Summary
Summary A Level Edexcel Economics Theme 2 Notes
- Module
- Theme 2
- Institution
- PEARSON (PEARSON)
Macro economic notes
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Ilya Korzinkin2.1 Measures of economic performance
1. How is economic growth measured?
Economic growth is a long- term expansion of the productive potential of an economy.
Short term growth is measured as the annual % change in real national output.
Long term growth is shown by the increase in trend or potential GDP and this is illustrated in an
outwards shift in the LRAS
2. What is the distinction between:
a. Real and nominal
Real GDP data values are adjusted for inflation, whilst nominal values are not, nominal are values
at the given price point.
b. Total and per capita
Total GDP is the is the total monetary value of all the finished goods and services produced within
a country's borders in a specific time period.
Per capita shows the ratio between the GDP and the number of people in a country, per capita is
GDP/Population, theoretically amount of GDP per citizen.
c. Value and volume
Real GDP measures the volume of the GDP, by VALUE= VOLUME x GIVEN PRICE LEVEL
Nominal Value is the volume of GDP at the current price level.
3. What is the difference between GDP and GNI?
GDP is the value of all finished goods and services produced within the borders of the country,
whereas
GNI is the GDP to which foreign interest payments, foreign factor incomes and dividends have
been added
4. What is meant by Purchasing Power Parity (PPP)?
PPP is an economic theory that compares different countries' currencies through a "basket of
goods" approach. According to this concept, two currencies are in equilibrium when a basket of
goods (taking into account the exchange rate) is priced the same in both countries.
S (exchange rate) = P1 (cost if the basket of good x in 1)/ P2 (cost if the basket of good x in 2)
5. State 3 limitations of using GDP to compare living standards between countries and
over time.
BETWEEN COUNTRIES:
1. Quality Differences in Data Collection / Quality of products differs, GDP records only spending
2. Low earners are better off in HICs, so GDP doesn’t reflect the standard of living
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, Ilya Korzinkin
3. Size of the unrecorded economy between different countries
OVER TIME:
1. Because prices have increased over time, an increase in the number of goods and services of
an economy is not indicated by the heightened revenue streams of the current account
equilibrium. It can be determined so only if the monetary rate of increase of national income is
higher than the inflation percentage.
2. GDP per capita compared over time is not adjusted for the ever- increasing population in most
countries, specially developing ones, thus clouding judgement
3. Quality of goods and services may increase in quality but decrease in price over time, as an
economy is becoming more efficient.
6. What is meant by inflation?
Inflation is a sustained increase in the cost of living or the general price level leading to a fall in the
purchasing power of money
7. What is meant by deflation?
Deflation is negative (below 0% growth) inflation rate
8. What is meant by disinflation?
Disinflation is a reduction in a still positive rate of inflation
9. How is CPI calculated?
The Consumer Price Index (CPI) is a measure that examines the weighted average of prices of a
basket of consumer goods and services, such as transportation, food and medical care. It is
calculated by taking price changes for each item in the predetermined basket of goods and
averaging them.
Changes in weights reflect the consumer spending patterns of the UK households
the sum of (price x weight) / sum of the weights
10. State 3 limitations of CPI as a measure of inflation.
1. The CPI is not fully representative- a large portion of the index is devoted to motoring costs,
which is not applicable to people without cars.
2. Few households are considered average: inflation affects different households with different,
much greater or lesser magnitude
3. Does not adjust for different spending patterns, i.e. single people vs people with kids
11. How does RPI differ from CPI?
RPI includes housing costs, such as mortgages, which the CPI does not include in the index. RPI
thus is usually higher than the CPI.
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12. What is meant by demand-pull inflation? Draw a diagram to explain.
Demand- pull inflation occurs when Aggregate Demand is growing at an unsustainable rate, which
puts an increase on scarce resources and leads to a positive output gap. When there is excessive
demand in an economy, producers are able to raise their prices as they know that they can achieve
a higher profit margin.
Demand-pull inflation is likely when there is full employment of resources and aggregate demand is
increasing at a time when SRAS is inelastic.
Reasons for demand- pull inflation may
be:
- Depreciation of the exchange rate
decreases the foreign price of
exports and increases prices of
imports
- Higher AD as a result of a fiscal
stimulus
- Large monetary stimulus for the
economy
- Faster economic growth than in
other countries
13. What is meant by cost-push inflation? Draw a diagram to explain.
Cost- push inflation occurs when firms respond to rising costs by increasing prices to protect their
profit margins.
Possible causes of cost- push inflation may be:
- Increasing component costs
- Rising labor costs caused by wage
increases that are larger than increases
in productivity
- Expectations of inflation: second- round
effects- pay claims
- Higher indirect taxes i.e. VAT
- A fall in exchange rate causing to more
expensive imports
- Rising crude oil
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14. What is the impact of inflation on:
a. Consumers
NEGATIVE:
1. Inflation has a very marked impact on some social groups e.g. pensioners or workers, whose
incomes may be relatively fixed.
2. Inflation redistributes away from savers towards borrowers- debt diminishes in real terms. PP of
savers reduces.
3. ARM may be negatively affected
POSITIVE:
1. If rates are raised due to inflation, savers benefit from better account deals
2. Cost- of living- adjustments may be made for consumers reliant on social services
3. Higher wages due to a tight job market
b. Firms
NEGATIVE:
1. Workers bid for higher wages as inflationary expectations rise. Wage- Price Spiral danger.
2. Adjusting to inflation increases menu costs for firms
3. Prices of our exports become less competitive
4. Periods of volatile inflation cause uncertainty thus reduction in investment, diminishing long-
term growth potential. Less money being put into productive assets than lending
POSITIVE:
1. Inflation would have benefits for businesses as they can adjust for the higher demand by
increasing their long- run potential
2. If manipulated well, inflation can lead to higher profit margins
c. The government
NEGATIVE:
1. There is a caution that the inflation rate might become too high, therefore more caution would
need to be exercised by the government to regulate it
POSITIVE:
1. Increasing tax revenue from personal tax and business taxation especially
2. Debt relief, as inflation diminishes the value of debt
3. Lower public expenditure: gvt. uses CPI to increase expenditure in line, below true inflation rate
4. Makes GDP appear higher
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