4.2 The national and international econoy

according to AQA's subject specific vocabulary list including extras

national income

the monetary value of all the goods and services that are produced by an economy in a given period of time

it is also equal to total expenditure (C + I + G + X - M) and total factor incomes

GDP (gross domestic product)

a measure of national income

the monetary value of the total output of an economy over a given period of time, for example, one year

real GDP

the monetary value of the total output of an economy with the effects of inflation removed

nominal (money) GDP

the monetary value of the total output of an economy that has not been adjusted for the effects of inflation

real GDP per capita

the average, or mean, real GDP per person

calculated by dividing a country’s real GDP by its population

index number

a statistic, with a base value of 100, used to measure changes in a selection of related variables

base year

the starting point for an index where its value is 100

weight

used to reflect the relative importance of each item in an index

consumer prices index (CPI)

a measure of the price level and inflation based on a weighted basket of goods and services

standard of living

the ability of people to satisfy their needs and wants, including health care and education

purchasing power parity (PPP) exchange rate

an exchange rate that reflects what the two currencies are able to buy in their domestic economies

circular flow of income

a model of the economy that shows how money, goods and services flow between different sectors of an economy, including households, firms, the government and the foreign trade sector

injections

types of expenditure that add to and increase the circular flow of income in an economy

injections are investment, government spending and exports

withdrawals (leakages)

the part of household income that is not spent on goods and services produced by the economy

it is income that is not passed on around the circular flow of income

withdrawals are saving, taxation and imports

aggregate demand

total planned spending on goods and services produced in the domestic economy, aggregate demand

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

aggregate demand curve (AD)

the relationship between the price level and total planned spending when other things that affect aggregate demand are held constant

aggregate supply curve (AS)

the relationship between the price level and the total amount of goods and services firms are willing to produce when other things that affect aggregate supply are held constant

macroeconomic equilibrium

the level of real GDP and price level when the planned level of aggregate demand equals aggregate supply

demand-side shock

an event that leads to a sudden or unexpected change in aggregate demand

supply-side shock

an event that leads to a sudden or unexpected change in aggregate supply

consumption

spending by households on goods and services to satisfy needs and wants

investment

spending that leads to an increase in the capital stock.

investment is an injection into the circular flow of income

exports

goods and services sold to other countries

exports are an injection into the circular flow of income

saving

income that is not spent

saving is a withdrawal from the circular flow of income

taxation

money that individuals and firms must pay to the government

taxation helps to finance government sending and is a withdrawal from the circular flow of income

imports

goods and services bought from other countries

imports are a withdrawal from the circular flow of income

accelerator process

a theory that says investment depends on the rate of change in national income

the theory asserts that an increase in the rate of economic growth (national income) will lead to a proportionately larger increase in investment

multiplier

the extent to which a change in injections or withdrawals affects national income

for example, if injections into the circular flow of income increase by £100 million and this leads to a £250 million increase in national income, the multiplier is 2.5

marginal propensity to consume (MPC)

a measure of how a change in income affects consumption

the MPC is calculated by dividing the change in consumption by the change in income that caused the change in consumption

MPC = change in C / change in Y

normal capacity level of output

the maximum output that an economy can continue to produce in the long run

in the short run an economy may produce less than this level of output but can also produce more than its normal capacity level of output

economic growth will lead to an increase in an economy’s normal capacity level of output

short-run economic growth

the rate at which the total output of the economy is increasing, usually measured by the annual percentage change in real GDP

short-run economic growth is greater than long-run economic growth when the amount of spare capacity is falling, and is below long-run economic growth when spare capacity is increasing

long-run economic growth

the rate at which the productive capacity of the economy is increasing

long-run economic growth is determined primarily by supply-side factors

long-run (underlying) trend rate of economic growth

the average rate at which the productive capacity of the economy is increasing over a number of years, usually 10 or more years

the economic cycle

the fluctuations in economic activity around an economy’s long-run trend rate of economic growth

the main phases of the economic cycle are: recovery, boom, recession and depression (or slump)

positive output gap

when a country’s equilibrium level of national income is greater than its normal capacity level of national income

negative output gap

when a country’s equilibrium level of national income is below its normal capacity level of national income

employment

the number of people who are working, usually in exchange for a wage or salary

unemployment

the number of people who are willing and able to work but cannot find a job

claimant count measure of unemployment

the number of people who are out of work and claiming Job Seekers Allowance

labour force survey measure of unemployment

a measure of unemployment that is based on a sample of households, conducted by the Labour Force Survey

an individual is counted as unemployed if:

• they do not have a job, they want to work, have actively sought work in the last four weeks, and are able to start work within the next two weeks

• they are out of work, have found a job, and are waiting to start it in the next two weeks

voluntary unemployment

there are jobs available but the individual is not willing to work at current market wage rates

involuntary unemployment

when an individual is willing and able to work at current market wage rates but is unable to find employment

seasonal unemployment

when people are unemployed at particular times of the year, for example, construction workers are more likely to be unemployed when the weather is bad during the winter

frictional unemployment

short-term unemployment when people are between jobs

structural unemployment

long-term unemployment that occurs when the skills and location of the unemployed workers do not match the jobs available

structural unemployment persists due to the occupational and geographical immobility of labour

cyclical unemployment

occurs when an economy goes into a recession and people cannot find work because aggregate demand is too low

real wage unemployment

unemployment that results when the wage rate in some labour markets is set above the equilibrium wage rate, for example, as a consequence of a legal minimum wage or a high wage that is the outcome of collective bargaining and trade union power

natural rate of unemployment

it is the rate of unemployment that exists when the labour market is in equilibrium

it includes frictional, structural and real wage unemployment

price level

the average price of all goods and services in an economy

inflation

occurs when the price level is rising

deflation

occurs when the price level is falling

disinflation

when an economy is experiencing inflation but the rate of inflation is falling, for example, when the rate of inflation falls from 5% to 3%

demand-pull inflation

when the rise in the price level is caused by increasing aggregate demand

cost-push inflation

when the rise in the price level is caused by increasing costs of production

short-run Phillips curve

a model of the economy that maintains there is an inverse relationship between unemployment and inflation

long-run (L-shaped or vertical) Phillips curve

a model of the economy that maintains that the inverse relationship between unemployment and inflation only exists in the short-run and that if the economy is at the natural rate of unemployment, the rate of inflation will be stable

the model also maintains that if unemployment is above the natural rate, the rate of inflation will fall and if unemployment is below the natural rate, inflation will accelerate

money

primarily a medium of exchange or means of payment, but also a store of value

money supply

the stock of money that exists in an economy at a point in time

narrow money

comprises those assets that are generally accepted as a medium of exchange

narrow money includes cash, commercial banks’ balances at the central bank and demand deposits in the banking system (eg current account deposits)

broad money

includes narrow money and some less liquid assets that can be converted easily into assets that are generally accepted as a medium of exchange, for example, deposits in savings accounts that have a notice of withdrawal

broad definitions of the money supply include narrow money and some assets that are money substitutes

financial markets

where economic agents borrow and lend money, and where they buy and sell financial assets such as shares, bonds, foreign currencies and commodities

money market

the market that provides funds to economic agents who require short-term finance

capital market

the market that provides medium-term and long-term finance for individuals, firms and governments

foreign exchange market

where currencies are bought and sold and their prices determined

debt

funds raised by borrowing

debt finance includes bonds and other types of loan

equity

funds provided by the owners of a business, for example, shares

shares

securities that represent the ownership of part of a business

shares pay dividends to the holders that depend on the amount of profit made by the business

shares are not usually redeemed (repaid) by the business.

bonds

securities that represent a loan to the government or organisation that issued the bonds

bonds pay interest to the holder and are usually redeemed at a specified date in the future

coupon

the interest paid on a bond, expressed as a percentage of the face value of the bond

yield

for an irredeemable bond, the yield is the coupon expressed as a percentage of the market price of the bond

it represents the rate of return a buyer will earn on the bond

maturity date

when the loan is due to be repaid

commercial bank

a commercial bank, also known as a high street bank, is a financial institution that accepts deposits, provides loans and a variety of other financial services to individuals and businesses

investment bank

a financial institution that helps businesses, and sometimes governments, carry out complex financial transactions such as issuing new shares or assisting with mergers

central bank

a financial institution that is responsible for monetary policy and maintaining a stable financial system

the central bank is often regarded as the government’s bank but is independent of the government in many countries

monetary policy

the use of interest rates, the supply of money and credit, and the exchange rate to influence the economy and help the government achieve its objectives

bank rate

the base rate of interest set by the Monetary Policy Committee of the Bank of England

it affects the rate of interest the Bank of England will charge when lending to other banks and thereby the level of interest rates in the UK economy

monetary policy transmission mechanism

ways in which monetary policy affects aggregate demand, economic activity, inflation and the other objectives of government macroeconomic policy

quantitative easing

when the central bank makes large-scale purchases of government and/or corporate bonds

quantitative tightening

when the central bank sells its holdings of government and/or corporate bonds

liquid assets

cash or other assets that can be converted into cash easily

liquidity ratio

a bank’s liquid assets as a proportion of its customer deposits and other short-term liabilities

capital ratio

a bank’s capital (share capital and retained profit) as a proportion of its assets, weighted according to their riskiness

it is a measure of a bank’s financial strength and ability to absorb losses

moral hazard

when an economic agent has an incentive to take more risks because they do not bear the full cost of the risks

systemic risk

the possibility that the failure of a large financial institution, or other large organisation, could have a very damaging effect on other financial institutions and/or the real economy

fiscal policy

the use of government spending and taxation to influence the economy and help the government achieve its economic policy objectives

budget balance

the difference between government expenditure and taxation

budget deficit

when government expenditure is greater than the revenue the government receives from taxation and other sources

budget surplus

how an economy’s factors of production are allocated between different uses, reflecting the types of goods and services produced

pattern of economic activity

how an economy’s factors of production are allocated between different uses, reflecting the types of goods and services produced

public expenditure

spending by central and local government on goods, services and debt interest

direct tax

a tax levied on income and wealth the burden of a direct tax cannot be passed on to someone else

indirect tax

a tax levied on spending

the burden of an indirect tax can be passed on to someone else, for example, by raising the price of the product on which the tax is levied

progressive tax

where the percentage of income paid in tax increases as income increases

the marginal rate of tax is higher than the average rate

proportional tax

where the percentage of income paid in tax is the same at all levels of income

the marginal rate of tax is the same as the average rate

regressive tax

where the percentage of income paid in tax falls as income increases

national debt

the accumulated total of past government borrowing

the total amount of money that the government owes at a point in time

cyclical budget deficit

a budget deficit that is caused by a fall in economic activity and the economy going into recession

cyclical budget surplus

a budget surplus that is caused by a rise in economic activity leading to higher tax revenues and a fall in government spending on welfare

structural budget balance

the underlying budget deficit or surplus after the effects of cyclical fluctuations in economic activity upon government spending and taxation have been removed

supply-side policies

policies introduced by the government to increase economic incentives, make markets work better and increase the productive capacity of the economy, shifting the long-run aggregate supply curve to the right