economics AOS 2

cyclical unemployment

results from fluctuations in the business cycle, occurs when the economy is not operating at its full capacity due to a deficiency in aggregate demand

structural unemployment

where the skills of the unemployed do not match the skills required by the industry, resulting in unemployment. 

During a boom structural unemployment still exists unless it is accompanied by the economy

Examples include: long term unemployed, technology

inflation

an increase in the general price level over time

deflation

Inflation no longer exists as prices are falling. This can reduce consumption, as households may delay spending in anticipation of lower future prices. As a result, aggregate demand decreases, leading to a fall in production of goods and services. This reduces the derived demand for labour, increasing unemployment.

disinflation

inflation does exist but pricing are growing at a slower rate, fall in the rate of inflation. 4% in year 1, 2% in year 2 (prices on average are still rising over a period. Just not rising as rapidly as the previous year)

exchange rates

The value of the Australian dollar compared to another currency ($US dollar)

interest rates

are the cost of borrowing money, and increased the discretionary income and cash flow of consumers and businesses with variable interest loans.

consumer confidence

relates to the consumer's general expectation about future economic prosperity.

headline inflation

the rate of inflation as captured by movements in the prices of goods and services measured by CPI what the goal is based off

underlying inflation

The underlying inflation rate uses the headline inflation rate, however it excludes items from the CPI whose prices are generally volatile, exhibit seasonal patterns, or are one-off factors, which is more accurate measure, removing outliers.

Participation rate -

percentage of the total working age population that are members of the labour force

Calculated by labour force ÷ population 15+ × 100 → (IDEAL 66–68%)

High unemployment = low participation rate, as this discourages job seekers from continuing their job search as the labour market is loosening and the chances of ginning employment is narrow. Once you stop looking for a job, the participation rate falls as no longer in the work force.

The meaning and goal of inflation:

The meaning and goal of inflation: RBA's objective is to keep the consumer price index between 2-3% on average, over time

A low sustained rate of increase in the general price level that is small enough to preserve purchasing power and avoid significant economic distortions.

A stable rate of inflation that is predictable and does not fluctuate significantly over time, allowing for consistent economic decision-making.

full employment is defined

as the maximum sustainable and inclusive rate of reduction in unemployment by lifting the pace at which economic growth can be maintained without running into inflationary external pressures.

AD on inflation

An increase in AD leads to more pressure on the capacity of the Australian economy, leading to shortages (Demand > Supply) and an increase in prices, which accelerates inflation, which has increased from 3.2% in September 2025 to 3.8% in December 2025.

AD on economic growth

An increase in AD sends signals to the supplier to increase production levels, leading to an increase in economic growth, which has resulted in a real GDP increase from 2.1% in September 2025 to 2.6% in December 2025

AD on unemployment

Firms require more quantity in the production process to satisfy the increased demand, which leads to an increase in derived demand for labour and an increase in jobs or a decrease in unemployment rate. The unemployment rate has decreased from 4.2% in December 2025 to 4.1% in January 2026.

what is economic activity

Any activity of individuals, firms or governments that generates production, income, employment and expenditure

circular flow model definition

The flows of production, income and consumption occur as a result of transactions between the business and household sectors.

FLOW 1:

The household sector provides resources to the business sector

FLOW 2:

In return, the business sector provides the household sector with income

FLOW 3:

Income is consumed via the purchase of goods and services, or is diverted through the financial, government and external sectors → AD (same amount as flow 4 - total demand is equal to total production)

FLOW 4:

determines the total value of production in the economy of real GDP

aggregate demand

Total amount of expenditure on all goods and services produced in Australia over a given period (spending money on goods and services)

GDP

the total market value of all final goods and services produced within a country in a given period of time

Sustained full employment involves

maintaining employment levels close to this maximum over time, with minimal volatility across the economic cycle, and consistent with low and stable inflation.

Inclusive full employment refers to

broadening access to employment opportunities by reducing barriers to work, such as skills mismatches or discrimination, and lowering structural underutilisation to ensure more groups in society can participate in the labour market.

If unemployment is too high

1. Loss of GDP

The economy will experience a loss of real GDP, as labour resources are underutilised, leading to lower incomes for individuals. This reduces their ability to spend on goods and services. 

This weakens aggregate demand and can further slow economic growth. As a result, both material (through lower income and consumption) and non-material living standards (such as increased stress and reduced well-being) are negatively affected.

2. Loss of Tax Revenue

Higher unemployment rates → lower income tax revenue for the government to spend on provided goods and services that support Australian living standards (such as infrastructure and health), but also spend more on welfare or income support. 

If unemployment is too low 

If unemployment is too low, the economy may experience excessive economic growth, leading to upward pressure on wages as increased competition for workers. This raises labour costs for businesses, increasing costs of production and contributing to cost-push inflation.

With higher incomes, this increase aggregate demand, creating demand inflation as spending exceeds the economy’s productive capacity

economic growth is too high

Environmental degradation refers to the damage to the natural environment that occurs as a result of increased economic activity. 

• Australia is a large exporter of coal, creating growth for Australia. However the production of coat release large quantities of carbon dioxide into the environment contributing to climate change. 

• Result in extreme weather conditions disrupting Australias agricultural industries, reducing production and creating shortages in certain markets. 

• Results in the depletion of natural resources which reduce inter-temporal efficiency which reduces our material living standards in the future, 

High inflation

As aggregate demand increases, demand may exceed the economy’s productive capacity, resulting in shortages. This creates upward pressure on prices as firms are unable to increase output in the short run, leading to higher inflationl inflation.

External pressures

Economic growth can put pressure on our economic relationships with the rest of the world because when the Australian economy grows too strongly, it increase our demand for imports overseas, leading to an unsustainable rate of income leaving Australia, which increase current account deficit.

economic growth is too low

Reduces the rate of growth in incomes earned across the economy. This is likely to be compounded by a reduction in the demand for labour leading to rising unemployment, which further decreases GDP per capita. In times of negative economic growth firms will lay off workers to reduce costs which decreases both material and non material living standards

Consequences not achieving the goal of low and stable inflation and its effect on living standards

Erosion of purchasing power

When inflation rises at a faster rate than income, households will be able to afford fewer goods and services with the same income, resulting in a decrease in material living standards

Loss of international competitiveness if too high

If the inflation rate is greater than the overseas inflation rate makes our exports less internationally competitive

Fewer exports sold, decrease in AD, decrease in production, increase in unemployment, less access to goods and services, decrease in material living standards. 

However, inflation in our trading partners was higher than in Australia during 2023, which meant that our international competitiveness actually rose over the period. 

Delayed consumption and unemployment if too low - 0.19% year

Delays consumer spending, with the expectation that they will be able to purchase the same goods and services at a lower or similar price in the future. 

Decrease in consumption and investment, decrease in AD, and rising unemployment

Slow rates of economic growth - less derived demand for labour

Decrease in material living standards

demand inflation

Demand inflation refers to a sustained increase in the general price level caused by excessive aggregate demand in the economy that exceeds the economy’s productive capacity, leading to shortages of goods and services.

cost inflation

Cost-push inflation refers to a increase in the general price level caused by rising costs of production for businesses, which reduces aggregate supply in the economy.

business cycle two mark definition

The business cycle refers to the cyclical fluctuations in the level of economic activity, measured by real GDP, over time. characterised by periods of expansion or booms, where economic growth and output are above trend, and periods of contraction or recession, where growth slows or becomes negative, leading to below-average levels of output.

business cycle one mark definition

The business cycle refers to the cyclical fluctuations in the level of economic activity (or real GDP) over time, resulting in a recurring pattern of peaks (booms) and troughs (recessions).

The goal strong and sustainable growth rate is to

achieve the highest rate of growth in real GDP which is consistent with employment growth, but without running into excessive inflationary, external or environmental pressures. A strong and sustainable growth rate is generally considered to be within the range of 3-3.5% per annum

economic growth is strong

Growth must be strong enough to create ongoing employment and incomes for australians such that our material living standards increase over time

economic growth is sustainable

that it does not cause problems for inflations, the external sector and environmental damage.

Outline two reasons why the Australian government pursues economic growth?

• Reduce the unemployment rate. Economic growth characterised by increased volumes of production, is likely to result in a heighted derived demand for labour, as businesses seek to facilitate this growth by employing more people. This, subsequently, will serve to reduce the unemployment in the economy. 

• An increase in incomes, on average throughout the economy. As the derived demand for labour increases, and more people attain employment and a source of income, average household incomes will increase, meaning purchasing power throughout the economy should rise, INCREASE TAX REVENUE, greater government expenditure 

• Both of these reasons serve to boost overall living standards of Australians.