How the macroeconomy works

Question 1

Circular flow of income

Answer 1

• National Y equilibrium (injections == leakages)
• Real GDP = nominal GDP / GDP deflator (decimal price index)
• Injections = X,G,I
• Leakages = S,T,M

Question 2

Output gaps

Answer 2

• +ve output gap
  –> Inflationary
  –> SR eq > LR eq
  –> Unsustainable
  –> ↑AD = ↑GDP (↑Y, ↑£)
• -ve output gap
  –> Deflationary
  –> LR eq > SR eq
  –> Inefficient
  –> ↓AD = ↓GDP (↓Y, ↓£)

Question 3

LRAS impact on macro objs

Answer 3

• ✔️ Econ growth (GDP)
• ✔️ High employment (Yfe)
• ✔️ Stable inflation (deflationary pressure)
• ✔️ Stable BoP (↓£=↑X,↓M)
• Depends on = spare cap, initial position

Question 4

AD determinants

Answer 4

• Factors shifting = Y, emp, govt spending/ tax/ borrowing, mon policy, interest/exchange rates, economic growth, consumer/busin

Question 5

AD determinants

Answer 5

• Consumption (household spending on G/S)
  –> Factors shifting = Y, wealth, interest rates, tax, MPC, consumer expectations/confidence
• Investment (firms spending on capital)
  –> Factors shifting = interest rates, business expectations/confidence
• Govt spending (discretionary = objs, automatic = stabilisers)
  –> Factors shifting = emp, inflation, CA deficit, booms/recession
• Net exports (countries spending on foreign G/S)
  –> Factors shifting = exchange rates, quality, economic conditions (X), domestic Y (M)

Question 6

Multiplier effect

Answer 6

• Initial injections lead to larger income rises
• Multiplier = 1 / (1 - MPC)
• High = spare cap, MPC/MPS, low tax
• Low = no spare cap, demand pull inflation, ↑interest rates

Question 7

Accelerator effect

Answer 7

Rise in GDP causes higher rise in investment (due to stable econ growth)

Question 8

Factors shifting SRAS

Answer 8

• Unit wage costs
• Labour productivity
• Raw materials/ components/ commodity prices
• Tax/subsidies
• Cost of M (exchange rates)
• Supply shocks (crisis, pandemic, natural disasters)

Question 9

Factors shifting LRAS

Answer 9

Classical = real factors (qty/qlty FoP) not mon factors (GPL)
- Labour productivity
- Investment (tech, R&D)
- Infrastructure
- Labour supply
- Competition
- Resources
- Innovation/enterprise
Keynesian = real factors + mon factors