Economics Theme 2 Key Definitions

Aggregate Demand

Total amount of expenditure on goods and services in an economy. AD = C + I + G + (X-M)

Consumption

Total expenditure by households on goods and services over a period of time

Disposable Income

Household income over a period of time (including state benefits) once tax has been deducted

Marginal Propensity to Consume

The proportion of a change in income which is spent on consumption. It is calculated by ΔC ÷ ΔY

Wealth Effect

The change in consumption following a change in wealth

Investment

Addition to the capital stock of the economy

Government Expenditure

Total expenditure by government on goods and services

Exports

Domestic goods and services sold to foreign agents

Imports

Foreign goods and services bought by domestic agents

Aggregate supply

Total amount of supply of goods and services in an economy

Full Capacity

The level of output where no extra production can take in the long run with existing resources. The full capacity level of output for an economy is shown by the classical long run aggregate supply curve.

Spare Capacity

An economy has spare capacity when some resources are unemployed.

Circular Flow of Income

A model of the economy which shows the flow of goods, services, and factors and their payments around the economy (households sell their labour to firms for an income and then use this income to buy goods and services produced by firms)

Injections

Money which is coming into the economy (investment

Withdrawals/leakages

Spending by households which does not flow back to domestic firms, includes savings, taxes and imports

National income

The value of the output, expenditure or income of an economy over a period of time

Multiplier Effect

Any AD fluctuations are amplified by the multiplier through knock on AD effects. An initial change in AD has a larger final impact on real GDP due to the multiplier. Multiplier = 1 /( 1 – MPC) OR 1 / MPW

Marginal Propensity to Save (MPS)

The proportion of a change in income which is saved. It is calculated by ΔS ÷ ΔY

Marginal Propensity to Import (MPM)

The proportion of a change in income which is spent on imports. It is calculated by ΔM ÷ ΔY

Marginal Propensity to Tax (MPT)

The proportion of a change in income which is taxed. It is calculated by ΔT ÷ ΔY

Marginal Propensity to Withdraw (MPW)

The proportion of a change in income which is withdrawn. It is calculated by ΔW ÷ ΔY – same as (MPS + MPT + MPM)

Gross Domestic Product (GDP)

A measure of the output or value added of an economy which does not include output or income from investments abroad. (measures the monetary value of output produced by an economy during a given time period)

Gross National Income (GNI)

The value of goods and services produced by a country over a period of time (GDP) plus net overseas interest payments and dividends (factor incomes)

Purchasing Power Parities

An exchange rate of one currency for another which compares how much a typical basket of goods in one country costs compared to that of another country

Standard of living

How well off an individual, household or economy, measured by a complex mix of variables such as income, health, the environment, participation in society and political freedoms

Economic Growth

A percentage change in real GDP over a given time period

Business Cycle

Fluctuation of real GDP around the long-term trend growth rate. A pattern of booms and recession in an economy over a period of time

Recession

When growth is negative for two consecutive quarters

Actual Growth

Growth in real GDP

Potential Growth

Economic growth as measured by the changes in the productive potential of the economy over time

Output Gap

The difference between the actual level of GDP and the productive potential of the economy.

Export-led growth

A rise in aggregate demand caused by a rise in exports

Real

Adjusted for inflation

Inflation

A general rise in prices over a given time period

Cost-Push Inflation

Inflation caused by increases in the costs of production in the economy

Demand-Pull Inflation

Inflation which is caused by excess demand in the economy

Hyper Inflation

Large increases in the price level

Deflation

A fall in the price level

Consumer Price Index (CPI)

A measure of the price level used across the European Union and used by the Bank of England to measure inflation against its target

Retail Price Index (RPI)

A measure of the price level which has been calculated in the UK for over 60 years and is used in a variety of context such as by the government to index welfare benefits

Unemployment

Amount of people willing and able to work at the market wage but without a job

Frictional Unemployment

When workers are unemployed for short lengths of time between jobs

Structural Unemployment

When the pattern of demand and production changes leaving workers unemployed in labour markets where demand has shrunk.

Seasonal Unemployment

When workers are unemployed during the off-season

Cyclical or Demand Deficient Unemployment

When there is insufficient demand in the economy for all workers who wish to work at current wage rates to obtain a job

Employment Rate

The number of those in work divided by the population of working age expressed as a percentage

Underemployed

Those who are willing to work more hours if available or those in jobs which are below their skill level

Claimant Count

A measure of unemployment, any claiming unemployment benefit (JSA) is defined as unemployed

ILO Unemployment

A measure of unemployment. The ONS carry out the Labour Force Survey – a survey of 60,000 working age people are interviewed 4 times per year by phone. A person is defined as unemployed is they have been looking for work in the last four weeks and if they are ready to work within the next two weeks

Balance of payments

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

Current Account

That part of the balance of payments account where payments for the purchase and sale of goods and services are recorded

Current Account Deficit

When value of imports > value of exports

Current Account Surplus

When value of exports > value of imports

Monetary Policy

The manipulation by government of monetary variables, such as interest rates and the money supply, to achieve its objectives 

Quantitative Easing

A monetary policy instrument where the central bank buys financial assets in exchange for money in order to increase borrowing and lending in the economy.

Rate of Interest

The price of money, determined by the demand and supply of funds in a money market where there are borrowers and lenders. Interest = cost for borrowing and reward for saving. 

Contractionary Monetary Policy

Tight monetary policy which leads to a fall in aggregate demand

Expansionary Monetary Policy

Loose monetary policy which leads to a rise in aggregate demand

Fiscal Policy

The use of taxes, government spending and government borrowing by government to achieve its objectives  

Contractionary Fiscal Policy

Fiscal policy which leads to a fall in aggregate demand

Expansionary Fiscal Policy

Fiscal policy which leads to an increase in aggregate demand

Indirect Tax

A tax levied on goods or services such as value added tax or excise duties

Direct Tax

A tax levied directly on individuals or companies such as income tax or corporation tax

Macroeconomic Objectives

The government’s main macroeconomic objectives are ; high economic growth, low unemployment, low and stable inflation and a current account surplus/low deficit 

Supply Side Policies

Government policies designed to increase the productive potential of the economy and push the long run aggregate supply curve to the right

Deregulation

The process of removing government controls from markets

Privatisation

The sale of government organisations or assets to the private sector

Minimum Wage

The least amount an employer can pay one of its workers, usually expressed as an hourly wage rate e.g. UK = £10.50