in income of just one group of people and so therefore a growth in the national income may not increase living standards everywhere. Income distribution changes overtime and varies between countries so makes comparisons difficult.

Question 10

How do the quality of goods and services make it difficult to use GDP to compare living standards?

Answer 10

The quality of goods and services is much higher than those fifty years ago, but this is not necessarily reflected in the real price of these goods and services. Therefore, living standards may have increased more than GDP would suggest since the quality of goods and services has improved greatly. Improved technology may allow prices to fall, suggesting falling living standards, when this is not the case.

Question 11

How does comparing different currencies make it difficult to use GDP to compare living standards?

Answer 11

​There are issues over which unit should be used to compare figures: they are usually converted into US dollars because of the size of the American economy. Some people argue that Purchasing Power Parity should be used to take into account the impact of differences in the cost of living in different countries.

Question 12

How does spending make it difficult to use GDP to compare living standards?

Answer 12

Some types of expenditure, such as defence, does not increase standard of living but will increase GDP

For example, ​the GDP of the UK was higher during the Second World War than in the 1930s because a lot of money was spent on defence which increased GDP but it is difficult to argue that standard of living was higher in the Second World War. This therefore makes comparisons difficult as spending varies overtime and between countries.

Question 13

When was the ​Measuring National Wellbeing ​report launched in the UK and what was it for?

Answer 13

In 2010, the UK Prime Minister launched the ​Measuring National Wellbeing ​report to measure how lives are improving

They found that self-reported health, relationship status and employment status most affect personal well-being.

Question 14

What questions are asked in the Measuring National Wellbeing report in the UK?

Answer 14

They ask ​4 key questions about:
● life satisfaction
● anxiety
● happiness
● worthwhileness
People answer on a scale of 0 ‘not at all’ to 10 ‘completely’

The report is now updated on a quarterly basis, rather than annually.

Question 15

What were the findings of the Measuring National Wellbeing report?

Answer 15

In 2012-2016, life satisfaction, happiness and worthwhile have continued to rise whilst anxiety levels fell but have begun to rise slightly

This could be as unemployment is falling/GDP is rising but concerns over global security could be causing anxiety

Question 16

What is the link between real incomes and subjective happiness?

Answer 16

One key finding of psychological research is that ​happiness and income are positively related at low incomes, but ​higher levels of income aren’t associated with increases in happiness. This is called the ​Easterlin Paradox​

An increase in consumption of material goods will increase happiness if basic needs aren’t met, but once these needs are met, an increase in consumption won’t increase long term happiness

Question 17

What is the Easterlin Paradox?

Answer 17

A phenomenon identified by economist Richard Easterlin in the 1970s, in which increases in a country’s per capita income do not necessarily lead to increased happiness or life satisfaction among its citizens. Easterlin observed that while people in countries with higher incomes tend to report higher levels of happiness, within a given country, there is often little direct relationship between income and happiness.

Question 18

What is inflation?

Answer 18

The general increase of prices in the economy which erodes the purchasing power of money

Low inflation is generally considered to be better than high inflation

Question 19

What is deflation?

Answer 19

A decrease in the general price level of goods and services

The fall of prices and indicates a slowdown in the rate of growth of output in the economy

Question 20

What is disinflation?

Answer 20

A reduction in the rate of inflation i.e. prices are still rising but they are not rising by as much.

Question 21

How is CPI calculated?

Answer 21

● The ONS collects prices on a basket of​ 710 goods and services, prices are updated every month. New items are added to the list every year, eg ​microwaveable rice, whilst others are taken away, including ​organic carrots.
● All these prices are combined using information on the average household spending pattern to produce an overall price index. The average household spending is worked out through the ​Living Costs and Food Survey, ​where around 5,500 families keep diaries of what they spend over a fortnight
● Items are ​weighted i.e. we spend more on petrol so an increase in petrol will have a bigger impact on the overall rate of inflation

Question 22

What are some limitations of CPI?

Answer 22

● It’s impossible for the figure to take into account every single good that is sold in the country, not totally representative. Similarly, different households spend different amounts on each good
● Doesn’t include the price of housing, since this has tended to rise more than the price of other goods, the data may be lower than it should be.
● The figure is more recent than RPI, difficult to make comparisons with historical data. It was only used since 1996 with estimates going back to 1988 which means that levels of inflation using CPI can only be accurately compared back to then.

Question 23

What are some differences between RPI and CPI?

Answer 23

● RPI includes ​housing costs such as mortgage and interest payments and council tax, whereas CPI does not.
● CPI takes into account the fact that when prices rise people will switch to product that has gone up by less. Therefore, the CPI is generally lower than the RPI.
● RPI excludes the top 4% of income earners and low income pensioners as they are not ​‘average’ households​ whilst CPI covers all households and all incomes.

Question 24

What are the two types/causes of inflation?

Answer 24

● Demand pull inflation
● Cost push inflation

Question 25

What is demand pull inflation?

Answer 25

● Inflation can be caused by an increase in AD, (total demand for goods and services in the economy) ● If any factor which increases AD was to increase, then inflation would increase

Question 26

What is cost push inflation?

Answer 26

● A decrease in aggregate supply will push prices up ● When businesses find their costs have risen, they will put up prices to maintain their profit margins. This can be caused by any factor which decreases AS

Question 27

How can the growth of money supply cause inflation?

Answer 27

If people have access to money they will want to spend it but if there is no increase in the amount of goods and services supplied, then prices will have to rise

Question 28

Effects of inflation on consumers?

Answer 28

● If people’s incomes do not rise with inflation then they will have ​less to spend​, which could cause a fall in living standards. ● Those who ​are in debt will be able to pay it off at a price which is of cheaper value, but those who are owed money lose because the money they get back is of cheaper value. Consumers who have ​saved ​will lose out as their money is worth less. ● Inflation has ​psychological effects ​on consumers: because prices are rising, they may feel less well-off, even if their income is rising in line with inflation, and so this may cause them to decrease their spending.

Question 29

Effects of inflation on firms?

Answer 29

● If inflation in Britain is higher than other countries, British goods will be more expensive. They will become ​less competitive ​and more difficult to export. This will also affect the balance of payments. ● In general, inflation/deflation/disinflation is ​difficult to predict which means that firms cannot plan for the future. ● Another effect of changing prices is that firms will have to calculate new prices then change their menus, labelling​ etc. and this can be expensive.

Question 30

How does deflation affect consumption?

Answer 30

Deflation encourages people to ​postpone their purchases ​as they wait for the price to fall further. People will be more likely to save as the value of their money will rise in the future ## Footnote consumers may also buy more as they have a higher real income, e.g on discretionary items

Question 31

Effects of inflation on government revenue?

Answer 31

If the government fails to change excise taxes (taxes at a set amount e.g. £1) in line with inflation then real government revenue will fall. However, if they fail to change personal income tax allowances (the amount a worker can earn tax free) then real government income will increase and taxpayers will have less money

Question 32

Effects of inflation on workers?

Answer 32

● If workers do not receive yearly pay rises of the rate of inflation, they will be worse off and their living standard will decrease. Those in weaker unions tend to be most affected as they are unable to win wage rises in line with inflation. ● Deflation could cause some staff to ​lose their jobs as there is a lack of demand meaning firms see a fall in profit and have to decrease staff to cut costs.

Question 33

How can indexation further inflation?

Answer 33

Wage increases will reflect past increases. Therefore, if inflation has been at 10% previously but the government wants to reduce it to 2%, this will be difficult if workers are still getting a 10% pay rise due to indexation agreements

Question 34

What is The Claimant Count?

Answer 34

The ​number of people receiving benefits for being unemployed​. It provides the number of claimants on particular day each month and the numbers joining and leaving the count each month. ## Footnote Number of people claiming JSA

Question 35

ILO definition of unemployment?

Answer 35

Those of working age who are without work, able to work and seeking work and have actively sought work in the last 4 weeks and are available to start work in the next 2 weeks

Question 36

Why is it argued that both the Claimant Count and LFS underestimate unemployment?

Answer 36

They don't include those: ● working part time but would like to work full time ● on government training schemes who would prefer employment ● classed as sick or disabled ● who aren’t actively looking for jobs but would take a job if offered or are in education because they can’t get a job ## Footnote These are the hidden unemployed.

Question 37

What is the Labour Force Survey (LFS)?

Answer 37

A sample of people living in households and is a legal requirement for every country in the EU. It asks questions about personal circumstances and activity in the labour market to class people as employed, unemployed or inactive by the ILO definitions ## Footnote The figures are only an estimate of the true level of unemployment as it is measured by a sample

Question 38

Who are the underemployed?

Answer 38

● Those who are in ​part time or zero hour contracts when they would prefer to be full time and people who are ​self-employed but would rather be employees ● Those who are in jobs which ​do not reflect their skill level​, for example a university graduate that can’t find a graduate job so is working as a bartender ● The underemployed aren’t included in any unemployment statistics ● Underemployment tends to ​increase during recessions because firms will just reduce staff hours instead of making them redundant and having to pay expensive redundancies packages ## Footnote It doesn’t have as many negative effects as official unemployment, but it does mean the underemployed have lower incomes and so will spend less, reducing aggregate demand and growth of the economy

Question 39

What is frictional unemployment?

Answer 39

● Unemployment due to ​people moving between jobs. This could be due to new workers entering the labour market or people who have chosen to leave their previous job. These people may take a while to locate and gain a job that they are willing to accept ● This isn’t a serious problem as it is only ​short term.

Question 40

What is structural unemployment?

Answer 40

● This is a much more ​serious form of unemployment as it is a ​long term decline in demand in an industry leading to reduction in employment perhaps because of increasing international competition or technology. It is where the demand for labour is lower than the supply in an individual labour market e.g. ship building. ● The lack of ​geographical and occupational mobility ​means that people will remain unemployed, so need to be retrained in order to gain a job

Question 41

What are the different types of structural unemployment?

Answer 41

● Regional unemployment is where certain areas of a country suffer from very low levels of employment due to industry closures; this is made even worse by the fact that the loss of jobs can mean a fall in demand for other businesses in the area, forcing more closures and job losses. ● Sectoral unemployment is where one sector (primary, secondary and tertiary) suffers a dramatic fall in employment. ● Technological unemployment is where an improvement in technology means that jobs are replaced.

Question 42

What is seasonal unemployment?

Answer 42

● Some employment is ​strongly seasonal in demand​. Industries such tourism are only prominent during certain times of the year so only demand large numbers of workers at a specific time. Once that time of the year has passed then the labour force is drastically reduced. ● There is little that can be done to prevent this from occurring in a free market economy.

Question 43

What is cyclical unemployment?

Answer 43

● Unemployment due to a ​general lack of demand of goods and services within the country. Also known as ​Keynesian ‘demand deficient’ unemployment ● When there is a recession or severe slowdown in economic growth, we see a rising unemployment because of plant closures, business failures and an increase in worker layoffs and redundancies. This is due to a decrease in demand causing businesses to cut employment in order to control costs and restore some of their profitability

Question 44

What is real wage inflexibility?

Answer 44

● Unemployment as a result of ​real wages being above their market clearing level leading to an excess supply of labour ● It can also be caused by unemployed workers refusing to take low paid jobs because they can receive more in welfare benefits.

Question 45

Effects of immigration on employment

Answer 45

● An increase in net inward migration tends to lead to ​increased jobs​. Due to the ​circular flow of income, immigrants’ spending creates jobs and total employment increases without an increase in unemployment. This depends how much money immigrant workers send back home ● It also leads to ​lower wages, particularly for lower-paid, low skilled jobs. Supply of labour ​is increased and so the price equilibrium of labour is reduced. There is more competition for jobs and low skilled UK workers who have low motivation to work are most affected as they are competing in the job market with hard working, more skilled workers prepared to take the same jobs as them. The impact of this is only small and middle and higher income wages are rarely affected

Question 46

Effects of unemployment on firms?

Answer 46

● There will tend to be a decrease in demand for their goods (but this depends on the YED) which could lead to a ​fall in profit​. ● Long term unemployment can lead to loss of skills and reduce employability of workers, so firms have a ​smaller pool of skilled people​ to employ. ● They can offer ​low wages as people will take the job anyway because they know there is a lack of jobs so have few options.

Question 47

Effects of unemployment on consumers?

Answer 47

● Consumers in areas of high unemployment lose out because local shopping centres tend to be run down. They suffer from ​less choice​. The quality of goods may also decrease. ● The unemployed consumers lose out as they have less available to spend. ● However, firms may lower prices and put on ​sales ​in order to increase demand for their product.

Question 48

Effects of unemployment on the government?

Answer 48

● Fall in ​tax revenues and ​higher spending on welfare payments for families with people out of work, incurring an opportunity cost as the money could be better spent elsewhere ● This will result in an increase in the ​budget deficit​. It will be likely that the government will have to raise taxation or scale back plans for public spending on public and merit goods, such as the NHS or education. They may need to increase borrowing.

Question 49

Effects of unemployment to society?

Answer 49

● Rising unemployment is linked to ​social deprivation​. There is a relationship with crime and social dislocation (increased divorce rates, worsening health and lower life expectancy). ● Areas of high unemployment often see a fall in demand for local goods and services, leading to a fall in income and sometimes further loss of jobs. ● It results in a ​loss of potential national output and represents an inefficient use of scarce resources. If people chose to leave the labour market permanently, then this will decrease LRAS and damage the economy’s growth potential, unable to achieve their desired PPF. ● Taxpayers paying money to the unemployed is not a loss for the economy as it is a transfer payment but the economy is affected because there is a fall in national output and the social costs of the unemployed e.g. violence and crime.

Question 50

What is the balance of payments?

Answer 50

A ​record of all financial dealings over a period of time between economic agents of one country and all other countries​

Question 51

What are the components of the balance of payments?

Answer 51

Made up of the ​current account which records payments for the purchase and sale of goods and services; and the ​capital and financial account which records flows of money associated with saving, investment, speculation and currency stabilisation ## Footnote Flows of money into the country are given a positive sign and flows of money out are given a negative sign