Gross Domestic Product is a measure of national income, output, and expenditure in a particular country(within the countries borders)
The production approach is the market value of all final goods and services
(O) output = (C) consumption + (I) investment
The main problem with using this method of
calculating GDP is that there is no 100% accurate
way to calculate what is truly produced and
services like babysitting have no way of being
The income approach measures the annual income of all individuals in a country
(Y) Income = (C) Consumption
+ (S) Saving
The problem with the income approach is that in this method
production is not included and there could be an increase in
production without an increase in wage
Measures all expenditure by individuals in one year
GDP = (C) consumption +
(I) investment + (G)
government expenditure +
((x) exports - (I) imports)
The problems with this method are,first, savings are not included in the equation – so savings accounts and stock investments are not
accounted for. Also, deeply discounted and even free services from government, business, and nonprofit organizations are included. This
presents a problem because the actual value of these services – not what is charged for them – is estimated. For this reason, the final
GDP number is likely to be inaccurate. Lastly, some services are counted based on their costs, but that value can be substantially
higher than is estimated or reported. For example, when a major infrastructure collapse happens, such as the result of 9/11 or the
tornadoes in Alabama, medical and building costs go up. This creates a temporary increase in infrastructure costs, which increases the
final GDP number. This skews the numbers by representing a spike – but not a growth curve that is sustainable.
GNP = GDP + Net property income from abroad. This net
income from abroad includes, dividends, interest and profit.
GNP includes the value of all goods and services produced by nationals whether
in the country or not.
GNI is the sum of value added by all resident
producers plus any product taxes (minus subsidies) not included in the
valuation of output plus net receipts of primary income (compensation of
employees and property income) from abroad
Inflation is the rate at which the general level of prices for goods and services is rising and, consequently, the purchasing power of currency is falling. Central banks attempt to limit inflation, and avoid deflation, in order to keep the economy running smoothly.
As a result of inflation, the purchasing power of a unit of currency
falls. For example, if the inflation rate is 2%, then a pack of gum that
costs $1 in a given year will cost $1.02 the next year. As goods and
services require more money to purchase, the implicit value of that
money falls. Monetarism theorizes that inflation is related to the
money supply of an economy.
While excessive inflation and hyperinflation have negative economic
consequences, deflation's negative consequences for the economy can be just
as bad or worse. Consequently, policy makers since the end of the 20th
century have attempted to keep inflation steady at 2% per year.
Deflation is a general decline in prices as a function of supply and demand for products, and the money used to buy them.
Causes of Inflation
1. Demand pull inflation: If the economy is at or close to full
employment then an increase in AD leads to an increase in
the price level. As firms reach full capacity, they respond by
putting up prices, leading to inflation. Also, near full
employment, workers can get higher wages which increases
their spending power.
AD can increase due to an increase in any of its components C+I+G+X-M
We tend to get demand pull inflation, if economic growth is above the long run trend rate of growth. The long run trend rate of economic growth is the average sustainable rate of growth and is determined by the growth in productivity.
2. Cost Push Inflation: If there is an increase in the costs
of firms, then firms will pass this on to consumers.
There will be a shift to the left in the AS.
Cost push inflation can be caused by many factors
1. Rising wages
If trades unions can present a common front then they can bargain for higher wages. Rising wages are a key cause of cost push inflation because wages are the most significant cost for many firms. (higher wages may also contribute to rising demand)
2. Import prices
One third of all goods are imported in the UK. If there is a devaluation then import prices will become more expensive leading to an increase in inflation. A devaluation / depreciation means the Pound is worth less, therefore we have to pay more to buy the same imported goods.
3. Raw Material Prices
The best example is the price of oil, if the oil price increase by 20% then this will have a significant impact on most goods in the economy and this will lead to cost push inflation. E.g. in early 2008, there was a spike in the price of oil to over $150 causing a temporary rise in inflation.
4. Profit Push Inflation
When firms push up prices to get higher rates of inflation. This is more likely to occur during strong economic growth.
5. Declining productivity
If firms become less productive and allow costs to rise, this invariably leads to higher prices.
6. Higher taxes
If the government put up taxes, such as VAT and Excise duty, this will lead to higher prices, and therefore CPI will increase. However, these tax rises are likely to be one-off increases.
3.Rising house prices: Rising house prices do not
directly cause inflation, but they can cause a
positive wealth effect and encourage consumer
led economic growth. This can indirectly cause
demand pull inflation
4.Printing more money: If the Central
Bank prints more money, you would
expect to see a rise in inflation. This is
because the money supply plays an
important role in determining prices. If
there is more money chasing the same
amount of goods, then prices will rise.
Hyperinflation is usually caused by an
extreme increase in the money supply
Employment and Unemployment
Categories of employment
The LFS uses four categories of employment in the UK, which are:
3.Unpaid family workers
4.Participants in government-funded training schemes
unemployed are those individuals of working age who are capable of work, and are actively looking for work, but who are not employed.
Costs of Unemployment
4.Opportunity cost: Unemployment represents an opportunity cost because there is
a loss of output that workers could have produced had they been employed. The
government also spends more on unemployment benefit; hence there is another
opportunity cost. The money going on unemployment benefit could be spent on
hospitals and schools.
3.Waste of resources: Resources not
employed are left idle, and this is a waste to
an economy – education and training costs
are wasted when individuals who have
received these benefits do not work.
2.Loss of revenue: The unemployed do not
pay income tax, and pay less indirect tax
as they spend less.
1.Erosion of human capital: Many skills are acquired at work, and being
unemployed means can mean fewer new skills are acquired, and existing skills
5.Lower incomes: The unemployed have lower personal incomes and lower standards of
living. In addition, the unemployed also experience relatively poor physical and mental health.
6.Externalities:There are further external
costs associated with unemployment, such
as increased crime, alcoholism and
Balance of Payments
Is the difference in total value between payments into and out of a country over a period.
The BOP figures tell us about how much
is being spent by consumers and firms
on imported goods and services, and how
successful firms have been in exporting
to other countries.
Inflows of foreign currency are counted as a
positive entry (e.g. exports sold overseas)
Outflows of foreign currency are
counted as a negative entry (e.g.
imported goods and services)
Types of Accounts
1. Current account
This is a record of all payments for trade in goods and services plus income flow it is divided into four parts:
1.Balance of trade in goods (visibles)
2.Balance of trade in services (invisibles) e.g. tourism, insurance
3.Net income flows (wages and investment income)
4.Net current transfers(e.g. govt aid)
2. Financial account
This is a record of all transactions for financial investment. It includes:
1.Net investment from abroad (e.g. A UK firm buying a factory in Japan would be a debit item)
2.Net financial flows – These are mainly short term monetary flows such as “hot money flows” to take advantage of exchange rate changes
3.Reserves(note the Financial Account used to be called the Capital Account)
3. Capital Account
This refers to the transfer of funds associated with buying fixed assets such as land
Factors affecting balance of payments
High rate of consumer
spending on imports (during
Decline in international
competitiveness making countries
exports less competitive
Overvalued exchange rates which makes
exports relatively more expensive
Levels of real national
income, spending, and
output. National income,
output, and spending are
three key variables that
indicate whether an
economy is growing, or in
recession. Like many other
indicators, income, output,
and spending can also be
measured in per capita (per
Growth in real national income.
Investment levels and the
relationship between capital
investment and national output.
Levels of savings
and savings ratios.
Price levels and inflation.
Competitiveness of exports.
Levels and types of unemployment.
Employment levels and patterns of employment.
The productivity of labour, which influences
other economic variables, including an
economy's competitiveness in international
Trade deficits and surpluses
with specific countries or the
rest of the world.
Debt levels with other countries.
The proportion of
debt to national
The terms of
trade of a
power of a
Wider measures of human
development, including literacy rates
and health care provision. Such
measures are included in the Human
Development Index (HDI).