Theme 2 Recap and Extension

Question 1

at what stage of the economic cycle does the multiplier tend to have a higher value and why

Answer 1

recession- injection has a greater effect due to lower inflationary pressure

Question 2

what trigger firms to invest

Answer 2

• a rise in consumer spending
• firms want to match their output with rising demand

Question 3

what does the accelerator affect state

Answer 3

the level of investment depends on the rate of change of national income, not the level of national income

Question 4

for what two purposes do firms invest

Answer 4

• replace/maintain old machinery
• buy new machines to increase productive capacity

Question 5

describe the interaction between the multiplier and the accelerator

Answer 5

• as the multiplier effect begins to increase, firms will be incentivised to invest, and they will gain confidence from increased consumption

Question 6

what are the limitations of the accelerator theory

Answer 6

• time lags in investment
• firms won’t respond to every minor change in demand
• confidence
• existing capacity

Question 7

what determines an economy’s productivity of investment

Answer 7

the capital:output ratio

Question 8

what is the capital output ratio

Answer 8

1/marginal product of capital
the amount of capital needed to increase output

Question 9

according to the Harrod-Domar model of growth, what is the formula for rate of economic growth

Answer 9

level of savings/capital:output ratio

Question 10

what is the level of savings

Answer 10

the ratio of national savings to national income

Question 11

what does a high capital output ratio indicate

Answer 11

investment is inefficient

Question 12

summarise the Harrod-Domar model of growth

Answer 12

in order to achieve long-run growth, an economy must experience high savings, leading to higher investment into quality of capital

Question 13

define stagflation

Answer 13

persistent high inflation combined with high unemployment and stagnant demand in a country’s economy

Question 14

what can be used to evaluate the short run phillips curve

Answer 14

non accelerating inflation rate of unemployment (NAIRU)

Question 15

define the NAIRU

Answer 15

the unemployment level at which inflation is constant and not rising

Question 16

which school of thought supports the NAIRU

Answer 16

classical

Question 17

explain how the classical economists would evaluate the short run phillips curve

Answer 17

• unemployment falls, wage costs rise
• firms pass on higher prices in short term
• workers realise inflation is higher and negotiate for higher pay
• firms then lay off workers to cope with costs
• unemployment then rises, back to equilibrium, but with higher inflation

Question 18

define the capital account

Answer 18

ownership of fixed assets abroad (relatively small)

Question 19

define financial account

Answer 19

records money borrowed from foreign countries

Question 20

what are the two kinds of macro causes of a current account deficit

Answer 20

• cyclical causes
• structural causes

Question 21

what are cyclical causes of a current account deficit

Answer 21

changes in the current account caused by changes in the economic cycle. mainly short term

Question 22

what are structural causes of a current account deficit

Answer 22

changes in the current account caused by supply-side factors. mainly long-term

Question 23

give some examples of cyclical causes of a current account deficit

Answer 23

• economic boom
• stronger exchange rate
• boom in consumer spending

Question 24

give some examples of structural causes of a current account deficit

Answer 24

• low productivity
• deindustrialisation
• low rates of capital investment

Question 25

What is the basic principle for Thirlwalls law

Answer 25

- Whether a growing economy will experience a current account deficit depends on the YED for imports - when demand for imports is income elastic, growth must be lower or else there will be a deficit

Question 26

What can thirlwalls law be used to evaluate

Answer 26

Whether or not economic growth causes a current account deficit

Question 27

define the export multiplier effect

Answer 27

a fall in exports will reduce AD and the final impact on real GDP, jobs and investment is amplified by multiplier and accelerator effects

Question 28

what are the three kinds of policies to reduce a current account trade deficit

Answer 28

- expenditure reducing policies (control demand and spending) - expenditure switching policies (shifting spending away from imports and towards domestic market) - supply-side policies (boosting competitiveness of domestic industry)

Question 29

give examples of policies that could be used to reduce a trade deficit

Answer 29

- tariff on imports (ESP) - quota on imports (ESP) - export subsidy (ESP) - raise income tax (ERP) - raise interest rates (ERP) - cut interest rates (hot money flows) (ESP)

Question 30

give some causes of a current account surplus

Answer 30

- a strong competitive advantage in a range of industries and markets - high savings ratio - high world prices for exports of commodities