Economics Macroeconomics

circular flow of income model

GDP equation

C + I + G + (X - M)

GNI equation

GDP + (income from abroad - income sent abroad)

GDP deflator equation

nominal GDP / real GDP x 100

nominal value

measured in terms of current prices at a set year

real value

measured through changes in prices

business cycle diagram

aggregate demand (AD) diagram

changes in consumer confidence

high consumer optimism = shift right

low consumer optimism = shift left

changes in interest rates (consumer spending)

increase in interest rates = shift left

decrease in interest rates = shift right

changes in wealth

increase in consumer wealth = shift right

decrease in consumer wealth = shift left

changes in personal income taxes

increase in personal income taxes = shift left

decrease in personal income taxes = shift right

changes in the level of household indebtedness

high level of debt = shift left

low level of debt = shift right

changes in business confidence

high optimism = shift right

low optimism = shift left

changes in interest rates (investment spending)

increase in interest rates = shift left

decrease in interest rates = shift right

improvements in technology

shift right

changes in business taxes (AD)

increase in business taxes = shift left

decrease in business taxes = shift right

changes in level of corporate indebtedness

high level of debt = shift left

low level of debt = shift right

legal/institutional changes

increasing legal rights to ownership = shift right

changes in political priorities

increase in government spending = shift right

decrease in government spending = shift left

changes in economic priorities

increase economic growth = shift right

decrease economic growth = shift left

changes in national income abroad

country A's national income increases = country B shifts right

country A’s national income decreases = country B shifts right

changes in exchange rates

country A's exchange rates appreciate = country A shifts left

country A’s exchange rates depreciate = country A shifts right

changes in level of trade protection

country A has free trade, but country B imposes import restrictions from country A = country A shifts left, country B shifts right

aggregate supply (SRAS) diagram

changes in wages

increase in wages = shift left

decrease in wages = shift right

changes in non-labour resource costs of production

increase in resource costs = shift left

decrease in resource costs = shift right

changes in business taxes (AS)

increase in business taxes = shift left

decrease in business taxes = shift right

changes in subsidies offered to businesses

increase in subsidies = shift right

decrease in subsidies = shift left

supply shocks

positive supply shock = shift right

negative supply shock = shift left

inflationary gap (new classical model)

Ye > Yp

deflationary/recessionary gap (new classical model)

Yp > Ye

creating and eliminating a deflationary gap diagram

creating and eliminating an inflationary gap diagram

inflationary gap (Keynesian model)

rightward shift

deflationary/recessionary gap (Keynesian model)

leftward shift

determinants of LRAS (all shift right)

- increase in quantity of factors of production

- improvement in quality of factors of production

- improvement in technology

- increase in efficiency

- better institutions

- reductions in natural rate of unemployment

unemployment

people of working age who are actively looking for a job but who are not employed

underemployment

people of working age with part-time jobs who would rather work full time, or with jobs that do not make full use of their skills and education

labour force

people of working age who want to work, whether employed or unemployed

unemployment rate equation

number of employed / labour force x 100

underemployment rate equation

number of underemployed / labour force x 100

economic costs of unemployment

- loss of real GDP

- loss of income for unemployed workers

- loss of tax revenue for the government

- costs to the government of unemployed benefits

- costs to the government of dealing with social problems resulting from unemployment

- more unequal distribution of income

- unemployed people may have difficulties find work in the future

personal costs of unemployment

being unemployed and unable to secure a job involves a loss of income, increased indebtedness as people must borrow to survive, and loss of self-esteem

social costs of unemployment

high rates of unemployment can lead to increased crime and violence, drug use and homelessness

structural unemployment

occurs as a result of changes in demand for particular types of labour skills, changes in geographical location of industries and jobs, and labour market rigidities

mismatches between labour demand and labour supply diagram (falling demand for labour)

minimum wage legislation and labour union activities lead to higher than equilibrium wages and lower quantity of labour demanded

labour market rigidities lead to an increase in costs of production causing a fall in Q produced; employers hire fewer workers

frictional unemployment

occurs when workers are between jobs (short-term)

seasonal unemployment

occurs when demand for labour in certain industries change on a seasonal basis because of variations in needs

natural rate of unemployment (solutions in AS)

made up of structural, frictional, and seasonal unemployment

cyclical unemployment/demand-deficient unemployment (solutions in AD)

occurs during the downturns of the business cycle, when economy is in a recessionary gap

inflation

sustained increase in the general price level

deflation

sustained decrease in the general price level

disinflation

decrease in rate of inflation

consumer price index (CPI)

measure of cost of living for the typical household and compares the value of a basket of goods and services in one year with the value of the same basket in a base year

CPI equation

value of basket in specific year / value of same basket in base year x 100 (1dp)

% change in CPI equation

(final value of CPI - initial value of CPI) / initial value of CPI x 100

positive = inflation, negative = deflation

problems with CPI

• different rates of inflation for different income earners

• different rates of inflation depending on regional or cultural factors

• changes in consumption patterns due to consumer substitutions when relative price changes

• changes in consumption patterns due to increasing use of discount stores and sales

• changes in consumption patterns due to introduction of new products

• changes in product quality

• international comparisons

demand-pull inflation

caused by increase in AD

cost-push inflation

caused by increase in SRAS

appropriate rate of inflation

2-3%

phillips curve diagram (SRPC)

relationship between unemployment rate and rate of inflation

LRPC diagram

stagflation

high unemployment rate and high rate of inflation (rightward shift of SRPC)

decrease in SRAS on phillips curve:

increase in SRPC (shifts up)

production possibilities curve (PPC) diagrams

shows possible combinations of maximum output that can be produced by an economy

capital

resources that can produce a future stream of benefits

equity

condition of being fair or just

equality

state of being equal with respect to something

income inequality arises from...

differences in how evenly income is distributed in a population

wealth inequality arises from...

differences in the amount of wealth people own

quintiles, deciles, quartiles (%)

20%, 10%, 25%

Lorenz curve

shows the degree of income inequality in an economy

Gini coefficient equation

area between diagonal and lorenz curve / entire area under diagonal x 100

Income equality based on Gini coefficient

closer to 0 = greater income equality

closer to 1 = greater income inequality

perfect income equality = 0

poverty

inability to satisfy minimal consumption needs

Absolute Poverty

minimum income level called poverty line which is less than $1.90 per day

Relative Poverty

compares the income of individuals or households in a society with median incomes

single indicators

minimum income standards (basket of goods needed to achieve minimum standard) and poverty line (income level considered minimally sufficient to sustain a family)

multidimensional

multidimensional poverty standards (health, education, living standards)

difficulties measuring poverty

over or under estimation may be dependent of government policy and budget restrictions

causes of poverty

unemployment, poor education/skills, poor health, wage differentials, born into poverty, tax cuts for well off, subsistence agriculture

15 mark question structure

1. introduction with definitions and argument

2. diagrams

3. explanation

4. real-world examples

5. evaluation using CLASPP (conclusions, long-term vs short-term, assumptions, stakeholders, priorities, pros and cons)

role of direct taxes in promoting equity

paid directly to the government tax authorities by the taxpayer (personal income taxes, corporate income taxes, wealth taxes, social insurance)

role of indirect taxes in promoting equity

paid indirectly through the suppliers of the good or service purchased (general expenditure taxes or sale taxes, excise taxes, customs duties)

proportional taxation

as income increases, the fraction of income paid as taxes remains constant (constant tax rate)

progressive taxation

as income increases, the fraction of income paid as taxes increases (increasing tax rate)

regressive taxation

as income increases, the fraction of income paid as taxes decreases (decreasing tax rate)

types of taxes

corporate income taxes (proportional), personal income taxes (progressive), indirect taxes (regressive)

average tax rate

tax paid divided by total income, expressed as a percentage

marginal tax rate

tax rate paid on additional income (layers of income are tax brackets and corresponding tax rates are marginal tax rates)

marginal tax rate equation

total marginal tax / average tax rate x 10

policies to reduce inequality of opportunity

access to high quality education and healthcare

transfer payments

payments made by the government to individuals specifically for the purpose of redistributing income away from certain groups and towards other groups (old age pensions, disability pensions, unemployment benefits, war veterans benefits, maternity benefits, child allowances, housing benefits, student grants)

government must ensure health and education are affordable for very low income groups accomplished by:

free or nearly free of charge services (subsidised provision), governments providing subsidies to private providers to increase supply

government intervention in markets

minimum wage legislation, food price ceiling, price floors for farmers

demand-side policies

focus on shifting AD, based on idea that short-term fluctuations in real GDP of the business cycle are due to actions of firms and consumers affecting AD, causing inflationary or deflationary gaps (brings AD to full employment level of real GDP)

expansionary policy diagram (both monetary and fiscal)

recessionary gap (increase in government spending, decrease in personal income taxes and business taxes)