Notesale: Turn your study into money

Document Preview

Extracts from the notes are below, to see the PDF you'll receive please use the links above

---

Theme 2

2
...
1 Economic growth
The most common measure of national income is GDP (gross domestic product)
...

Economic growth is an increase in the amount of goodsand services produced per head of the
population over a period of time
...

GDP is the total market value of goods/services producedover a given period
...

Basic price adjustment is indirect taxes minus subsidies
...
This is used more often due to
increasing remittances
...

Net national income is national income minus depreciation
...

Remittance is the flow of money overseas by migrantworkers
...

Comparing nominal GDP and exchange rate is not a good comparison of two countries:
● Exchange rates are volatile affecting the comparison of an economy
...

● Lots of other factors to consider when comparing economies
...
This means US GDP is only 4 times the UK
...

Transfer payments are excluded from national income
...
E
...
children receive pocket money, unemployment benefits, or a second hand car sale
...

● Governments and firms forecast changes in the economy, helping to plan for the future
...

● They are used to make judgements on economic welfare e
...
living standards
...
g
...

● Hidden economy (economic activity of trade and exchangeunreported to tax authorities or
those that take GDP statistics)
...
The UK hidden economy is estimated to be 7-15% of GDP
...
g
...

● Public sector, a lot of the public sector cannot bevalued due to not being bought or sold
...

GDP and living standards comparisons over time has problems:
● Prices rise, increased GDP does not mean increased output
...

● Statistics are inaccurate
...

● Population changes, GDP is used to compare living standards
...

● Quality of goods and services
...
This would show a GDP fall saying living standards have
also fallen
...

● Defence and related expenditures, war time meant that the UK had a high GDP spent on
defence with no increase in output
...

● Externalities, these are not taken into account
...
g
...

● Income distribution, national income increase does not mean everyone has a higher income,
distribution changes over time
...

● The quality of national income datavaries
...
g
...

● National income figures must be adjusted to population size
...
g
...

● Countries expenditure on things that do not affect life quality e
...
defence are accounted for
...

● National income statistics do not take into account external factors
...

● Geography distorts comparison e
...
heating bills
...

Purchasing power parity is an exchange rate of onecurrency for another comparing how much a
typical basket of goods costs in one country in comparison to another
...
Then get the value of both baskets in dollars and work out the exchange rate
between them
...

PPP is needed as it helps compare living standards as exchange rates are volatile and only relevant for
some goods e
...
hairdresser price fluctuates in a nation
...

Wealth is a stock of assets which produces a flowof income over time
...

National income is used to show welfare over time but this is not always accurate
...
Income only affects
happiness a lot when basic needs are not met
...
g
...
High income may give happiness due to creating social status or due to
correlating with factors such as good health that give happiness
...
1
...
Deflation is a sustained general fall in price levels across the economy
...
Hyperinflation is when inflation is very high
...
Stagflation is a period of rising inflation or highin a
recession, with falling output
...


The BofE aims for low stable inflation of 2% to stimulate demand, avoid deflation and so that we have a
sustainable price increase:
● Leads to healthy demand and thus employment and pay rises
...

● Businesses may cut costs from not increasing payments and allowing planning
...

Consumer price index
Consumer price index is a measure of the price levelacross the EU used by the bank of england to
measure inflation against its target
...

The basket of goodsreflects goods and service common consumption habits to show the changing
cost of living
...
In the living costs and food survey a representative range of goods and services are recorded
and a basket of goods are created on a regular basis
...
Surveys are then sent out to get prices for these goods and services at shops and
supermarkets and the average price is converted into index number form
...
Some figures are weighted e
...
food carries more weighting than tobacco
...
The weighted averages are then added together to monitor the change in price indices
...
Multiply each weight by its corresponding price index, sum these values together and divide
the result by 1000
...
The change in index value of the basket then will thus represent inflation
...

● It’s only an average consumer and does not represent each individual's inflation rate e
...

petrol won't affect kids, pensioners spend more income on food
...

● Does not take into account all production and consumption in an economy
...

● When making comparisons over time we are comparing different goods
...
This then causes the price level to rise
...

The demand increase in a country may be due to:
● Consumer spending is rising excessively
...

● Governments are increasing its spending or cutting taxes
...

Seen as less harmful as its associated with improving living standards, productive capacity, increased
profits and thus investment
...
Firms try to pass on
increased costs to consumers to maintain its margins, however competition makes this difficult
...
The short
run SRAS will thus shift in causing a rise in price level
...

● Imports can cause a rise in price e
...
a world boom pushes prices up
...

● Governments raising indirect taxes or reducing subsidies
...
E
...
firms will invest less due to an unstable climate or consumers may change purchase
patterns
...
This leads to low output, economic growth and rising unemployment
...

● Competitiveness:
High inflation can lead to a balance of payment effect
...
This depends on the rate of inflation abroadand PED
...

Those on fixed incomes or pensions suffer
...
Anyone with pay increases lower than inflation
increases suffers
...

Taxes and governments spending may not change in line with inflation, e
...
taxes not
increasing in line with inflation, the consumer is better off in real terms or if tax free amount
does not increase along with inflation the consumer loses out
...
If rates
are high and especially if unexpected they disturbwealth distribution and affect social order
...
This leads to more shopping
around
...
As nominal interest rates are higher than with stable prices cashes opportunity
cost increases
...

● Menu costs:
Inflation leads to restaurants having to change menus to show increased price, more harmful
when fluctuating
...

Deflation costs and benefits (depends on reason and duration, demand or cost for firms):
● Lower prices passed on from companies as production costs fell
...

● Money stock falls increasing interest rates, lowering spending
...

Depreciating currency, export prices reduced
...

Falling asset value and thus a falling wealth effect
...

Unanticipated inflation is when economic agents make poor decisions due to anticipating inflation
rates poorly
...
g
...
Indexation only reduces some costs and eases the pain
especially for governments to tackle it e
...
menu costs remain
...

2
...
3 Employment and Unemployment
Employment is when you are in paid work and you are unemployed if you are seeking work actively but
without a job
...
This may be down to flexible contracts or a
lack of demand
...
Inactive includes retired people, parents and students
...
Those who are then discouraged from seeking a job after losing a job become the hidden
unemployed who if offered a suitable job would takeit others include those in education or
underemployed
...

Four key calculations:
● Employment rate is the number of those in work dividedby the labour force
...

● Activity/participation rate is the number of thosein work divided by the population of working
age
...

Unemployment causes:
Frictional unemployment- When workers lose their jobs but quickly move into a new one
...
The higher the unemployment benefits and the lower the job
information available the longer this is
...
This pattern is hard to prevent as
demand for labour varies through the year e
...
ski instructor in summer
...

Structural unemployment- When demand for labour is less than supply in an individual labour market
of an economy
...
g
...
There is a change in pattern of demand of what the economy
wants
...
Cheap accomodation and
retraining in areas of low unemployment could reduce this
...
This is
due to a lack of AD for all workers and capital meaning factories remain unused etc
...
Real wage rates are quite inflexible downwards e
...
due to the minimum wage or
receiving more from welfare than workers
...
g
...

Unemployment on diagrams:
● There is cyclical unemployment when we are in the PPF
...

● There is cyclical unemployment when there is an output gap
...

Three groups normally targeted for inactivity: mothers to work, older workers through raising the
retirement wage/decreasing welfare benefits and deskilled workers through retraining them
...
They may also decrease the wage level due to
higher labour supply increasing employment
...
It all depends on the migrants skills and industries
...
This creates long term unemployment
...
There is also
the stigma around it e
...
mental instability
...
Especially due to loss of human capitaland it affecting their application for future jobs
e
...
need recent experience
...

● Local communities- become rundown and have increased crime/vandalism
...

● The economy- loses output from the unemployed and also experiences social costs of violence
etc
...

● Consumers- in areas of unemployment lose out and spend less due to alower range of shops
...
However it may mean employment is cheaper and easier to find and labour costs can
be allocated to new tech
...

However they now use universal credit
...
It is not internationally measured so
cannot be used to compare between countries
...
To do this they use the international
labour organisation criteria for the survey, aged 16 and over
...
It asks questions about personal
circumstances and activity in the labour market to class people as employed, unemployed or inactive
by the ILO definitions
...
g
...

● Older workers have pensions instead of JSA
...

● Market movements not accounted for by JSA e
...
a student looking for a side job
...

Underestimations of unemployment (hidden):
● The underemployed or discouraged workers
● Workers on government training schemes
● Those on benefits for other things such as those disabled
Unemployment has a delay:
● The investment in human capital and it being a last resort
● There may be contracts in place and it being inelastic in demand with a cost of redundancy
● ILO data is often unreliable
...
1
...

● There is increasing ownership of physical and financialassets in one country by economic
actors in another country
...

● Individuals are migrating in increasing numbers
...

● The capital and financial accounts are where flows of money associated with saving,
investment, speculation and currency speculation are recorded
...
Visible exports - visible imports is the trade balance
...
Whilst invisible service imports are calledimport debits on the
balance of payments
...
Primary
income is from the loan of factors of production abroade
...
remittances, profits and interest
...
g
...

The current balance is exports - imports
...


Macroeconomic objectives with the current account:
These conflicts e
...
the current account may deteriorated due to higher economic growth
...

The current account deficit should be attempted to balance out in the long run, the deficit can be
caused by any agents
...

Causes of a current account deficit:
● Exchange rate
● Low natural recourse level
● Boom, results in a increase in imports and MPM
● Low productivity decreases competitiveness
● Trade barriers e
...
tariffs
● Other countries subsidise exports
● Wars or natural disasters
● Economic sector balance
● Relative inflation reduces competitiveness
The balance of payments overtime (last 50 years in the UK):
● The balance of tradein goods has been negative
...

However the secondary balance has nearly always been negative
...
If
the UK continues to be in a deficit there will be long term problems
...
5%, faster than debt
allowing repayments
...

● The current account is not the main determinant of net debt of UK agents
...
The net assets have huge swings ranging around 21% in the last 5 years
...
We are importing in a deficit resulting in
low demand for domestic goods and services and thus workers
...

● Slow economic growth as high imports decreases economic growth
...

● Inflation decreases as AD decreases thus causing downward pressure on prices
...
g
...

● Proportion of the GDP
● Other factors of the economy is doing well
● Only a small percentage of GDP
● If it iscyclical and thus only short term
2
...

Aggregate demand curve shows the relationship between the price level and equilibrium national
income
...

AD = C + I + G + (X - M)

Consumption (C) is the total expenditure in an economy by households on goods and services, this is
the most stable component
...
(17
...
g
...
g
...
(17
...
(5% of AD)
The aggregate demand curve shows the relationship between price level and
equilibrium level of real expenditure/outcome/input in an economy
...
A shift along the
curve is due to a change in price level
...

Gross investment is total spending on capital goods
...
Depreciation in the UK over the last few
years is ¾ of gross investment
...
g
...

Investment in physical capital is investment in factories
...

Current expenditure is day to day spending whilst capital expenditure is spending on capital goods
...

The AD curve is downward sloping as the higher the price level the less can be afforded, considering
different components:
● Consumption is influenced by interest rates
...
This demand increase for
borrowing funds results in interest rates rising, also higher prices are controlled by increased
interest rates
...

● Consumption is influenced by the wealth effect
...

● Investment is influenced by interest rates
...

● Imports can compete more at a high price level
...

An aggregate demand curve shift shows a change in another variable
not the price level
An outward shift shows an increase in GDP whilst a shift inwards shows
the opposite
The reasons for a shift in the demand curve are:
Consumption spending changes:
● A unemployment fall means that there are more people with money to spend and willing to
borrow money
...

● A stock market rise and house rise will increase consumer wealth and wealth effects
...

● New technology results in more households wanting to buy these new products
...

● Higher real income results in higher consumption levels
...

● Credit availability means more people can borrow and thus spend
...

● Inflation rates being high means more will demand now but also means interest rates rise
...

Tastes and attitudes for material consumption
...

● Economic growth rate and thus the accelerator theory deciding whether just to invest in
depreciated stock
...

● Increase in company retained profits means that they have more disposable income and
investment increases (70% comes from this)
...

● A fall in tax would increase the investment rate of return
...

● Less spare capacity means more investment is needed
...

● Exchange rates means the price of capital goods changesaffecting investment from abroad
...

● The world economy doing well means exports increase so imports should also
...

● Expectations for the future especially of interestrates affects investment
...

● A rise in government spending with no taxation change creates a budget surplus or deficit
...

● Government spending is influenced by their deficit or surplus
...
However spending may continue e
...
infrastructure to continue allowing a boom
...

Exports and imports are changing:
● A rise in exchange rates (appreciation) lowers exports and increases imports, this is as
exports are less competitive and imports cheaper
...
In the short
run when inelastic this may improve the balance
...

● Rising real income means higher imports as you have higher disposable income
...

● Protectionist policies that are high affect the amount imported and the amount that can be
exported
...

● Increased productivity makes exports more competitive
...

● Natural resources also affect what we need to trade for
...
We can be in a net trade surplus or deficit (UK was
-£5 billion in 2019)
...

Depreciation or capital consumption is the value of capital stock which has been used up or worn out
...

The consumption/savings function is the relationship between the consumption/saving of households
and factors that determine it
...

Consumption and income
●
●

Disposable income is household income over a period of time including state benefits minus direct
taxes
...
Though spending will increase at a slower rate
than income does, due to savings
...

The marginal propensity to consume is the proportion in a change in income spent
...

MPC = Change in consumption/change in disposable income
...
The APC
graph is falling as income increases
...

High income earners have a low APC (normally below 1) whilst a low income earner has a high APC (if
borrowing takes place above 1)
...
So governments must redistribute income from high to low earners to
stimulate economic growth
...

Accelerator theory is the theory that the level of investment is related to past changes in income
...
When the GDP rises investment increases
significantly
...

Investment = a(Yt - Yt-1)
(I is investment, Yt - Yt-1 is GDP change for period t, a is the accelerator coefficient)
The accelerator coefficient can also be called the capital-output ratio and is the ratio between the
amount of capital needed to produce a given quantity of goods and the level of output
...

2
...

The short run aggregate supply curve is the upward shopping curve that assumes that money wage
rates and price of all other external factors are fixed (one factor)
...

● Sticky wages, wages are slow to react to price rises, this
increases firms profits as prices are higher but income remains
the same and thus results in an increase in supply
...
g
...

A rise in price level causes an extension of aggregate supply whilst a
reduction in price level causes a contraction of aggregate supply
...
Bottleneck is a factor that
causes production (supply) to be delayed/stopped
...
This is affected by factors such as
exchange rates, natural disasters, demand and trade agreements
...

● Tax- If tax rises the cost of production increasesand so less will be supplied at each price
level and pushed upwards
...

● Exchange rates- If these fall the price of importsrise and so there is an increase in prices
through the economy
...

● Productivity- Productivity increases the output per unit of input
...
g
...
Though it will reduce production costs in the short run shifting
the curve downwards
...

● Subsidies reduce the costs of production thus increasingsupply at each price level
...

The long run aggregate supply curve shows total productive capacity and efficiency of an economy at
a period of time
...
In the long run it is assumed all factors of production and
costs are variable
...

Write YFE (Full employment) at the real GDP axis
...
On the LRAS the
economy is at full capacity, short term the economy can perform
beyond this but it is unsustainable
...

On a GDP trends rate this would cause a shift up the curve right
...

Causes of the shift of the LRAS curve (quantity/quality in factors of production):
● Skill and quantity of migrationwould improve and increase output per worker and cause a
rightward shift
...

● Education improvement of labour, improving human capital would shift the curve right
...

● Technological advancements allow new products to be made or existing products to be made
with fewer resources increasing capital productivity shifting the curve right
...
The LRAS world
economy increases if there is specialisation meaning products are produced at maximum
efficiency
...
As it makes it simpler
to set up an economy for entrepreneurs
...
This increases
productivity and reduces costs
...
Though less competition can also encourage investment and innovation
...
It also increases competition
...

● Economic incentives, this increase improves the LRAS
...

● Institutional structure of an economyis the framework of morals and behaviours and other
systems deciding how it works
...
g increasing laws when there is large corruption shifts the
●

LRAS right
...

An alternative to the classical LRAS is the Keynesian LRAS
...

They will not fall below a certain level because:
● Unions are able to prevent wages falling too low
...

● Workers are unwilling to work unless a certain wage is offered
...

● The minimum wage means wages cannot fall below a certain level
...

Points along the keynesian LRAS:
● Up until Y1, as the AD shifts along the LRAS the price level remains the same even though real
GDP increases
...

This section of the LRAS is elastic
...
Due to a greater demand being placed upon the
spare capacity pushing its price up
...
This section of the LRAS is perfectly inelastic
...
4
...

National output (O) is the value of the flow of goodsand
services from firms to households
...

In a closed economy O = Y = E
Injections > leakages, economic growth
...

Injections = leakages, economy is at equilibrium
...

● Government spending, spending by central and local governments
...

Three withdrawals (spending not returning to the flow of an economy) are:
● Savings, money not spent by households or firms
...

● Imports, items brought from abroad by households and firms
...

Injections and withdrawals are influenced by expansionary and contractionary fiscal and monetary
economic policy
...
4
...
The size of
equilibrium changes depends on the size of the shift and the elasticity of the curve which has not
moved e
...
the elasticity of AS if AD has moved
...
Whereas AS shifting
out causes a decrease in price level and an increase in real output
...
A ​shift in the AD curve does not
affect long run national output and would only affect price levels (as
capacity is bid up)
...

Therefore Kenyanisian long run equilibrium can have spare capacity
due to sticky wages and AD shifts can cause real output increase as
well as price level, this makes them to favour demand side policies
...
g
...

2
...
4 The multiplier
The multiplier effect is an increase in investment (or other injection) that leads to an even greater
increase in income, assuming the injection is non-related to income
...
E
...
£50 million after injection leads to £55 million
...
1
...

However as leakages occur the injection of money going around the economy decreases, the larger
the leakages the lower the multiplier
...

Marginal propensities:
● Marginal propensity to consume, is an increase in consumption divided by an increase in
income
...

● Marginal propensity to import, is the increase in imports divided by an increase in income
...

The national income/Kenyanisian multiplier is the figure used to measure a change in an injection into
the circular flow to find the final income change
...

Multiplier effect:
1/1- marginal propensity to consume

1/ marginal propensity save + marginal propensity tax + marginal propensity import
1/ marginal propensity to withdraw
The multiplier effect is thus affected by tax, imports, consumption and savings levels
...
The elasticity of AS is thus also important for the multiplier size,
more elastic means a greater multiplier effect
...

The most important factors:
● Confidence- more people willing to spend and having a high MPC
...

● Spare capacity- More spare capacity means there is more room for firms to grow and for
consumption demand to increase to be met
...

Government's spending due to knowing a multiplier is able to influence national income and macro
variables e
...
unemployment, injections can target areas with a high multiplier
...
g
...

The multiplier difficulties:
● It is difficult to measure the exact size of the multiplieras models are not completely accurate
...

● The multiplier effect is not instantaneous
...

● Economists disagree about the exact size of the multiplier
...
5 through government spending, 1
...

A multiplier effect can be less than 1 if private investment is crowded out
...

2
...
1 Economic growth causes
Actual economic growth is the rate of change of realGDP, ASAD shifting or the PPF
...

Four important distinctions:
● Economic growth is real GDP changes adjusted for inflation
...

● Total GDP is the amount produced in an economy, whilst GDP per capita takes into account
GDP and population change and thus living standards
...

Long run economic growth (real) will increase if the quality or quantity of inputs increase
...
These factors are land, labour, capital, tech
progress and efficiency:
Land (natural resources and land):
● This causes large growth rates through finding raw materials
...
This may not increase
welfare as it may just mean that wages fall
...


Increase in birth rate means population growth and more people are able to work
...

● Flexibility to change jobs, this requires wide knowledge
...
This responsibility to solve problems is
increasing in importance
...
g
...

Technological progress:
● Cutting costs of production throughmore efficient technology
...

Increased efficiency rises output:
● Through competition in a free market, new efficient techniques drive inefficient firms out
...
g
...

● Laws are needed to be strong to encourage investment
...
g
...

● Increased policies to prevent wars also encourage economic growth
...
This is seen in countries such as China
...
This further increases productive capacity and
potential exports, the rising growth increases the standard of living
...

How can countries open up to economic growth:
● Depreciating the exchange rate
...

● Trade liberalisation, reducing tariffs, joining trade blocs and trade agreements
...

A recession may lead to hysteresis and a prolonged fall in economic growth
...
5
...
Classical economists assume
this output gap fixes itself in the long run
...
Negative
output gap is when real GDP is lower than estimated GDP (downward
inflation pressure)
...

● LRAS not being on the equilibrium ASAD
...

●

An output gap is difficult to measure:
● Initial real GDP estimate is often inaccurate
...
g
...

Even if output in the long run returns to the trend rate there are other costs:
● Those unemployed suffer a loss of income
...

● Hysteresis is when a variable does not return to its former value when changed
...
This may happen due to loss of human capital or permanent loss of
physical capital
...

2
...
3 Economic cycle
The trade cycle is the fluctuations in economic activity around the productive potential of the
economy
...

Key features:
Boom/peak- Period of time the economy is growing stronglyand above productive potential
...

Characteristics:
● Full employment
● Fall in government deficit as high tax revenue and low spending
...

● High investment due to consumer and producer confidence
● Rising wages
● Higher imports and arguably exports
● Demand pull inflation
...
This is two negative quarters
of economic growth
...
This turns into a depression when severe
...

Characteristics:
● High cyclical unemployment as firms cut down on production or close, especially hitting the
young people hard
● High levels of business failure and falling profits
● Increase in government deficit as falling tax revenue and high spending
...

● Stock market crash cause a reduction in wealth meaning more people save and aggregate
demand is lower
...

● The world economy going into recession, hitting exports and thus a recession occurs
...

Supply side shocks:
● Large rise in world commodity prices creating inflation and meaning the value of demand of
imports rises
...

● An outbreak of a trade unionleading to a rise in price level thus decreasing aggregate supply
...
5
...

● Increasing inequality has come with economic growth mainly benefits the owners of capital
...
It also provides new
firms a place to establish themselves
...

● Rising animal spirits and business confidence increases investment and research and
development
...
g
...

●

However, developing countries concentrated in the first few sectors degrade the environment
...

● Growth uses up non-renewable resources and leads to pollution and climate change
...
g
...
On top of this government regulation may come in e
...

pollution emission taxes
...

Economy:
● Growth in GDP leads to a larger economy that will result in more jobs being created,
increasing a countries status and power
● However efficiency may outstrip this
...
Some argue economic growth is unsustainable
...

2
...
1 Possible macroeconomic objectives
The four main macroeconomic objectives are:
● Economic growth, this is wanted to be maximised
...

● Reducing unemployment, this is aimed to be as low as possible without inflationary pressure
...

In the last 20 years 4
...
This
is increasingly being seen as important due to increasing taxes and reducing benefits
...
However very large
deficits may cause an economic crisis if you fail to repay loans
...

The three subsidiary macroeconomic objectives are:
● Income equality, this is disagreed by politicians, with some arguing fairness and others
claiming that money will ‘trickle down’
...
There is no consensus overall about this objective
...
However after the 2008 crisis the UK deficit
grew to 10% which is unsustainable long term due to increased borrowing due to interest
repayments, however in the short term it is acceptable
...
Environmentalists see increased economic activity to ruin the planet
...

2
...
2 Demand-side policy
Monetary policy
Monetary policy is the manipulation by the government of economic variables such as interest rates
and the money supply to achieve its objectives
...

Monetary policy three instruments of policy(an economic variable used to target government policy):
interest rates, exchange rates and money supply
...
g
...

The Bank of England may use interest rates to control inflation levels
...
This is 9 people and they set out the bank of england base rate and quantitative
easing
...
After the
financial crash interest rates were kept as 0
...

Interest rates thus only rose when the negative output gap was eliminated
...
Lenders expect to receive interest if money is supplied for loans
to money markets and borrowers have to pay interest
...
g
...
This decreases consumption and leads to less
disposable income decreasing aggregate demand and stopping growth, furthermore
decreasing inflation
...
An increase in demand for housing increases the number of new
houses built, increasing investment
...
Lastly it means that money is released which can be spent as moving
to a cheap house releases equity and a more expensive house results in more borrowing
sometimes
...
g
...
This leads to a better
economic environment
...
This shifts aggregate demand out
increasing inflation
...
This thus decreases inflationary pressure
...
Also due to consumption rising, income
rises leading to more investment to supply for the extra demand
...

● Mortgage repayments, lower interest rates leads to lower mortgage repayments, thus an
increase in disposable income, an increase in consumption and aggregate demand and thus
growth is stimulated
...
This increases the value of
the pound, thus foreigners get more for each unit of their currency
...
This leads to inflation due to
aggregate demand increasing
...
This causes a fall in the pounds price
and thus causes a fall in the pounds demand decreasing the exchange rate
...

Quantitative easing occurs when the central bank buys financial assets in exchange for money to
increase borrowing and lending in an economy
...
g
...
This will then be lent out to
customers increasing consumption and investment
...

It also lowers the exchange rate, by lowering interest rates as hot money flows out of the economy
leading to a fall in demand and an increase in supply
...

● If mortgages are very expensive with a lot of peoplehaving them
...

● Not damped by fiscal policy and instead complimented by it
...

● Little spare capacity so that price rise occurs along with inflation and also creates more
investment
...

Interest rate transmission mechanism:
1
...

2
...

3
...

4
...

Hot money is when investors put money into countries with high interest rates to capitalize on these
changes
...

Fiscal policy
Fiscal policy is the use of taxes, government spendingand borrowing by the government to affect the
level of AD, output and jobs
...
Expansionary leads to an
increase in aggregate demand whilst contractionary decreases aggregate demand
...
However, excessive spending
over the years has resulted in a budget deficit, which is not likely to become balanced soon as we are
unlikely to go into a surplus to pay back this national debt
...
Public sector net debt is the official name for
national debt in the UK
...
The main areas of public spending are
education, defence and the NHS
...

A rise in government spending increases aggregate demand, however this may be counteracted due
to tax rates rising along with this and may result in neutral fiscal policy
...
A rise in the budget deficit or a fall in surplus normally increases AD and
is expansionary
...
g
...

This can also be indirect on a good or services e
...
excise duties or council tax
...
g
...
Progressive tax is the more you earn the more tax you pay
as a proportion of your income
...


A cut in tax or an increase in personal allowance increases retained profits/disposable income, will
increase disposable income thus increasing the marginal propensity to consume/invest thus
increasing consumption and AD thus stimulating economic growth
...
The more spare capacity
and smaller the leakages the larger this shift will be
...

● Unwanted inflationary pressure
Strengths and weakness of demand side policy:
● Expectations (forward guidance), do people expect the rates to go lower and there to be
inflation
...

● The magnitude of the changeis vital in the extent of the effect
...

This is as there are supply side problems making demand side policies for increasing
economic growth useless
...

● National debt, in a recession expansionary fiscal policy may be used to increase AD
...

● The rate of interest, this should be cut in the short term to stimulate AD, however if it goes too
low the effectiveness is thus limited
...

● Size of the multiplier, economists say that the multiplier is at zero in the short term as
government spending crowds out private sector spending
...
It also means an
increased budget deficit due to printing money only leads to inflation not increased output
...

● Time lags, demand side policies have time lags, such as building new infrastructure thus
resulting in the policy intentions only coming into place when the economic climate has most
likely changed
...

● Fine tuning, demand side policies have too little precision and outcomes are unpredictable
when there are so many random shocks involved in the economic system
...
6
...
These policies
improve the production potential and PPF through removing bottlenecks leading to supply side
improvements
...

There are time lags involved with supply side reforms e
...
building new schools
...

● Increased competition and thus research and development and lower prices
...
The government is directly involved with
increasing productive potential (LRAS) through overcoming market failures and addressing inequality:
● Increased government spending on healthcare, education and training to improve the
workforce
...
Furthermore, capacity like school improves the labour force
...
This however results in undercut prices in urban areas at
the costs of rural areas who thus experience more expensive products
...
However if this is prioritised before the provision of a product
it has negative consequences
...

● Industry policy helps promote firms that are considered important for economic growth
...

Market based supply-side policies are policies designed to remove barriers that stop free markets
working efficiently
...
The effect may be reduced if workers have fixed salaries and their
elasticity of supply
...
It
also means firms are more likely to invest instead of redistributing profit to shareholders
...

● Welfare benefits decreasing results in an increased incentive to work resulting in a larger
supply of workers
...

● Poverty trap reduction occurs when the withdrawal of benefits and tax rate changes results in
working more hours or being employed having a larger gain, as if benefits are high and
working taxes are high incentives are small
...

● Research and development improvements increase the efficiency of making goods and results
in new types of products being made
...

● Improving labour flexibility, helps to increase employment
...
Also numerical flexibility
through allowing firms to be more flexible in hiring and firing workers and also changing their
hours
...
This also results in cheaper employment
...

● Migration encouragement results in a larger skill and labour force size, however the type of
labour supplied is important
...

● Increased government spending on infrastructure/health care thus increasing the supply
...

● Encouraging startups, will provide new jobs and create firms that become the big businesses
of tomorrow
...

Limitations of supply side policy:
● There is a large opportunity costs of money aimedtowards supply side improvements,
● The policies are long term mainly and take a while for the effect to become apparent
...

● Market based policies effectiveness will be heavily influenced by economic conditions e
...

confidence or animal spirits
...

● It may increase inequality through policies such as taxation changes
...

● The effectiveness depends on the level of ADto make use of these policies
...

● It increases employment if AD increases also
...

2
...
4 Trade offs
A successful economy is arguably when AD is equal to LRAS and SRAS
...
This may also finance improvements in the environment
...
This reduction in AD leads to recession and cyclical unemployment accompanied
by slow growth
...
Whilst
this lowers unemployment it increases inflation, and the trade deficit as richer consumers
spend more
...
(Kuznets curve)
● To raise unemployment you have to raise AD, however this may cause inflation and increase
the current account deficit
...

● To reduce a trade balance deficit through cutting demand may increase unemployment
...

● Environmental failure may be reduced by increased investment in green technology that may
not promote growth
...
However increased investment raises AD and thus increases growth whilst
reducing unemployment
...
Wages are the most
important factor of production
...
Thus the lower the rate of unemployment the higher the inflation level as
workers have higher bargaining power
...
This can be demonstrated by either
the SRAS AD or the short run Phillips curve
...
This increases inflation and the current account deficit
...

● Interest rate cuts will increase AD, growth from investment and thus unemployment in the
short run whilst decreasing the deficit
...
This also
increases competitiveness and redistributes income benefiting the young with mortgages
...

● Supply side policies increase the PPF and reduce inflationary pressure, however this results
in increasing inequality through policies
...

● Environmental policies lead to a lower LRAS and lower growth through tighter regulation
...
g
...

Quantitative skills
Index number- An indicator showing the relative value of one number to another from a base of 100
...
Index number is 100 times the ratio to the
base value with no units
...

In Britain, the most well-known indices are the retail price index (RPI) and the consumer price index
(CPI)
...
Not at outright levels
...

● Easier to compare data
...

There is a difference between the percentage point and percentage change, also does not represent
nominal values
...

Real or constant values are values that have been adjusted for inflation
...
Weights are attributed to indicate the importance of that
item to households, the greater the weighting the greater the importance
...

Nominal GDP per capita = Nominal GDP/Population
Real anything = Nominal anything - Inflation (as a percentage)



---