Macroeconomics Topic One

Scarcity

the fundamental economic problem of having limited resources to meet unlimited wants and needs.

opportunity cost

the cost of the next best alternative when making a decision

economic agent

An economic agent is an entity that engages in economic activity e.g. by buying, selling, or producing goods and services

economic resource

the inputs or factors of production used to produce goods and services

choice

the ability of a consumer or producer to decide which good, service or resource to purchase or provide from a range of possible options

market

a place or venue that facilitates the exchange of goods and services

demand

the quantity of a good or service that consumers are able and willing to buy at a given price during a given period of time

supply

the quantity of a good or service that producers are willing and able to supply at a given price in each time period

equilibrium

a state of equality or balance between market demand and supply

productivity

a measure of the efficiency with which a country combines capital and labour to produce more with the same level of factor inputs

efficiency

the optimal use of scarce resources to produce goods and services in a way that maximises total social welfare

inflation

the sustained rise in the general price level over time

unemployment

a measure of the number of economically active people who are searching for work but unable to find employment

Economic growth

the increase in the real value of goods and services produced as measured by the annual percentage change in real Gross Domestic Product (GDP)

Gross Domestic Product (GDP)

a fundamental economic indicator that measures the total monetary value of all finished goods and services produced within a country's borders during a specific period

Interest rate

reward for saving and the cost of borrowing expressed as a percentage of the money saved or borrowed

fiscal policy

the use of government spending, taxation and borrowing to affect the level and growth of aggregate demand, output and jobs

monetary policy

Monetary policy refers to the actions taken by a central bank, to influence the economy by changing the money supply and interest rates

Gini Coefficient

a measure of equality in an economy and the distribution of income across a population (the lower the score, the greater the level of equality)

What are the UK macroeconomic policy objectives?

• Price Stability (e.g. in the UK we have a target of 2% inflation)

• Growth of real GDP (National Output)

• Falling Unemployment / Raising employment

• Higher Average Living Standards ( national income per capita )

• Stable balance of payments on the current account

• An equitable Distribution of Income and Wealth

What is the circular flow of income?

How money and resources move around the economy

What are the key components of the circular flow of income?

• Households

• Businesses

• Government

• Financial institutions e.g. banks

• Foreign sector

What does C stand for?

Consumer spending

What does I stand for?

Investment

What does T stand for?

Taxes

What does G stand for?

Government spending

What does M stand for?

Imports

What does X stand for?

Exports

What are the factors of production?

• Capitol

• Enterprise

• Labour

• Land (Freehold or Leasehold)

What is the factor reward for Capitol?

Interest

What is the factor reward for Enterprise?

Profit

What is the factor reward for Labour?

Wages / Income and Insurance

What is the factor reward for Land?

Rent

What is a closed economy?

An economy that does not engage with any international trade

What is an open economy?

An economy that engages in international trade and financial exchange

What are the leakages from the circular flow of income?

• Taxes

• Savings

• Imports

What are the injections into the circular flow of income?

• Government spending

• Investments

• Exports

What is the formula of index notation?

year

—————- x 100

base year

What is the formula for calculating growth rates for index notation?

(new index number - original index number)

————————————————————- x 100

original index number

What is the formula for percentage change?

New - Old

—————- x 100

Old

What is the formula for converting index numbers into raw data?

index number

-——————- x figure in base time period

100

What is a nominal variable?

an economic variable measured in current market prices or raw monetary units without any adjustment for inflation, deflation, or changes in the purchasing power of money

What is a real variable?

a variable measured in physical units, quantities, or constant purchasing power (adjusted for inflation) rather than current monetary values

What is the formula of a real value?

nominal value

———————————————- x base price index

general price index (or deflator)

What is aggregate demand?

Total spending on goods and services produced in the whole economy

What is the formula for Aggregate demand (AD)?

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

What is (X-M)?

The difference between spending on imports and receipts from exports (Balance of payments)

What does the downward slope of the AD curve indicate?

As the price level falls, the quantity of goods and services demand increases

What are the 3 main reasons as to why the AD curve is downward sloping?

• Wealth Effect

• Interest Rate Effect

• Exchange Rate Effect

What is the Wealth Effect?

When prices drop, consumers feel wealthier as their money can buy more so they tend to spend more

What is the interest rate effect?

Lower prices may lead to lower interest rates, making it cheaper for businesses and consumers to borrow money, encouraging more spending and investment

What is the exchange rate effect?

If domestic prices fall relative to other countries, exports become cheaper for foreigners, increasing demand for our goods while imports decrease

What causes movements along the AD curve?

When there are changes in the factors that cause the curve to slope downwards

What causes shifts in the AD curve?

When there are changes in the components of aggregate demand - C, I G or (X-M)

What are the key determinants of Consumer spending?

• The level of disposable income

• The marginal propensity to consume (likelihood to consume)

• Government policies (e.g. minimum wage)

• Interest rate changes (may cause people to spend or save less)

What are the key determinants of Investment?

• The cost of borrowing (interest rates)

• Expectations of the future (is it worth investing now if we’re confident now?)

What are the key determinants of Government spending?

• Current expenditure on goods and services

• Spending on employment in central and local government services

• Sensitive to changes in economic policy

• Political beliefs and aspirations

What are the key determinants of Exports and Imports?

• The nature of a country’s resources and the structure of its industries

• How efficient and competitive industries are

• Exchange rate

How do imports contribute to AD?

They do not contribute to AD, but they do indirectly by diminishing its size

What is a price level?

the national average of inflation

What is disposable income?

the income that households have to devote to consumption and saving, taking account of payments or direct taxes and transfer payments

What are investments?

expenditure undertaken by firms to add to the capital stock

What is Aggregate supply (AS)?

The total output of an economy (at a given price level and at a given time)

What is the short run?

A period where at least one factor of production is fixed. This means that a company cannot change everything it uses to produce goods or services immediately

What is the long run?

A period where all factors of production can be changed. This means businesses can adjust everything- from the number of workers to the size of their facilities

What do classical economists believe about government intervention?

There should be little to no government intervention in the economy and intervention would actually damage the economy and make it worse. However there should be some government intervention in law and some public services e.g. police.

What do Keynesian economists believe about government intervention?

It is the government’s responsibility to intervene and they should intervene to help the economy with things like inflation, economic growth etc.

What causes a shift in the SRAS curve?

• Employment costs

• Costs of other inputs (production costs)

• Impact of government (e.g. restrictions to how people run their businesses like health and safety laws, ingredient bans etc.)

• Supply shocks (e.g. Russia-Ukraine war where oil, grain and flour had a supply shock)

Why is the Classical LRAS curve vertical?

To reflect the belief that in the long run, the economy is always at full employment due to the flexibility of prices and wages

What causes a shift in the LRAS curve?

• Productivity of Labour and Capital

• Labour Market Participation

• Innovation and enterprise

• Capital investment

What causes a movement along the curve in AS?

A change in price level

What is a market supply?

Market supply is the total amount of an item producers are willing and able to sell at different prices

When does macroeconomic equilibrium occur?

when short run aggregate supply (SRAS) is equal to aggregate demand