Theme 2 - The UK Economy Flashcards

Question

What is deflation

Answer 1

- fall of prices indicating a slowdown in the rate of growth of output in the economy

Answer 2

- reduction in the rate of inflation - prices are still rising but they are not rising by as much

Answer 3

- nominal figures must be changed into real figures to make comparisons - done by choosing one year for base year and adjusting all other figures into equivalent figures

Answer 4

(new figure / base figure) x 100

Answer 5

- retail price index (RPI) - consumer price index (CPI)

Answer 6

- Office for National Statistics collects prices on a general basket of goods and prices are updated with goods/services being added/removed - prices combined with information on average household spending pattern to produce overall index - takes into account how much is spent on each item so are weighted

Answer 7

- not completely representative => does not account for all goods purchased and different households purchase different items - does not include price of housing - difficult to make comparisons with historical data - inflation indices overestimate inflation as they do not account for goods and services improving

Answer 8

- includes housing costs such as mortgage and interest payments which CPI does not - CPI accounts for people switching to cheaper products when prices rise which RPI does not - RPI excludes top 4% earners and low income pensioners as they are not ‘average’ households

Answer 9

- demand pull - cost push - growth of money supply

Answer 10

- prices in a market are determined by demand and supply - shift in either causes prices to change - inflation can be caused by increase in AD - if any factor increasing AD was to increase, then inflation would increase

Answer 11

- decrease in supply can also push prices up - when businesses find their costs have risen, they will put up prices to maintain profit margin => caused by any factor decreasing AS

Answer 12

- too much money can cause inflation - if people have access to money then they will want to spend it - if there is no increase in amount of goods/services supplied then prices rise - idea grew from fisher equation - government can also increase amount of money they print and decisions to increase government borrowing can increase money supply - can be increased by bank multiplier

Answer 13

- grew out of the idea of growth of the money supply increasing inflation - MV=PT - M is money supply - V is speed of money circulating in economy - P is price level - T is number of transactions - increase in money supply will lead to increase in price level, Ceteris paribus

Answer 14

- linked to idea of inflation from growth of money supply - banks make money by taking deposits and lending money at interest rates - keep a certain percentage and people who borrow do it in order to spend it - person who receives money will most likely input it back into system, which is a new deposit - this way banks can increase money supply

Answer 15

- if peoples incomes do not rise with inflation then they have less to spend => fall in living standards - those in debts will be able to pay off at cheaper value - those who saved will lose out as money is worth less - psychological effects, people may feel less well off and cause decrease in spending

Answer 16

- less competitive => difficult to export => negative BoP - encourages people to postpone purchases, as they wait for prices to fall further => further fall in AD and revenue - difficult to predict => cannot plan for future

Answer 17

- if government fails to change excise taxes in line with inflation then real government revenue falls - if they fail to change personal income tax allowances, then real government income will increase and taxpayers will have less money

Answer 18

- can be worse off and living standard decrease if they do not receive yearly pay rises - can cause unemployment as a result of falling demand

Answer 19

- indexation - wages or taxes are increased in line with inflation - e.g. workers negotiating with employers for wage rises in line with predicted CPI/RPI - however indexation may cause further inflation as wage increases will reflect past increases

Answer 20

- represents a waste of resources - employment linked to economic growth as fast economic growth leads to more jobs being created

Answer 21

- claimant count - international labour organisation (ILO) and UK labour force survey (LFS)

Answer 22

- is the number of people receiving benefits for being unemployed - provides number of claimants on particular day each month and numbers joining and leaving the count each month

Answer 23

- ILO classes people as employed, unemployed or economically inactive - LFS is sample of people living in households and is legal requirement for all countries in EU - asks questions about personal circumstances and activity in labour market to class people as employed, unemployed or inactive by ILO definitions

Answer 24

- those who do more than 1 hour of paid work a week or are temporarily away from work, are on a government supported training scheme or do minimum 15 hours of unpaid work for their family business

Answer 25

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

Answer 26

- neither employed nor unemployed - people of working age not seeking employment as well as those seeking employment but not able to start work - e.g. those in education, looking after family, health related issues, discouraged workers, retirement

Answer 27

- some people may not be in LFS but in claimant count as they are working in hidden economy or fraudulently claim benefits - some people are illeligible for benefits but classed as unemployed so show on LFS but not claimant count => LFS tends to be higher - claimant count and LFS rates can go in different directions as LFS is only a sample and there may be things in labour market not covered by claimant count

Answer 28

- do not include these; - working part time but would like to work full time - on government training schemes who would prefer employment - classed as sick or disabled - aren’t actvely looking for jobs but would take a job if offered - in education because they cannot get a job

Answer 29

- economically active => employed and unemployed, engaged in labour market and people employers can look to recruit while workers are unemployed and inactive - employment rate => percentage of population of working age who are employed - unemployment rate => percentage of economically active who are unemployed - activity/participation rate => percentage of population of working age who are economically active - inactivity rate => percentage of population of working age who are inactive

Answer 30

- those who are in part time or zero hour contracts when they would prefer full time - self employed but would rather be employees - those in jobs that do not reflect their skill level - not included in unemployment statics - increased during recessions

Answer 31

- increases in inactivity will decrease size of labour force causing fall in productive potential - lower GDP and lower tax revenue as less people are working - decreases in inactivity would result in more people being unemployed if there are no jobs available to them

Answer 32

- frictional - structural - seasonal - cyclical - real wage inflexibility

Answer 33

- unemployment due to people moving between jobs - due to new workers entering labour market or people leaving previous job - may take a while to locate and gain a job they are willing to accept - short term

Answer 34

- long term decline in demand in an industry leading to reduction in employment - lack of geographical and occupational mobility means people remain unemployment - different types

Answer 35

- regional => certain areas of country suffer - sectoral => one sector suffers dramatic fall in employment - technological => improvement in technology means jobs are replaced

Answer 36

- some employment is strongly seasonal in demand - once that time of year passes then labour force is drastically reduced - little can be done to prevent this from occurring in free market

Answer 37

- general lack of demand of goods and services within the economy - Keynesian ‘demand deficient’ unemployment - occurs during recession or severe economic slowdown

Answer 38

- real wages being above market clearing level leading to excess supply of labour - some workers may be prepared to work for less than minimum so company can take on more but this is illegal - some economists believe minimum wage risks creating unemployment in industries where international competition from low labour cost producers is severe - little evidence minimum wage created rising unemployment on high scale

Answer 39

- increase in net inward migration leads to increased jobs - UK has seen mass immigration with people taking low skilled jobs - due to circular flow of income, immigrants’ spending creates job and total employment increases => depends on size of remittances - can lead to lower wages and supply of labour increases so price equilibrium of labour is reduced - low skilled most affected

Answer 40

- as economies progress, higher skills needed - structural unemployment caused by lack of skills - e.g. engineering companies struggling to recruit skilled workers even though there are unemployed workers in local area - if firms will not train staff, government has to step in and correct market failure, costly => long term unemployed - migrant workers tend to fill shortages if skills fit

Answer 41

- loss of income => decline in living standards - suffer from stigma of being unemployed - long term unemployed find it difficult to get another job as they lose skills - those in job suffer from lower job security and can see fall in wages

Answer 42

- decrease in demand for goods (dependent on YED) => fall in profit - long term unemployment can lead to loss of skills and reduce employability of workers so smaller pool of skilled people to employ - can offer low wages => reduce costs

Answer 43

- local shopping centres tend to be run down => less choice and reduced quality - unemployed consumers have less available to spend - firms may lower prices and put sales on to increase demand

Answer 44

- fall in tax revenue - increase spending on welfare payments => opportunity cost => budget deficit

Answer 45

- rising unemployment linked to social deprivation => relationship between crime and social dislocation - areas of high unemployment see fall in demand => fall in income/jobs for those in those areas - loss of potential national output - social costs of unemployment

Answer 46

- record of all financial dealings over a period of time between economic agents of one country and all other countries - imports and exports

Answer 47

- current account which records payments for purchase and sale of goods/services - capital and financial account which records flows of money associated with saving, investment, speculation and currency stabilisation - money flow into country is positive, money flow out is negative

Answer 48

- trade in goods - trade in services - transfer payments

Answer 49

- known as visible as they can be seen - goods that are traded, whether raw materials or finished goods - difference between visible exports and visible imports is balance of trade

Answer 50

- services traded in or out of the country known as invisibles - e.g. holiday or insurance

Answer 51

- wages, interest, profit or dividends can be repatriated into the country - current transfers done by governments when they transfer money into/out of overseas organisations - income and current transfers split into primary and second income - primary is result of loans of FoPs abroad while secondary is range of mainly government transfers to overseas organisations

Answer 52

balance of trade + balance of invisibles + net transfer payments

Answer 53

- exports higher than imports - current balance is positive

Answer 54

- imports greater than exports - current balance is negative

Answer 55

- low unemployment - low and stable inflation - economic growth - BoP equilibrium on the current account

Answer 56

- protection of the environment - income equality - balanced government budget

Answer 57

- proportion of output of an individual economy which is traded internationally is growing - many more people own assets in other countries - increasing migration between countries - more technology being shared

Answer 58

- countries more interdependent - change in economic condition of one country will affect another since quantity imports/exported changes - in theory, all current balances should add to zero as what one country exports another imports

Answer 59

- total level of spending in the economy at any given price

Answer 60

AD = C + I + G + (X-M) - consumption - investment - government expenditure - net exports

Answer 61

- C; consumer spending on goods and services; makes up about 60% - I; spending by businesses on capital goods, 15-20% of AD, mostly done by private sector - G; spending by government on providing goods and services, changes yearly, 18-20% - X-M; net imports, UK has large trade deficit but this is a minor figure and is about 5%

Answer 62

- same as demand curve for individual market - instead shows relationship between price level and real GDP - downward sloping as rise in prices causes fall in real GDP

Answer 63

- income effect - substitution effect - real balance effect - interest rate effect

Answer 64

- as a rise in prices is not matched straight away by a rise in incomes, people have lower real incomes so can afford to buy less, leading to a contraction in AD

Answer 65

- if prices in UK rise, less foreigners will want to buy British exports - UK residents will also want to buy more imported foreign goods as they are cheaper - rise in imports and fall in exports decreases net exports so AD contracts

Answer 66

- rise in prices will mean the amount people have saved will no longer be worth as much as so will offer less security - as a result, they will want to save more and so reduce their spending => AD contraction

Answer 67

- rising prices means firms have to pay their workers more and so there is higher demand for money - if supply stays same, then price of money rises because of higher demand - high interest rates means more people save less borrow - also businesses invest less

Answer 68

- like demand, there can be both movements and shifts - movement is caused by changes in prices, inflation or deflation - shift is caused by changes in other variables

Answer 69

- important to distinguish between rates of change and absolute change - fall in consumption will reduce AD but a fall in rate of rise of consumption means consumption is still rising so AD increases but not as much

Answer 70

- spending on consumer goods and services over a period of time

Answer 71

- money consumers have left to spend, after taxes have been taken away and state benefits have been added - means it is affected by government taxation as well as wages

Answer 72

- most important factor in determining level of consumption - those with high income spend more than those on minimum wage - however we are concerned with how increases in income affects consumption => marginal propensity to consume (MPC)

Answer 73

- most have positive MPC but less than 1 - some have MPC of more than 1 as they use borrowing or savings to fulfil demand for goods which is higher than increases in income - poorer people have higher MPC as they likely to spend more of increased income while richer people save - average propensity to consume (APC) is average amount spend on consumption out of total income - in industrialised countries, APC for economy is likely to be less than 1 as people save earnings

Answer 74

MPC = change in consumption / change in income APC = total consumption / total income

Answer 75

- savings is what is not spent out of income - increase in consumption decreases savings - same factors affecting consumption also affect savings but in opposite way - marginal propensity to save (MPS) is how much of an increase in income is saved - average propensity to save (APS) is average amount saved out of income

Answer 76

MPS = change in savings / change in income APS = total savings / total income

Answer 77

- interest rates - consumer confidence - wealth effect - distribution of income - tastes and attitudes

Answer 78

- most major expenditures are bought on credit - if interest rates high, price of good will effectively be higher since more interest needs to be paid back reducing consumption - high interest rates also increase mortgage repayments and reduce consumption - rise in interest rates decreases value of shares so people experience negative wealth effect

Answer 79

- if people are confident about future and expect pay rises, they will increase spending - if they expect high inflation they will but now as it will be cheaper, increasing consumption - if recession or unemployment expected, consumption decreases and saving increases - expectations about taxation also affect consumption => high tax in future increases current consumption

Answer 80

- wealth is a stock of assets - people with greater wealth tend to have greater levels of consumption - change in consumption following change in wealth - experienced when real house prices ruse as owners have more wealth => increased confidence - can be experienced when share prices also rise

Answer 81

- those on high incomes tend to save higher percentage of income than those on low incomes - change in distribution of money in economy will affect level of consumption - if money is moved from rich to poor, consumption increases as poor have higher MPC

Answer 82

- in modern society, there is a strong materialistic drive encouraging people to have newest and best - can therefore increase spending, even above income - if people were less materialistic, consumption would decrease

Answer 83

- addition of capital stock to the economy - only seen as investment if real products are created

Answer 84

- machinery depreciates over time as it wears out or gets used up - gross investment is amount of investment carried out and ignores level of depreciation - net investment is gross investment minus value of depreciation

Answer 85

- if firm was to buy 5 new machines, gross investment would be value of those 5 machines - if they got rid of 2 old machines, then net investment would be value of those 5 minus old 2 - distinction between net and gross is important as in UK, depreciation accounts for 75% of gross investment

Answer 86

- rate of economic growth - business expectations and confidence - demand for exports - interest rates - influence of government and regulations - access to credit - retained profit - technological change - costs

Answer 87

- higher levels of investment in growing economy as businesses more confience - e.g. new machine => more products, but in declining economy, no one would by products - growing economy needs more investment to cope with high demand - if same products and same output produced each year and no more is demanded, investment stays same as firms just replace old machines - accelerator theory

Answer 88

- investment over a period of time is the change in real incomes times the capital output ratio - capital output ratio is amount of investment needed to produce a given amount of goods - thus if incomes rise, level of investment rises

Answer 89

- when businesses confident, investment increases as they prepare for future - if they are fearful, they will not invest - Keynes used ‘animal spirits’ to describe feeling of managers and owners of firms on whether investment would be profitable - argued it is difficult to measure

Answer 90

- if world economy is booming, demand for exports is likely to increase - therefore firms’ investments likely to increase to cope with extra demand - knock on effect encouraging other firms to increase their investment

Answer 91

- most investment done through borrowing - high rates means borrowing is more expensive so a business needs to be more confident of profits to cover extra costs - risk in rates increases opportunity cost - Keynes’ marginal efficiency of capital (MEC) graph shows high interest rates reduce investment - displays expected rate of return from investment at particular given time

Answer 92

- governments can encourage investment by their own policy decisions - e.g. tax breaks or grants to investment - regulation can affect investment - highly regulated economy sees less investment as regulation increases cost and time of investment

Answer 93

- investment lower when there is high risk as it means there will be less access to credit and interest rates will be higher - in recessions, it is usually more difficult to access credit as risks are higher and banks become more risk aware, fearing firms will be unable to pay money back

Answer 94

- retained profits are profits kept by firm and not shared with shareholders - not all firms take into account opportunity cost of investment from retained profits - many firms also unwilling to borrow money in case investment fails and they are unable to pay back - therefore high retained profits likely to increase investment

Answer 95

- improvements in technology will improve or speed up production - increase level of profitability - means investment has better prospect of success - change also means businesses need to invest to keep up with best technology

Answer 96

- rise in cost of any capital project increases level of risk leading to lower levels of investment - rises in costs of making goods decrease investment as it reduces profitability - means firms have less money to invest and decreases rate of return on investment

Answer 97

- government has significant part in AD - spend money on defence, education, NHS, etc. - impact of risk in spending depends on changes in tax => if government spending and tax rise by same amount then likely there is no increase in demand as people have less disposable income so C decreases but G increases

Answer 98

- trade cycle - fiscal policy - age distribution of population

Answer 99

- decisions over government expenditure may be made in order to manage AD, therefore regulate trade cycle - in recession, government may increase spending to increase demand and reduce unemployment - government spending also automatically rises during recession as they spend higher on benefits - during booms, government may decrease spending to decrease demand and reduce inflation

Answer 100

- some government spending is fixed from year to year - e.g. school spending and pensions - however government can vary what they spend each year, set out in budget - fiscal policy is decisions about government expenditure and taxes and depends on priorities of government - level of government spending depends on what they lay out in their fiscal policy

Answer 101

- ageing population leads to increased government expenditure on pensions etc. - young population leads to increased spending on education - more dependents in the economy, higher government spending is

Answer 102

- exporting goods abroad brings money into country => increased AD - importing goods means money leaves country => decreased AD - net trade is total exports minus total imports

Answer 103

- real incomes - exchange rates - state of world economy - degree of protectionism - non price factors - prices

Answer 104

- when real incomes in UK are high, there are increased imports as UK is unable to meet needs - means net trade decreases - if increase in real incomes is due to export led growth then net trade increases - therefore effect of changes in real incomes is dependent on many factors

Answer 105

- strong pound makes imports cheap and exports dear - costs foreigners more to buy pound with their currency - imports therefore increase and exports decrease - elastic imports, rise in price causes large fall in demand so value of imports falls - inelastic imports, rise in prices causes small fall in amount of imports so value rises - same for exports - inelastic exports then rise in value but elastic then fall in value - if both exports and imports are elastic, rise in value of pound => fall in net trade

Answer 106

- if UK’s main export country is doing well, UK exports likely to rise so net trade rises - effect of state of world economy is dependent on which countries are doing well and trade relationship then UK has with them

Answer 107

- protectionism is attempt to prevent domestic producers suffering from competition abroad - policies implemented making it harder for foreign firms to sell goods in UK - high protectionism on UK exports, exports decrease - high protectionism in UK for imports, imports decrease - if UK imposes protectionist measures, other countries likely to retaliate and do the same => exports decrease

Answer 108

- quality/design and marketing - UK goods have high quality/design level => exports will be high and imports decrease - UK goods well marketed then desire for them increases => increases exports, reduced imports

Answer 109

- high prices of UK goods means they are less competitive => low exports, high imports - if UK inflation higher than prices rise faster - also affected by productivity in UK as higher productivity leads to lower costs so prices can be lower - effects of changing prices on value depends on PED - if elastic, higher prices lead to fall in net trade

Answer 110

- total volume of goods and services produced within economy at given price level - indicates ability of an economy to produce goods and services - shows relationship between real GDP and average price levels

Answer 111

- upward sloping, willing to supply more but only at higher prices - elastic in short run

Answer 112

- SR is period when at least one FoP is fixed and cannot be changed - on AS curve in SR, money wage rates, factor prices and state of technology cannot change - in LR, all FoPs are variable

Answer 113

- costs of raw materials and energy - exchange rates - tax rates

Answer 114

- increase in this will increase cost of production - means SRAS curve shifts left => costs more to make same number of goods => business will only produce this amount if prices rise

Answer 115

- weaker pound will increase price of imports causing SRAR to decrease => production becomes more expensive - if pound becomes stronger, imports are cheaper so SRAS increases - SPICED => strong pound, imports cheap, export dear

Answer 116

- taxes increase cost of production - thus cause fall in SRAS, left shift - subsidised shift curve right as they decrease costs

Answer 117

- this occurs when there is a significant change in any of the SRAS factors; - costs of raw materials and energy - exchange rates - tax rates

Answer 118

- classical - Keynesian

Answer 119

- AS is independent of price level and instead determined by FoPs and technology - LRAS is measure of country’s potential output (PPF), shows full capacity output - possible in SR for economy to exceed maximum potential LRAS by allowing FoPs overtime but not allowed in LR as machines will stop/workers will want a break - vertical curve based on classical view that markets tend to correct themselves quickly => if economy in disequilibrium, it will naturally move towards equilibrium so economy is producing at productive potential

Answer 120

- agreed with classical to a point - curve does not stay vertical as wages/prices fall when unemployment exists, making it worthwhile for firms to employ people, returning economy to normal - this is not the case as wages are sticky downwards - high unemployment (A) and firm wants to recruit, they do not have to offer high wages as LRAS is perfectly elastic - between A and B, employment rises, making labour scarce so firms offer high wages to attract best workers - output becomes price inelastic until B where increase in price no longer affects output

Answer 121

- technological advances - relative productivity - education and skills - government regulation - demography and migration - competition policy

Answer 122

- improvements in technology speed up production so more goods can be produced with same resourced => increase LRAS - increased investment in technology also increase LRAS

Answer 123

- the more productive an economy is, the more will be produced with resources - increased productivity increases LRAS

Answer 124

- skilled workforce is mor employable and efficient so output per worker increases => LRAS increase - education increases occupational mobility of labour, decreases structural unemployment => LRAS increase

Answer 125

- increase size of workforce => increase people to go back to work (reducing benefits, change working age) - increase R&D => tax breaks for businesses who invest into research - make it easier to set up businesses => incentivise entrepreneurs - reduce regulations => lowers costs => increases output

Answer 126

- if immigration higher than emigration, population grows => more workers => LRAS increase - value of immigration dependent on age and skill - young/old population reduces working population

Answer 127

- competition forces firms to improve quality/lower prices - have to increase efficiency for this meaning more goods can be produced => LRAS increase - less competition can also be beneficial => encourages investment and innovation as others cannot copy ideas from copyright laws so they are the only ones that benefit from higher profit

Answer 128

- two sector economy with households and sellers - households own wealth and resources, providing firms with FoPs in return for ret, wages, interest and profits - money is used to buy goods and services from firms - money flows in one direction, FoPs in another - national output = national expenditure = national income

Answer 129

- government needs to be added => money taken out through tax and added through spending - if government spends more than takes away, it increases flow - financial services need to be introduced => inject money through investment and withdraw when consumers and producers save - foreign markets need to be added => exports add money but imports take money

Answer 130

- wealth is a stock of assets => things people own - income is a flow => money received - countries with high levels of wealth tend to have high levels of income and vice versa, but there is not a perfect correlation

Answer 131

- monetary additions to the economy - government spending (G) - investment (I) - exports (X)

Answer 132

- money being removed from an economy - taxes (T) - savings (S) - imports (M)

Answer 133

- if sum of injections is greater than sum of withdrawals, economy will be growing - if injections are smaller than withdrawals then economy is shrinking - in an equilibrium, injections must be equal to withdrawals, and so the national income remains the same

Answer 134

- when AD and AS curves intersect - if either AD or AS are shifted, then equilibrium position changes - size of change depends on size of shift and elasticity of curve which has not moved

Answer 135

- Keynesian and Classical economists agree AD is downward sloping and AS is upward sloping in the SR

Answer 136

- initial equilibrium position is P1Y1 - outward shift in AD moves position to P2Y2 - increase in AD leads to higher prices and higher real GDP - fall in AD leads to lower prices and lower real GDP

Answer 137

- initial equilibrium level is P1Y1 - increase in SRAS moves equilibrium to P2Y2 - increased SRAS leads to lower prices and higher real GDP - decreases SRAS leads to higher prices and lower real GDP

Answer 138

- classical LRAS is perfectly elastic => shift in AD does not affect LR national output and only affects price levels - classical economists believe economy will always return to full employment level and therefore there will be no unemployment in the long run

Answer 139

- increase in AD leads to positive output gap - economy is thus in disequilibrium as SRAS and AD do not intersect on LRAS curve - short term equilibrium is P2Y2 => over-full employment and firms bid up wages of labour and other factor prices - as a result, SRAS shifts inwards as production costs increased - eventually, economy is producing same amount but at higher prices at P3Y1

Answer 140

- increase in AD will increase price and output in the short term - but over time prices will continue to rise as economy moves back to long term equilibrium - means output does not change and only way to increase output is to increase LRAS - changes in AD without changes in LRAS are only inflationary

Answer 141

- initial equilibrium is P1Y1 - increase in LRAS causes lower prices and higher output - although there is short term disequilibrium as SRAS does not intersect with AD and LRAS, this will be closed by a shift in SRAS - rise in LRAS likely to lead to lower prices and higher output - when compared to rise in AD which causes increased prices and no higher output, it is clear to see why classicist favour supply side polices over demand management

Answer 142

- agree with classicists that there is full employment when the LRAS is vertical - however there can be equilibrium at less than full employment when the curve is horizontal - this is because they don’t believe a rise in unemployment rapidly leads to a fall in real wages

Answer 143

- shift from AD3 to AD4 is purely inflationary => FoPs being utilised highly, high employment => low supply of labour so high wages for highly skilled => increased prices but no change on output - shift from AD1 to AD2 occurs in recession => FoPs not being fully utilised, high levels of spare capacity, high unemployment => increased output but not price - shift to/from AD5 would lead to a change both in price and output - impact of shift depends on elasticity and employment levels

Answer 144

- if economy is producing at or near full employment, rise in LRAS will increase output and decrease price level - seen by change in equilibrium from P1Y1 to P2Y2 - however if economy is in recession at AD2, increase in LRAS has no effect on prices or output - this is why Keynesians argue during recessions the government needs to work to increase AD rather than supply side policies

Answer 145

- in microeconomics, any factor which affects demand would not affect supply - however in macroeconomics, a factor affecting AD can affect AS - e.g. investment is a component of AD, increase in investment increases AD but it could increase LRAS as firms could produce more - may mean that the long run disequilibrium caused by shift in AD will be brought back to equilibrium by an increase in LRAS rather than fall in AD - however not al investments increase production so LRAS will not increase

Answer 146

- idea that an increase in AD due to an increased injection can lead to a further increase in national income - ration of final change in income to the initial change in injection

Answer 147

- initial injection represents increase in spending and will increase income for someone else which leads to further consumption spending - size of multiplier is determined by how much of an increase in income people will spend, MPC - lower leakages => higher MPC => bigger multiplier - multiplier is able to work due to concept of circular flow

Answer 148

- withdrawal from the economy could lead to a further fall in income, decreasing economic growth and possibly leading to decline in economy - means government plans to cut deficits will lead to even further decrease of the economy

Answer 149

- multiplier means growth can occur quicker, as any injections lead to bigger increase in national income - injections can be targeted at those with biggest MPC to increase size - e.g. if government trying to stimulate economy, they will want to give more money to those with highest MPC => those on low incomes - governments use changes in spending to influence macroeconomic performance => impossible for government to know exact effect of spending - time lag between increase in income and consumption - overall effect on economy depends on change in AD and elasticity of AS

Answer 150

- marginal propensity to consume => increase in consumption following increase in income - marginal propensity to save => increase in savings following increase in income - marginal propensity to tax => increase in taxation following increase in income - marginal propensity to import => increase in imports following increase in income - marginal propensity to withdraw => MPS+MPT+MPM

Answer 151

- dependant on MPC, so can change all the time - MPC depends on range of factors affecting consumption, e.g. change in interest rates - higher the MPC => bigger multiplier => means more money of income is spent so more money transferred through circular flow - other MPs show how much of a change in income is withdrawn from economy => increase in any of these will decrease MPC

Answer 152

Multiplier = 1 / (1 - MPC) = 1 / MPW

Answer 153

- multiplier leads to increase in AD higher than original increase, but for it to have desired effect there must be sufficiency spare capacity for extra output to be produced - if AS is perfectly inelastic (classical LRAS), only impact of multiplier is to increase price and will not affect output in LR - more elastic AS curve => small effect on price but increased output - therefore, as with any increase in AD, effect of multiplier depends on shape of AS curve and whether it is SR or LR - size of increase in AD depends on both size of initial increase in AD and size of multiplier

Answer 154

- increase in quality or quantity of the FoPs - increased efficiency of FoPs - increase in LRAS will increase potential level of output in an economy

Answer 155

- CELL - technological progress - efficiency

Answer 156

- discovery of new resources (e.g. oil), can increase economic growth - economists argue developing countries tend to grow most from exploiting new resources => significant impact in developed countries - e.g. Saudi Arabia experienced large growth rates due to discovery of oil

Answer 157

- increase size of workforce (immigration, demography, country participation rates) => increased production - increase quality of workforce => increases efficiency, less structural unemployment, greater occupational mobility => less unused resources

Answer 158

- if a country receives sustained investment, they can access/develop new technology to improve productivity - also means more machines can be bought allowing for greater production

Answer 159

- tax benefits and grants by government can encourage development of business - creates jobs => more production - if there is too much wealth distribution, there is little incentive to work as rich know most of money will be taken and poor know they will receive benefits - lack of incentive also means businesses won’t invest

Answer 160

- improved technologies means AC is lowed - creates new products for market => increases consumption and keeps MPC high - without increased spending, there would be little economic growth

Answer 161

- government keep up competition => producers lower prices or increase quality so improve efficiency - market mechanism should work properly => not the case in some countries due to lack of protection of property rights => government needs to intervene and protect so people will invest - efficiency capital market (banks) needed - profit motive (capitalist society) => communists societies experience government failure through inefficiency

Answer 162

- percentage change in GDP - when the economy is actually producing more goods and services

Answer 163

- change in the productive potential of the economy over time - LRAS or PPF curve shifts

Answer 164

- FoPs - potential growth means there have been resourced discovered or more technology developed - they have not yet produced the extra goods/services so GDP hasn’t grown - difficulties in measuring productive potential means changes in GDP are used as a measure of growth

Answer 165

- AD can affect economic growth => export led growth => rise in AD through increased exports - been effective in Germany, Japan and China - prevents poor BoP which tends to occur as a result of economic growth - although increased exports initially increases AD rather than LRAS, sustained high exports levels encourages/forces firms to investment and increase demand for labour - to be competitive in international market, firms need to be more efficient

Answer 166

- long run trend rate of growth is average sustained rate of economic growth over a period of time - actual growth is actual change (change in real GDP) over time - changes in actual growth make businesses cycle - difference between long run trend rate of growth and actual growth is an output gap

Answer 167

- difference between actual level of GDP and estimated long term value for GDP - shown on trade cycle diagram => demonstrates how the actual GDP is not always on the trend - difficult to measure

Answer 168

- positive output gap is when GDP is higher than estimated - negative output gap is when GDP is lower than estimated - with a negative output gap, there is spare capacity in the economy

Answer 169

- exact position of LRAS is unknown - initial estimates of real GDP are often inaccurate - some economists believe they are so difficult to measure that they are not a valid concept to use for the purpose of economic policy

Answer 170

- illustrated using AS and AD diagrams - LRAS shows full capacity output - equilibrium to right of LRAS shows economy working over capacity in SR - equilibrium to left of LRAS shows economy working under capacity - classicists would argue positive output gap would be filled by LR economic growth moving LRAS curve, recession which would decrease AD or revise in costs of production decreases SRAS - also argue negative output gap would be brought back by rising AD or fall in costs of production

Answer 171

- equilibrium where AD=SRAS=LRAS - negative output gap at AD3 because SRAS equilibrium is less than LRAS equilibrium - means full capacity is not being met - at AD2, positive output gap as SRAS is higher than LRAS

Answer 172

- periodic by irregular up and down movements in economic activity - measured by fluctuations in real GDP and other macroeconomic variables - 4 phases - two types of trade cycle

Answer 173

- boom - downturn - recession - recovery

Answer 174

- mild trade cycle where GDP does not fall during recessions but instead doesn’t grow as much as trend - extreme trade cycle where GDP falls

Answer 175

- demand and supply side shocks - demand side shocks include collapse of housing bubble, political issues, changes in exchange rate or recession in world economy - supply side shocks include trade union action, change in oil prices or changes in exchange rate - shocks can be positive and negative and cause boom or recession

Answer 176

- when economy is at peak, national income is high and economy is likely to be working above PPF => positive output gap - consumption, investment and tax revenue are high with wages increasing - country will increase imports to meet demands of high income consumers - inflationary pressure

Answer 177

- high unemployment, causing low consumption, investment and imports - inflationary pressure is low and there may be deflation - government defines recession as where real GDP falls in at least two successive quarters

Answer 178

- increase in demand for housing => people have more money and are able to afford properties => increases house and share prices => wealth effect - improve productive efficiency due to better technology => lower prices/higher quality - increased happiness => not always the case - increased inequalities and inflation

Answer 179

- investment increases - business confidence improves - technology improves as a result of investment => lower costs and increase productive efficiency - higher profits => high demand + low costs - opportunity for new firms to establish themselves - firms selling interior goods may lose out

Answer 180

- tax revenue raised => money can be spent on improving living standard - reduce budget deficit - people may expect more from the government

Answer 181

- lower poverty levels => increased production increases jobs - more goods and services for people to enjoy - housing standards, health and quality of food increase - investment into future living standards - exploitation of environment => decreases living standards in future - people can buy cleaner fuels and richer countries can devote resources for research and development - increased inequalities

Answer 182

- in the UK, long run trend of economic growth is about 2.5% - governments aim to have sustainable economic growth for the long run - in emerging and developing economies, governments may aim to increase economic development before economic growth, which will improve living standards, increase life expectancy and improve literacy rates

Answer 183

- governments aim to have as near to full employment as possible - they account for frictional unemployment by aiming for an unemployment rate of around 3% - labour force should also be employed in productive work

Answer 184

- UK government’s target is 2%, measured by CPI - aims to provide price stability for firms and consumers and will help make decisions for long run - if inflation falls 1% outside of target, Governor of the Bank of England has to write a letter to Chancellor of the Exchequer explaining why this happened and what the Bank intends to do about it

Answer 185

- important to allow the country to sustainably finance the current account, which is important for long term growth

Answer 186

- manage demand through monetary or fiscal policy - supply side policies to bring about long term growth

Answer 187

- policies designed to manipulate consumer demand - expansionary policy is aimed at increasing AD to bring growth - deflationary policy is aimed at decreasing AD to control inflation

Answer 188

- monetary policy - fiscal policy

Answer 189

- interest rates - monetary supply => quantitative easing

Answer 190

- interest rate is price of money - MPC is able to change official base rate to tackle inflation => repo rate, rate BoE charge for short term loans to other banks or financial institutions - change in repo rate affects market rates offered by banks as BoE is lender of last resort - if they are short of money, they have to borrow from BoE at repo rate, and therefore need to make sure that their interest rates are based on this rate so they can make a reasonable return

Answer 191

- cost of borrowing - price of assets - confidence - value of pound

Answer 192

- rise in interest rates will increase cost of borrowing for firms and consumers - leads to fall in investment and consumption, reducing AD - consumption of consumer durables and houses will especially fall - higher interest rates require higher rates of return for investment - also makes savings more attractive, as interest earned will be higher

Answer 193

- as less people are borrowing and more are saving, there is a fall in demand for assets such as stocks, shares and government bonds - leads to fall in prices for these assets - therefore consumers experience negative wealth effect since value of assets falls, leading to fall in consumption - also investment is less attractive since firms likely to see lower profits if prices fall - AD falls because of fall in consumption and investment

Answer 194

- people become less confident about borrowing and spending if interest rates rise - fall on confidence leads to fall in consumption and investment - also, loans will become more expensive to repay so consumers have to dedicate more of their income to pay back debts - means they have less income to spend

Answer 195

- high interest rates increase inventive for foreigners to hold money in British banks as they can see a higher rate of return - as a result, increased demand for pounds and value of pound will rise - means imports are cheaper and exports are expensive SPICED - decreases net trade and therefore AD

Answer 196

- exchange rate may be affected that exports fall significantly and imports rise causing balance of trade deficit - change in interest rate has time lag, up to 2 years to have full effect and small changes in rates may not affect people’s decisions - sometimes interest rates are so low that they cannot be decreased further to stimulate demand - range of different interest rates and not all are affected by BoE base rate - high interest rates over long period of time will discourage investment and decrease LRAS

Answer 197

- BoE buys assets for money to increase money supply and get more money moving around economy during times of low demand - quantitative means set amount of money is being created and easing refers to reducing pressure on banks - can prevent liquidity trap, where even low interest rates cannot stimulate AD

Answer 198

- BoE increase size of banks’ accounts at BoE => reserves, which encourages them to lend money - following financial crisis, BoE found many banks preferred to keep money in reserves than lending it out, so buying assets from bank did not have effect they wanted - therefore, Bank bought securities or bonds from private sector institutions

Answer 199

- bank is buying assets, rise in demand so prices rise => wealth effect => increases consumption. Moreover cost of borrowing will decrease as higher asset prices mean lower yields, making it cheaper to finance spending - money supply increases => increases consumption and investment. Can also push asset prices up further - commercial banks lower interest rates => encourages borrowing thus investment and consumption increase

Answer 200

- risk and can cause high inflation, even hyperinflation, if not controlled properly - some suggest it only increases demand for second hand goods - no guarantee higher asset prices lead to higher consumption through wealth effect, especially if confidence remains low - large effect on housing market by stimulating demand leading to rapid price rises => worsens issues of geographical mobility. Also leads to rising share prices increasing inequality - economies can be too dependent e.g. Eurozone

Answer 201

- monetary supply controlled by BoE - MPC makes most important decisions - main aim is to keep inflation at 2% - committee made of 9 people; 5 from BoE including Governor of BoE and other 4 are independent outside experts

Answer 202

- government budget - taxation

Answer 203

- government’s fiscal (spending, borrowing and taxation) plans are outlined in the budget - budget deficit is when government spends more money than they receive - budget surplus is when the government receives more money than they spend - rise in government spending will increase AD

Answer 204

- rise in income tax reduces disposable income and reduces consumption - rise in corporation tax decreases firm’s post tax profits, reducing investment

Answer 205

- government spending also impacts LRAS, e.g. cutting government spending to reduce AD may reduce quality of education - taxes have an impact on inequality so some decisions to reduce/increase demand may increase inequality - government has to worry about political issues as some policies may be unpopular and have them voted out - expansionary fiscal policy is difficult to undertake during period of austerity, government needs to consider effect of policies on budget - impact of fiscal policy depends on multiplier

Answer 206

- classical economists argue any demand management will have no effect on long run output so supply side policies should be used => increasing AD during depression will have no effect but increasing prices - impact of changes in AD depend on where economy is operating on Keynesian LRAS; if full employment then rise in AD is purely inflationary - time lag for full effect - expansionary policy tends to be inflationary while a deflationary policy brings unemployment

Answer 207

- monetary policy is useful as government is able to increase demand without increasing spending which would result in larger fiscal deficit - classicists argue if demand management is going to be done, only monetary policy should be used - fiscal policy can have significant impacts on the supply side of the economy, e.g. increases in spending on education to increase AD will also increase LRAS - it is also more effective at targeting specific groups and reducing poverty

Answer 208

- in 1930s, the world experienced a severe depression - unemployment was over 15% in the Uk and over 25% in the US - areas most affected in UK were primary industry and manufacturing industry, which relied on exports so were impacted by collapse of world trade

Answer 209

- set off by Wall Street Crash of 1929 => sharp fall in share prices on NYSE, but economists have different views: - loss of confidence => decrease in AD - US banking system => lent too much during 1920s creating unsustainable boom - protectionism reduced world trade reducing AD and lowering confidence - UK affected by commitment to gold standard meaning pound was appreciated rapidly and exports fell

Answer 210

- government believed balancing government budget was key to recovery - introduced emergency budget cutting public sector wages and unemployment benefits while raising income tax, reducing AD at a time it needed to be increased - pound came under attack from speculators and needed to be prevented from being forced out the gold standard - UK wad forced to leave gold standard in 1931 causing value of pound to fall which meant BoE cut interest rates - recovery in London and south east, rest of UK did not reach full employment until 1941

Answer 211

- government originally had same view over balanced budget as UK - however Roosevelt was elected with him New Deal promising public sector investment, work schemes for unemployed and fiscal stimulus - USA reached full employment in 1943 - New Deal is an example of Keynesian expansionary fiscal policy but can be argued it was not large enough to be successful

Answer 212

- many parallels between Great Depression and Global Financial Crisis - both started in US and spread throughout the world - large, long term effects on the economy - less severe than Great Depression

Answer 213

- issues in mortgage lending in US => poor were encouraged to take out mortgages to buy homes => moral hazard - low interest rates but people were no longer able to pay with higher repayments => houses repossessed, demand fell and prices fell - banks had been grouping prime mortgages and sub prime mortgages and selling packages to other banks and investors => aim was to reduce risk however it increased risk - when this was revealed, there was a fall in confidence

Answer 214

- both governments forced to nationalise banks and building societies and guarantee savers their money to prevent chaos of collapsed banking system - used expansionary monetary policies with record low interest rates and QE => BoE said QE led to lower unemployment and higher growth - US had a more expansionary fiscal policy and perhaps is why it recovered faster - in 2010, UK prioritised reducing national debt over providing a fiscal stimulus but US did not do this until 2013

Answer 215

- government policies aimed at increasing productive potential of the economy and moving the supply curve to right right - tends to be supply side improvements independent on the government over time => private sector investment - government is able to use supply side policies to speed up improvements

Answer 216

- market based - interventionist - free market economists tend to argue for market based policies as they want the government to have as small a role as possible - economists who support policies suggest the free market is not as efficiency as people believe and so the government needs to intervene to improve it

Answer 217

- designed to remove anything that prevents free market system working efficiently, causing lower output or higher prices - barriers include those which reduce willingness of workers to take jobs or lead to inefficient production, high prices or a lack of risk taking

Answer 218

- designed to correct market failure - e.g. free marker under provides education so government provides it - also, firms may only look into short term and look to maximise short run profits to give shareholders instead of investing, so governments may take actions to encourage investment

Answer 219

- increase incentives - promote competition - labour market reforms - improve skills and quality of labour force - improve infrastructure

Answer 220

- size of workforce increases=> increase in production - ways to increase incentives including reducing benefits/tax - could increase incentives for people to take risks or firms to invest => lower taxes - reducing taxes however can arguably have a very minimal change - reducing tax on high income earners increases inequality - reducing benefits increases inequality

Answer 221

- privatisation => selling nationalised companies to private sectors - deregulation => reducing business restrictions to entry to market - competition policy used to prevent monopolies - competition increases efficiency

Answer 222

- increasing retirement age => more working people => increased productivity - could become more flexible to make labour market efficient to external changes => weakening of unions, changing employment contracts, increase mobility of labour - reduce benefits increasing labour market size - unemployment reduces

Answer 223

- increased spending on education and training creates a more educated workforce => increased efficiency doing higher skilled jobs - introduce regulation => businesses continuously train staff - increase in high skilled migrants increases quality of workforce - improvements allow for increases efficiency, production and quality

Answer 224

- can be done through offering tax incentives or subsidies on investment - investment is just 17% of UK GDP compared to 35% in South Korea - government could also spend money to improve infrastructure, e.g. HS2, CrossRail - means new technology will be developed and more will be invested in buy new technology => increased efficiency

Answer 225

- able to increase output and decrease prices - more long term policies leading to long term economic growth => time lag - can be directed at increasing exports => improve BoP - Keynesian LRAS shows supply side have no impact when LRAS is elastic, so demand side are needed to fix short run problem - not all supply side policies work - government has to spend more => budget deficit - undesirable impacts on AD => higher unemployment or inflation

Answer 226

- as economy grows, more resources are used - as more resources used, and goods produced => increased pollution and nouse and destruction of habitats - economic growth in China has been rapid but led to high levels of pollution - economic growth can be achieved without damaging environment, but growth is likely to be slower and have higher costs

Answer 227

- some countries like India has seen rapid economic growth leading to BoP problems - the country is so large that its industry is largely producing goods for its own people and the wealth of the people has led to increased demand for imports - in comparison, China has sene massive growth but that has largely been by producing goods for exports, therefore BoP is in a surplus

Answer 228

- Phillips Curve => rate of change in wages increased as rate of unemployment fell - later generalised into relationship between unemployment and inflation, arguing firms pass on increases in wages to customer in increased prices - high unemployment => low wages, high employment => high wages - initially Phillips curve showed relationship well, but during 1970s, we saw high levels of unemployment and low inflation => stagnation

Answer 229

- expansionary policies increase AD to increase output, employment and economic growth but lead to increased inflation and may worsen BoP as imports will increase - deflationary policies will decrease AD to improve inflation but will decrease employment and economic growth

Answer 230

- increase will be used to decrease inflation - however continuous high rates damage long term investment => decreases LR growth - moreover, value of pound raises, SPICED => worsen BoP - also affects distribution of wealth => high rates benefit savers and lenders - low rates tend to increase income inequality => richest hold larger proportion of wealth in non-money assets so aren’t affected

Answer 231

- intend to increase AS => improve LR economic growth - also able to decrease LR inflation, but may increase it in SR if they encourage investment to increase AD - moreover policies which decrease trade union power, reduce wages, lower benefits, change taxation etc. may increase income inequality => negatively affecting poorest - some supply side policies have adverse effects on budget or environment

Answer 232

- to reduce fiscal deficits, government may decide to reduce government spending and increase taxes - will reduce AD and decrease SR economic growth and lead to higher unemployment - also, the higher the fall in output as a result of these measures, the higher the fall in tax revenues will be => more ineffective the policy - likely to affect income equality as poor are the ones who use government services most and so will be worst affected

Theme 2 - The UK Economy Flashcards

(257 cards)