F585The Global Economy

F585 – global economy

Theme 1 : UK economy

Real GDP

• Definition – this is the figure that shows the total output within an economy that has been adjusted to allow for the effect of inflation

• (Real – figures that are changed to remove the effect of inflation)

Growth in Real GDP

Inflation

• Definition – a general increase in prices

Inflation

• http://www.bankofengland.co.uk/publications/inflationreport/mktcpinov09large.gif

Unemployment

• Definition – a situation where people are unable to find jobs but are willing and able to work

Unemployment

Balance of Payments

• Definition – this is a record of the trade in imports and exports in an economy

Balance of Payments

http://www.statistics.gov.uk/cci/nugget.asp?ID=194

Short Run

• The period of time during which the quantity of at least 1 factor of production is fixed and the others are variable.

• E.g. it is easy to change the level of labour relatively quickly although in the same period of time you cannot suddenly build a new warehouse (capital)

Long Run

• The period of time during which the quantity of all factors of production are variable.

• Its is possible to build new factories, implement new production lines and other large scale projects.

Short Run Economic Growth( actual growth)

• This is the annual percentage increase in the output of the economy.

• You may see GDP growth rates being mentioned in the press, they are referring to actual growth.

Long Run Economic Growth(potential growth)

• This is the percentage rate of growth in potential output. Potential output being the output that could be achieved at full employment.

• Essentially it shows the rate at which the economy could grow.

Short Run & Long Run Economic Growth on a PPF

Goo

ds

Services0

W

Z

XY

Short Run Economic Growth – increase in aggregate demand

Price level

Real GDP

AS

AD1

0 Yf Y2 Y1

AD2

P1

P2

Short Run Economic Growth – decrease in aggregate demand

Price level

Real GDP

AS

AD2

0 Yf Y1 Y2

AD1

P2

P1

Assessing the changes - BIG

Price level

Real GDP

AS

0 Yf

Macro equilibrium price and real GDP are not labelled – diagram to show effects only

Assessing the changes - small

Price level

Real GDP

AS

0 Yf

Macro equilibrium price and real GDP are not labelled – diagram to show effects only

SRAS Curve shiftsPrice Level

Real GDP

SRAS1

P1

Y10

AD

P2

Y2

SRAS2

Y3

P3

SRAS3

Firms

Households

C Banks Government Other nationsFactor Payments

Leakages

Injections

Savings

TaxesImport

Expenditure (M)

Investment (I)

Government Expenditure

(G)

Export Expenditure

(X)

Circular Flow of Income

Land – Rent

Labour – Wages

Capital – Interest

Enterprise – Profit

Marginal Propensity to Withdraw

Where:

Y = national income s = savings

t = tax m = imports

The Multiplier

The Multiplier =

(k)

1

Marginal Propensity to Withdraw

(MPW)

(MPS + MPT + MPM)

Multiplier Example (MPS)

Marginal Propensity to Save

(MPS)

∆s

∆Y

Investment = £16bn

Savings = £3.2bn

therefore

3.2 = 0.2 16

Multiplier Example (MPT)

Marginal Propensity to Tax

(MPT)

∆t

∆Y

Investment = £16bn

Tax = £1.6bn

therefore

1.6 = 0.1 16

Multiplier Example (MPM)

Marginal Propensity to Import

(MPM)

∆m

∆Y

Investment = £16bn

Imports = £1.6bn

therefore

1.6 = 0.1 16

Multiplier Example (MPM)

 The Multiplier (k)

1

Marginal Propensity to Withdraw (MPW)

(MPS + MPT + MPM)

MPS = 0.2

MPT = 0.1

MPM = 0.1

therefore

k = 1 (0.2 + 0.1 + 0.1)

1 = 2.5 0.4

Multiplier example – increase in National Income

• Initially £16bn was invested into the UK economy by the firm

• The multiplier has been used to calculate the increase in national income

£16bn x 2.5 = £40bn

Accelerator model

• The accelerator model is based on an assumption of a stable (or fixed) capital to output ratio.

• Planned investment is demand induced. IE the demand for new plant and machinery comes from the demand for final goods and services.

• It is not primarily to do with interest rates

PPFs and The Trade Cycle

A

B

C A A

B

C

PPF Trade Cycle

Goods

Services0 0

Time

Output

Growth and trade

• THEORY: Countries can exceed the boundaries of their Production Possibilities Curves through trade.

• Both countries can be made better off, defined as having a higher a standard of living through trade.

• The UK is a trading economy.

• The UK does most of its trade with the EU

• There are new trading blocs outside the EU

• UK has exhibited a deficit on the current account but has success in high value industries ( see Rolls Royce article) .

Trade policies

• The big debate is

– Free trade V protectionism

Trade policy can influence the demand OR the supply side.