2.3- economic performance

what is short run growth

the percentage increase in a country’s real GDP and it is usually measured annually. It is caused by increases in AD.

what is long run growth

occurs when the productive capacity of the economy is increasing and there is growth of real national output in an economy over time. It is caused by increases in AS.

what is the potential output of an economy

what the economy could produce if resources were fully employed

what is an output gap

occurs when there is a difference between the actual level of output and the potential level of output. It is measured as a percentage of national output

what is a negative output gap

occurs when the actual level of output is less than the potential level of output.

what is the effects of a negative output gap

• downward pressure on inflation

• usually, there is the unemployment of resources in an economy

• labour and capital are not used to their full potential

• there is spare capacity in the economy

what is a positive output gap

occurs when the actual level of output is greater than the potential level of output

when does a positive output gap occur

• due to resources being used beyond the normal capacity, e.g. labour working overtime.

• increased productivity which puts upwards pressure on inflation

what are characteristics of a boom

• High rates of economic growth

• Near full capacity or positive output gaps

• (Near) full employment

• Demand-pull inflation

• increased consumer and firm confidence, which leads to high rates of investment

• Government budgets improve, due to higher tax revenues and less spending on welfare payments

what are characteristics of a recession

• Negative economic growth

• Lots of spare capacity and negative output gaps

• Demand-deficient unemployment

• Low inflation rates

• Government budgets worsen due to more spending on welfare payments and lower tax revenues

• Less confidence amongst consumers and firms, which leads to less spending and investment

what is a recession

negative economic growth over two consecutive quarters

what are the two measures of unemployment

the claimant count and UK labour force survey

what is the claimant count

This counts the number of people claiming unemployment related benefits, such as Job Seeker’s Allowance (JSA) and have to prove they are actively looking for work

evaluation of claimant count

• not every unemployed person is eligible

• those with partners on high income are not eligible

what is the LFS

• directly asks people if they meet criteria:

• Been out of work for 4 weeks

• Able and willing to start working within 2 weeks

• Workers should be available for 1 hour per week. Part time unemployment is included.

how does unemployment affect consumers

• they have less disposable income

• their standard of living may fall

• psychological consequences of losing a job, which could affect the mental health of workers.

how does unemployment affect firms

• firms have a larger supply of labour to employ from.

• causes wages to fall, which would help firms reduce their costs.

• However since consumers have less disposable income, consumer spending falls so firms may lose profits.

• Producers selling inferior goods might see a rise in sales.

• costs firms to retrain workers, especially if they have been out of work for a long time.

how does unemployment affect the government

• the government may have to spend more on JSA, which requires an opportunity cost

• The government would receive less revenue from income tax, and from indirect taxes on expenditure, since the unemployed have less disposable income to spend

how does unemployment affect society

• There is an opportunity cost to society, since workers could have produced goods and services if they were employed.

• There could be negative externalities in the form of crime and vandalism, if the unemployment rate increases.

what is structural unemployment

occurs with a long term decline in demand for the goods and services in an industry, which costs jobs

what worsens structural unemployment

• geographical and occupational immobility of labour.

• workers that do not have the transferable skills to move to another industry,

• Cannot move somewhere jobs are available,

• those facing structural unemployment are likely to remain unemployed in the long run

what is frictional unemployment

e time between leaving a job and looking for another job, only temporary

what is seasonal unemployment

occurs during certain points in the year, usually around summer and winter

what is cyclical unemployment

caused by a lack of demand for goods and services, and it usually occurs during periods of economic decline or recessions. AD goes down

what happens during cyclical unemployment

Firms are either forced to close or make workers redundant, because their profits are falling due to decreased consumer spending, and they need to reduce their costs

what causes cyclical unemployment

increases in productivity, which means each worker can produce a higher output, and therefore fewer workers are needed to produce the same quantity of goods and services

how has globalisation contributed to unemployment

• contributes to structural unemployment

• as production can move abroad with lower labour costs

• means that workers trained for these jobs will become unemployed

how does migration affect employment

• as migrants are usually of working age, supply of labour increases with migration

• could be more competition to get a job due to rise in the size of the working population

• migrants bring high quality skills to workforce, increasing productivity and skillset

• could increase global competition

what is inflation

• the sustained rise in the general price level over time.

• means that the cost of living increases and the purchasing power of money decreases

what is deflation

the opposite, where the average price level in the economy falls. There is a negative inflation rate

what is disinflation

the falling rate of inflation. This is when the average price level is still rising, but to a slower extent

what does disinflation result in

• goods and services are relatively cheaper now than a year ago

• the purchasing power of money has increased

causes of inflation

• demand-pull

• cost-push

what is demand pull inflation

• from the demand side of the economy.

• AD is growing unsustainably, there is pressure on resources

• Producers increase their prices and earn more profits

• usually occurs when resources are fully employed

what are the triggers for demand pull inflation

• depreciation in the exchange rate

• fiscal stimulus e.g lower taxes or more gov, spending

• lower interest rates

• high growth in UK exports

how does depreciation of exchange rate affect demand pull inflation

• imports becomes more expensive

• exports become cheaper

• AD rises

how does fiscal stimulus affect demand pull inflation

• consumers have more disposable income

• consumer psending increases

  • AD rises

what is cost push inflation

This is from the supply side of the economy, and occurs when firms face rising costs

when does cost push inflation occur

• changes in world commodity prices

• more expensive labour

• inflation

• indirect taxes

• depreciation in currency

• monopolies

what does changes in world commodity prices result in

• affects domestic inflation

• raw materials may become more expensive

• increases costs of production

how do indirect taxes affect cost pushinflation

• increases costs of goods

• producers could choose to pass cost on to consumers

how do monopolies affect cost push inflation

can use their dominant market position to exploit consumers with high prices

what are the effects of inflation on consumers

• those on low and fixed income may be hit hardest due to regressive effect

• purchasing power of money falls

• if consumers have loans, value of repayment will be lower

• value of real debt increases

what are the effects of inflation on firms

• high inflation, interest rates are likely to be higher, so the cost of investing will be higher and firms are less likely to invest

• workers might demand higher wages, increasing production costs

• firms may be less price competitive on a global scale

• reduced business confidence

how does cost push inflation affect the gov.

the gov. will have to increase the value of the state pension and welfare payments, because cost of living is increasing

how does cost push inflation affect workers

• Real incomes fall with inflation, so workers will have less disposable income

• If firms face higher costs, there could be more redundancies when firms try and cut their costs

what is balance of payments

record of all financial transactions made between consumers, firms and the government from one country with other countries

what are exports

goods and services sold to foreign countries, and are positive in the balance of payments. This is because they are an inflow of money

what are imports

goods and services bought from foreign countries, and they are negative on the balance of payments. They are an outflow of money

what is the balance of payments made up

• the current account

• the capital account

• official financing account

what is the current account on the balance of payments

the balance of trade in goods and services

what is a current account surplus

there is a net inflow of money into the circular flow of income

what is in surplus in the uk

surplus of services

what is the UK’s current account status

has a current account deficit

what factors influence current account balance

• more exports than imports- improves rate of economic growth

• economic recessions

• periods of economic growth

• high costs of imported raw materials

• appreciated pound

• better productivity

what has international trade created

more interdependence, economic conditions in one country affect another

what are possible conflicts between macroeconomic objective

• economic growth vs inflation

• economic growth vs the current account

• economic growth vs gov. budget deficit

• unemployment vs inflation

how does economic growth and inflation conflict

• A growing economy is likely to experience inflationary pressures on the average price level.

• This is especially true when there is a positive output gap and AD increases faster than AS

how does economic growth and the current account conflict

• During periods of economic growth, consumers have high levels of spending.

• In the UK, consumers have a high marginal propensity to import, so there is likely to be more spending on imports.

• This leads to a worsening of the current account deficit

how does economic growth and the gov. budget deficit conflict

• Reducing a budget deficit requires less expenditure and more tax revenue.

• This would lead to a fall in AD

• as a result there will be less economic growth

how does unemployment and inflation conflict

• In the short run, there is a trade-off between the level of unemployment and the inflation rate.

• This is illustrated with a Phillips curve

• As economic growth increases, unemployment falls due to more jobs being created.

• this causes wages to increase, leads to more consumer spending and an increase in the average price level

• The extent of this trade off can be limited if supply side policies are used to reduce structural unemployment, which will not increase average wages