Macro 7 - The Economic Cycle

Question 1

Economic cycle - definition

Answer 1

> The fluctuations in an economy’s actual economic growth over time.
A.k.a ‘trade cycle’, ‘business cycle’.

Question 2

Boom - definition

Answer 2

> A boom is when the economy is growing quickly.

Question 3

Boom features

Answer 3

> AD will be rising, leading to a fall in unemployment and a rise in inflation.

Question 4

Recession - definition

Answer 4

> A recession is when there’s negative economic growth for at least two consecutive quarters.
Be a slump if less than two quarters.

Question 5

Recession features

Answer 5

> AD will be falling, causing unemployment to rise and a fall in price levels.

Question 6

Recovery

Answer 6

> During a recovery, the economy begins to grow again, going from negative economic growth to positive economic growth.
AD will be falling so unemployment will be falling and inflation will be rising.

Question 7

How is long run growth shown?

Answer 7

> Long run growth is shown by an increase in the trend rate of growth.
The trend rate of growth is the average rate of economic growth over a period of both economic booms and slumps.

Question 8

What occurs during a recession?

Answer 8

> A negative output gap/ a recessionary gap.

Question 9

What occurs during a boom?

Answer 9

> A positive output gap/ an inflationary gap.

Question 10

Negative output gap - definition

Answer 10

> A negative output gap is the difference between the level of actual output and trend output when actual output is below trend output.

Question 11

Negative output gap - information

Answer 11

> A negative output gap will occur during a recession when the economy is under-performing, as some resources will be unused or underused (including labour, so unemployment may be high).
A negative output gap also usually means downwards pressure on inflation.

Question 12

Positive output gap - definition

Answer 12

> A positive output gap is the difference between the level of actual output and trend output when actual output is above trend output.

Question 13

Positive output gap - information

Answer 13

> A positive output gap will occur during a boom when the economy is overheating, as resources are being used fully or overused (so unemployment may be low).
Usually means upwards pressure on inflation.

Question 14

Recovery and output gaps

Answer 14

> During a recovery an economy will go from having a negative output gap to having a positive output gap as actual output rises above trend output.

Question 15

Showing output gaps

Answer 15

> On PPF, negative output gap is a point inside the PPF and a positive output gap is a point outside the PPF.
On an AS-AD diagram, a negative output gap is a point left of the LRAS. A positive output gap is a point on the right of the LRAS.

Question 16

Economic growth - definition

Answer 16

> An increase in the productive potential of an economy.

Question 17

Short run growth

Answer 17

> In the short run, economic growth is measured by the percentage change in real GDP.
This is known as actual (real) growth (this just means that the effect of inflation has been removed from the growth figure.)
Increases in actual growth are usually due to an increase in AD, but they can also be caused by increases in AS.
Actual growth doesn’t always increase - it tends to fluctuate up and down.

Question 18

Long run growth

Answer 18

> Long run growth (a;so known as potential growth) is caused by an increase in the capacity, or productive potential, of the economy.
This usually happens due to a rise in the quality of quantity of inputs.
Long run growth is shown by an increase in the trend rate of growth.
Increases in long run growth are caused by an increase in AS.

Question 19

Trend rate

Answer 19

> The trend rate of growth is the average rate of economic growth over a period of both economic booms and slumps.
It rises smoothly rather than fluctuating like actual economic growth. so the actual rate of growth doesn’t match the trend rate.

Question 20

PPF showing economic growth

Answer 20

> Short run growth is shown by a movement of a point but the PPF itself remains fixed.
Long run growth is the outwards shift of the PPF.

Question 21

Benefits of Economic Growth

Answer 21

1. Increases demand for labour = reduced unemployment = increased income.
2. Firms are succeeding = employee’s may get higher wages = better standard of living (as long as prices don’t rise more than wages).
3. Increased consumption = increased profits = increased investment = decrease in unemployment + outward shift of LRAS.
4. Firms produce more = rise in exports = better BoP.
5. Higher wages and employment = rise in gov tax revenue + less spent on unemployment benefits = can improve public services or infrastructure without need to raise taxes.
6. Improves Gov’s fiscal position.
7. May be environmental benefits as firms may have more resources to invest in cleaner and more efficient production processes.

Question 22

What happens when economic growth us restricted to one region/sector?

Answer 22

> There may be an unfair distribution of increased GDP and inequality, especially if stimulated from investment by wealthy people who want to make profit from it.
This could lead to strikes, increasedcrime rates, strains public services.
May need to tax rich to redistribute it better education to resolve it.

Question 23

Economic growth disadvantages

Answer 23

1. Income inequality.
2. Rise in wage often increases responsibilities at work = more stress and lower productivity.
3. Can cause demand-pull inflation as it causes demand to increase faster than supply. It can also cause cost-push inflation as economic growth increases demand for resources, pushing up prices. However, the costs of inflation will be reduced if AS also increases.
4. People on higher incomes import more, causing deficit on BoP. Plus firms import more to increase production.
5. Industrial expansion may bring negative externalities.
6. Scenery + habitats can be destroyed when resources are overexploited.
7. Finite resources may be used to create economic growth, may constrain future growth and threaten future standards of living (unsustainable).

Question 24

Pros of economic growth due to FDI from more developed countries

Answer 24

1. Increased investment
2. Increased tax revenue
3. Increased employment
4. More training
5. Increase in exports, improving BoP.

Question 25

Cons of economic growth due to FDI from more developed countries

Answer 25

1. Profit repatriation
2. Depletes resources (unsustainable)
3. Brings down workforce
4. Poor working conditions
5. Locked into low level activity.

Question 26

Why do firms outsource to LEDCs?

Answer 26

1. Cheaper labour
2. Lower corporation tax
3. More raw materials
4. Less safety regulations, lowering costs

Question 27

How can governments prevent costs of industrial expansion?

Answer 27

> Use the tax the firms pay to reinvest.
Increase workers rights
Impose caveats on firms: I.e employ x workers, develop training.