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Define the 4 stages of the economic cycle

Recovery/Expansion - GDP is currently rising (i.e. bigger this quarter than last quarter

Boom - Economy is growing at it's fastest pace

Slowdown/Contracion - GDP is falling (i.e. lower this quarter than last quarter)

Recession - GDP fell in the last 2 quarters


What is the objective of the Bank of England (monetary policy committee)?

How do they primarily achieve this?

What will they be doing at 2 key stages of the economic cycle?

Primary objective of the MPC is to keep inflation close to 2%.

They primarily achieve this by moving interest rates up and down.

At the boom stage inflation will be high.  To cool it down they will raise interest rates so that people/companies save instead of borrowing and spend less.

At the recession stage inflation will be low.  To boost it they will cut interest rates to encourange borrowing and spending/investment.


What is tightening, loosening and easing of monetary policy?

Loosening and easing is making money more easily available, by reducing interest rates and thus encouraging borrowing and spending.

Tightening is the opposite, restricting availability of money by increasing interest rates.  People/companies borrow less therefore spend less and inflation/growth falls.


What is quantitative easing?

What was the purpose?

Effect on inflation.

Quantitative easing is when a central bank (eg Bank of England) prints cash and buys bonds with it (usually government bonds).  This pushes up the prices of bonds, thus bond yields fall, making borrowing cheaper.

It was done to push down interest rates and borrowing costs and boost the economy.

Printing money inevitably results in higher inflation.


What is the PSNCR?

Public Sector Net Cash Requirement

In short it's the cash the public sector (i.e. government) needs.

It's the gap between their income (tax receipts) and expenditure (hospitals, schools etc).

When times are bad the goverment needs more cash (bad economy means less tax income and more poor people needing support).


Economic Cycles

How do shares move in the 4 stages of the ecnomic cycle?

Shares grow during the expansion stage and fall when the economy contacts.

In the boom stage they may be growing, but because the bank of england will be raising interest rates the rate of growth will be lower.


Economic Cycles

How do bonds move in the four stages of the economic cycle

Bond values are primarily driven by interest rates, so this directly follows from what the bank of england are doing at each stage.

In the boom when rates are being increased by the BofE, bonds will be falling.

In the recession when the BofE cuts interest rates to boost the economy, bond yields will also fall and so bond values will rise.


What is Fiscal and Monetary policy?

Monetary Policy (as in Monetary Policy Committee) is about money, i.e. the setting of interest rates by the bank of england.

Fiscal policy is about the physical act of the government bringing in tax receipts and spending.


How can fiscal policy be used to manage the ecnomic cycle?

The government can boost the economy by either spending more money or reducing taxation.

However both of these cost them money, meaning the PNSCR rises and they have to borrow more money.


Money supply

What is it and how does it affect the economy?

Money supply is simply the amount of money floating around in the economy.  If money supply grows then prices will rise.

This is in effect how quantitative easing works, money is printed and put out into the world to boost inflation.


Money Supply

M0 vs M4

M0 and M4 both include notes and coins.

M0 also includes banks operational deposits.

M4 includes instant access and time deposits.



Effects on : Cash, Fixed Income, Equities, Property

Cash and fixed income both return fixed future cash amounts, so if inflation increases those future cash payments will be worth less.

Equities and property are both assets which tend to grow with inflation (higher prices result in higher profits for companies, rents tend to grow along with inflation).


Exchange Rates

If your countries currency gets stronger what are the two effects on your economy?

Exchange rates affect (i) imports and (ii) exports.

If your currency is strong then imports will become cheaper therefore inflation falls (e.g. strong pound means French wine and cheese gets cheaper).

It also means your exports are more expensive for foreigners, so they buy less and your economy falls.

So a strong currency is BAD for your economy.


Capital/Current Accounts

What are they?

What is the important fact?

Both relate to the balance of money coming in and out of your economy.

Current account relates to imports and exports (i.e. the money Brits spend buying foreign stuff vs the money foreigners spend on our stuff).

Capital account relates to investments (i.e. the money Brits invest in foreign investments/assets and the money foreigners invest in our property/companies).

The important fact is that these must balance against each other.  If we get more money from exports than we spend on imports then we must be investing more abroad than is invested here by foreigners.