UNIT 2 . 1 ECONOMIC SYSTEMS Determining what to produce?
1. What to produce 2. How to produce 3. Whom to produce
Market: An arrangement where consumers and producers of a good and service come and exchange
.
Price Mechanism: When the demand and supply determines the price of a commodity Advantages of the market system:
1. Wide variety of goods
2. Firms respond quicker to change in consumer wants
3. Profit motives encourages firms to develop new products and efficient methods 4. No taxes
Market Failure: When markets fail to produce goods and services worthwhile, and decisions of producers and consumers that result in wasteful or harmful activities
Market problems and how mixed economies solve market problems:
Market system Mixed system
Firms only produce profitable goods and services
Government provides public goods
Firms only supply goods to consumers who can afford it
Government provides public and merit goods at low cost
/
freeResources only employed it its profitable Government can provide jobs in public sectors and provide welfare payments to unemployed or low incomes
Harmful goods may be produced if its profitable
Charge high taxes on such goods or ban it
Producers and consumers ignore the harmful effects on the environment
Introduce laws and regulations to stop this
Some firms may dominate the market supply Regulates or breaks up the monopolies
How government interventions can be bad?
1. Taxes can distort market signals and reduce work incentive
-
Less money for hard work,
increase prices2. Laws and regulations increase production cost and reduces the supply
-
Health,
safety,
employment,
environmental,
consumer protection increases production cost
-
No profits means less importance of production cost4. Some government spending maybe be political or for personal gain
-
Taking on big projects that are not necessary for publicity or using money to bribe the public sectorSize of Mixed economy = public sector output + private sector output
Opportunity cost of public sector: Since public sectors money comes from taxes, the higher the taxes and therefore less money for the private sector to spend
Public expenditure: Public expenditure is spending made by the government of a country on collective needs and wants
(
Welfare payments,
infrastructure,
subsidies)
Capital expenditure: The cost of long-term improvements(
schools,
machinery,
medical equipment)
UNIT 2 . 2 - PRICE MECHANISMS
Demand: The want or willingness of consumers to buy a good and service
Demand Curve:
-
Downward sloping-
Price rises,
demand falls-
Price and quantity move in opposite directions Extension of demand: when quantity demanded increases with a fall in price,
with no other factor affecting demandContraction of demand: Opposite of extension
An Increase in demand: Means that consumers demand more of a product at each and every price then they did before
A fall In Demand: Opposite of increase in demand
.
Changes or shifts in consumer demand
and shifts in curves :
1. Changes in consumer incomes 2. Changes in tax on incomes
-
Disposable income: Amount of income left to spend after taxes 3. Prices and availability of other goods and services
-
Complementary goods are said to be in joint demands(
butter and margarine)
4. Changes in taste habit and fashion5. Population Change
Supply: The amounts of good and service producers are willing to make at different prices. Factors that affect supply:
1. Changes in the cost of factors of production
2. Changes in the price and profitability of other goods and services 3. Technological advance
4. Business optimism and expectations 5. Global factors
Price Elasticity of Demand: The responsiveness of quantity demanded to changes in the price of a good or service
Factors:
1. Number of Substitutes -Inelastic when there are fewer substitutes cause there is no choice but to buy. Eg: Medicine
2. The period of time -More time consumers have the more likely they will find cheaper substitutes
3. The proportion of income spent on a commodity
-If goods with low prices like newspapers were to increase it would only be a little bit and won’t take much out of a
person’s income
(inelastic) unlike the
Change in price causes a small change in quantity PED<1 Change in price causes a big change in quantity PED>1
Price Elasticity of Supply
UNIT 2 . 3 SOCIAL COST
Private cost + External cost=Total social cost
Private benefits + External benefits=Total social benefits
An uneconomic resource is one that’s social cost exceeds its social benefits’ Market Failure and Government Intervention:
How the market fails: Whenever a use of resources creates external cost or benefits, the market economic system will fail to allocate resources efficiently
.
This is because private sector films will only make decisions based on their own private cost.
Government Intervention:
1. Laws and Regulations: Can be introduced by governments to ban or control activities that create serious negative externalities and cost
.(
contamination of land by pollution)
2. Tax: If market prices fail to reflect the external cost of a productive activity then there may be possible to impose a tax on product prices to make sure they do.
Also reduces consumer demand.(
Cigarettes)
PED= Qn−Qo 1 oo Pn−Po 1 oo PES= Qn−Qo 1 oo Pn− Po 1 oo
Effect of subsidy on supply:
Reduces market price as subsides decrease production cost. However it can distorts competition, for example the government can subsidize its inefficient production. This can cause other countries production to fail
Factors: 1. Time
-Takes more time to get more things 2. Availability of Resources
-If a production wants to expand it needs more factors of production
Supply
Effect of tax on supply:
Indirect tax (can be seen as additional cost of production, causes demand to go down and producers to raise their supply to match the tax price increase.
3. Subsidies: Private sector firms are not interested in producing external benefits for other because they are not paid for them
.
Subsidies help to reduce their production cost and thus make it profitable to produce the goods and services(
buses)
Government policy and conflicts of Interest: Taxes, subsidies and laws and regulations can also influence consumer demand where these have external cost and benefits
(
cigarette tax or vaccine subsidies).
However when government intervention occurs,
it may create conflicts of interest.
(
Higher taxes on income for subsidised buses good for middle income people,
but for high income people higher taxes are bad and they may not benefit as much from buses)
Arguments for and against conservation:NO YES
Free market encourages the most efficient use of resources through price mechanism; firms that waste resources face higher costs and are not able to compete with more efficient ones
.
If prices are too low to cover external cost then taxes can help to raise prices and reduce demand
.
Conserving resources leave them idle
,
thus less jobs are created.
Measures designed to conserve resources will not result in less goods and services
,
just more efficient ways to use them.
In a free market prices will increase as resources deplete
,
therefore encouraging conservation and waste reduction insteadResources will be reallocated from the production of goods and services with high external cost to lower ones
.
For example solar panels,
as more is produced the price will go down and demand for them will increaseAs resources run out their cost will rise
,
and we will find cheaper alternativesUNIT 3 . 1 MONEY Problems with barter:
1. Fixing a rate of exchange 2. Finding someone to swap with 3. Trying to save
Functions of Money:
1. Medium of Exchange 2. Measure of Value 3. Store of Value
4. Means of deferred payment
(
Can pay later,
credit cards)
What makes good money?1. Acceptability 2. Durability 3. Portability 4. Divisibility 5. Scarcity
Money Supply- Cash or notes circulating and deposits in banks and other financial institutions
.
Types of banks:
Functions of Commercial banks:
1. Accepting deposits of money and savings 2. Helping customers make and receive payments
3. Making personal and commercial loans
(
Overdraft-
over withdrawing and Mortgage -long term loan on house)
4. Buying and selling shares for customers 5. Providing insurance
6. Operating pension funds
8. Exchanging foreign currencies
Functions of Central banks:
1. It issues notes and coins for the nation’s currency 2. Manages payments to and from the government 3. It manages the national debt
4. It supervises the banking system
,
regulating the conduct of bank holding their deposits and transferring funds between them5. Lender of the last resort the banking system 6. Manages the nations gold and foreign gold reserve 7. Operates the government’s monetary policy Functions of the stock exchange:
1. It helps companies sell their stocks or equities 2. This helps them to raise finance
3. It helps the public buy such stocks
4. This buying and selling of shares through the stock exchange will produce a market price
5. It provides an indicator of how generally an economy is doing
UNIT 3 . 2 OCCUPATIONS AND EARNINGS Payments for labour:
1. Time rate 2. Piece rate
3. Fixed annual rate
4. Performance related payment
Factors that can affect an individual’s choice of occupation: 1. wages
/
salaries2. bonuses
/
commission 3. pension4. holiday entitlement
(
fringe benefits)
5. proximity to home6. promotion prospects 7. working conditions 8. Canteen
/
social facilities.
Advantages and disadvantages of Specialization for the individual:
Advantages Disadvantages
Allows individual to make the best use of his abilities
Relies on others to produce goods and services
Can improve their skills by repeated carrying out the same task
Doing the job for many years can be boring and stressful
Skilled employees earn more than unskilled employees and have a higher demand for skilled ones
Skills and occupations can become outdated
Why firms may change their demand for labour:
1. Changes in consumer demand for goods and services 2. Changes in the productivity of labour
3. Changes in the price and productivity of capital 4. Changes in non
-
wage employment costWhy labour supply may change?
1. Changes in the net advantages of an occupation
2. Changes in the provision and quality of education and training 3. Demographic changes
(
population)
Occupational wage differentials:
1. Different abilities and qualifications 2.
“
Dirty”
jobs and unsociable hours 3. Job Satisfaction4. Lack of information about jobs and wages 5. Labour mobility
(
Changing jobs)
Why earnings differ from people doing the same job:
1. Regional differences in labour demand and supply curves 2. Length of service
3. Local pay agreements
(
trade unions)
4. Non-
monetary rewards differ 5. DiscriminationWhy government intervene in labour markets: 1. Protect the rights of employees and employers
3. Raise the wages of the lowest paid workers 4. To reduce unemployment
5. To outlaw discrimination
UNIT 3 . 3 TRADE UNIONS
Trade unions protect the rights and interests of their members and improve wages and working conditions in exchange of a union membership fee to fund the organisation
.
Functions:1. Negotiate improvements in and other non
-
wage benefits 2. Defending employees’ rights and jobs3. Improve working conditions 4. Improve pay and fringe benefits
5. Encourage workers participation in business and decision making
6. Support members who have been fired or are taking industrial actions
(
temp pay)
7. Developing the skills of union members8. Provide social and recreational amenities for their members
9. Influencing the government policy and employment legislation(laws) Types of Unions
1. General Unions
(
transport/
commercial)
2. Industrial Unions(
Factories)
3. Craft Unions
(
Technicians/
Carpenters)
4. Non-
manual Unions(
Journalist)
Collective bargaining:When trade unions and employers negotiate
Trade unions will argue for improved wages and other working conditions when: 1. Price inflations is high and rising
2. Other groups of worker receive pay rises
3. New machinery or working practises has been introduced to the workplace 4. Labour productivity of members has increased
Union representation:
1. Closed shop: Employees must join a union as a condition for working there 2. Open shop: Can employ union or non
-
union members3. Single Union agreement: An employer agrees to a single union representing all its employees
-Advantages:
1. Time saved negotiating with only 1 union 2. Avoids disagreement with different unions 3. Easier to implement changes in only one union
4. Closer working relationship with the union and help reduce industrial disputes What determines the strength of unions?
1. Unions represent all the employees in a firm
2. Union members provide essential products to the public
3. Union is able to support their members financially during strikes
Arbitration: When an outsider (government senior employee or lawyer
)
helps settles disputes between unions and employersUNIT 3 . 4 SPENDING , SAVINGS AND BORROWINGS Reasons for spending:
1. Wealth
2. Consumer confidence in their jobs 3. Interest rates
Reasons for increasing consumptions trends: 1. Real incomes have risen
2. People work fewer hours than last time
3. Social attitudes have changed
(
Woman started working,
less time looking after their family,
more demand for time saving appliances)
4. Couples are marrying later in life and having fewer children
(
More households,
fewer people in one)
5. People have become more health conscious 6. Concern for environment growing’s
Savings
Delayed consumption until some later time
.
Why people save?1. For consumption
2. High saving interest rates 3. Consumer confidence in jobs 4. Availability of saving schemes What determines level of borrowing?
1. Interest rates
2. Wealth
(
more willing can easily repay)
3. Consumer confidence in jobUNIT 4 . 1 TYPES OF BUSINESS ORGANISTION Questions to think when starting a business:
1. Do I have enough money
?
2. Can I do it alone?
3. Do I want to share ownerships and profits
?
4. Am I prepared to risk everything I own
(
unlimited liability)
SOLE TRADERBusiness owned by one person
ADVANTAGES DISADVANTAGES
Sole trader business organization is easy to set up
Has unlimited liability
Sole trader is very personal one
(
with customers)
A sole trader has full responsibility for managing the business
Sole trader has full control over the business Sole trader lack capital
(
Hard to expand,
lack of money)
Sole trader receives all the profits
PARTNERSHIPS
Legal agreements between 2
-
20 people to own,
finance and run a business jointly,
and share all profits.
ADVANTAGES DISADVANTAGES
Easy to set up Partners can disagree
Partners bring new skills and ideas to the business
General partners have joint unlimited liability
Partners invest new capital into the business and finance expanse
Partnerships lack capital
JOINT STOCK COMPANIES (LIMITED COMPANIES, LLC)
Joint stock companies sell stocks to raise capital, the people who invest in shares becomes owners or shareholders of the companies. Therefore joint-stock companies is jointly owned by investors who bought the stock
Two types of joint-stock companies:
1. Private limited(one or more shareholders it can only sell shares known to the current shareholders)
1) Advantages and disadvantages of private limited
ADVANTAGES DISADVANTAGES
Popular form of organisation for sole traders or partnerships looking to raise capital
Limited companies have to disclose financial information(competitors find out and
expensive to make) Company shareholders have limited
liability(only the money invested is at risk)
They cannot sell their shares publicly(less money for expansion)
Shareholders have no management responsibilities``
Companies have separate legal identities form its owners
2) Advantages and Disadvantages of public limited companies
ADVANTAGES DISADVANTAGES
They can sell shares publicly (Raise more money)
It is expensive to form a public limited company
They can advertise their shares (Prospectus informs shareholders about their activities)
They are required to publish detailed annual reports and accounts
Public shareholders have to hold Annual General meetings(AGM)(expensive and time consuming
Management diseconomies(Communication problems between different parts and layers of the company)
Vulnerable to take overs(more than 50% shares)
Divorce of ownership from control
MULTINATIONAL CORPORATIONS Advantages:
1. Reach more consumers globally
2. Avoid trade barriers by setting up operations in countries that apply tariffs and quotas to import some multinationals
3. Minimize transport cost by locating plants in different countries to be nearer to consumers/suppliers
4. Minimize wage cost by putting factories in low wage countries
5. Raise significant capital for expansion, research and development and to employ workers with the highest skills
Impact on economies:
1. Increase investment in new business premises and technologies. 2. Provides jobs for local workers
3. Brings new knowledge and skills into a country which can help domestic firms improve their own productivity
4. Pay taxes on their profits which boost government revenues 5. Increase export earnings through international trade
Problems they create in host countries: 1. Exploit workers in low wage economies
2. Natural resources exploited and the environment damaged 3. Profits may be switched between countries to avoid taxes COOPERATIONS
Firm owned, controlled, and operated by a group of users for their own benefit. Each member contributesequity capital, and shares in the control of the firm on the basis of one-member, one-vote principle (and not in proportion to his or her equity contribution).
Two main types:
1. Worker cooperatives 2. Consumer cooperatives
Worker Cooperatives (owned by workers)
ADVANTAGES DISADVANTAGES
Popular with workers because they are in charge, encourages them to work harder because they can take part in decision making and running the business
Hard to raise capital, have to borrow from banks. Thus they remain small.
Workers receive the profit they make, based on dividends on the basis of equal share or according to how much money they put in
May be badly run because workers running it have no business experience`
Retail Cooperatives (Retailing businesses run for the benefit of their customers) (Managers run the organization)
Principles:
1. Owned by their members
2. Members elect a board of directors
3. Each member has one vote regardless of number of shares 4. Profits shared between members
PUBLIC SECTOR Types:
1. Central government authorities(Decisions on political, economic and other national issues)
2. Local government authorities(Implement national policies) 3. Government agencies(Administration of government functions)
4. Public corporations(business like organization to operate under government control)
UNIT 4.2: ORGANIZATION OF PRODUCTION
Productivity: amount of output produced from a given amount of input Increases if:
1. More output or revenue produced from same amount of resources 2. Same output produced using fewer resources
Average product of labour= Output per period Number of employees
Not all labour is involved in output (cleaners)
Average revenue product of labour= Revenue per period Number of employees
Quality is not measured
DIVISION OF LABOUR (Increase productivity)
ADVANTAGES DISADVANTAGES
More goods and services produced Work becomes boring Full use of employees abilities Workers may feel alienated
Time is saved Products become too standardized
Allows use of machinery
Other ways firms increase labour productivity: 1. Train workers to improve existing skills 2. Rewarding increased productivity
3. Encourage employees to buy shares(more productivity, higher dividend) 4. Increase job satisfaction
5. Replace old machineries
Factors that affect labour or capital demanded:
1. Amount of goods and services consumers demand 2. Market prices of labour and capital
3. Productivity of labour and capital CALCULATING COST AND REVENUE Profit=Total revenue-cost
Fixed cost
Total variable cost=variable cost per unit x quantity demanded Total cost=fixed cost +variable cost
Average cost= Total cost TotalOutput
Total Revenue= Price per unit x Quantity sold
Average revenue per unit =Revenue earned Number sold
Profit (loss) =total revenue-total cost
Profit (loss) per unit= average revenue-average cost Breakeven=Total Revenue=Total cost
Total
Breakeven level of output =¿cost ¿
UNIT 4.3 GROWTH OF FIRMS Size of firms: 1. Number of employees(small<50) 2. Organization(Different levels) 3. Capital employed 4. Market share How firms grow:
1. Internal growth( buying new capital) 2. External Growth( Firms combining)
Types
1. Horizontal(Buying firms with similar production of goods and services) 2. Forward integration(Buying firms with a higher stage of production)w 3. Backward Integration( Buying firms with a lower stage of production) 4. Lateral Integration(Buying firms in different industries)
INCREASING SCALE OF PRODUCTION 1. Purchasing economies(Bulk buying)
2. Marketing economies(Purchasing its own distribution or advertisement)
3. Financial economies(Large firms can borrow more money and at lower interest rates) 4. Technical economies(Large firms have more money to invest in capital)
5. Risk-bearing economies(Large firms have more customers and countries to sell to, means less risk)
DISECONOMIES OF SCALE (Firms grow too big)
1. Management diseconomies(Firms too large too manage) 2. Need vast quantities of materials
3. Unable to attract enough workers
4. Labour diseconomies(when workers get bored of doing repetitive tasks) 5. Harder to attract new customers(products too standardized)
6. Selling shares may lead to disagreements with the new shareholders
7. Agglomeration diseconomies(When firms takeover too many other stages of production and cannot coordinate all of them)
Why some firms remain small: 1. Size of their market is small 2. Access to capital is limited
3. New technology has reduced the scale of production 4. Some business owners may simply choose to stay small
UNIT 4.4 COMPETITION Why firms compete:
1. Increase customer base 2. Increase sales
3. Expand market share(Total market volume or value of sales) 4. Achieve product superiority
5. Enhance image 6. Maximize profits Types of competition:
1. Price competition
2. Non-price competition(quality or advertising) Advertising:
1. Involves the creation of consumer wants(Persuasive or informative) 2. Can create powerful brand images and consumer loyalties
3. Advertising can reduce competition Is advertising wasteful:
1. Using resources for advertising is wasteful 2. Duplication of effort and resources are wasteful. PRICING STRATEGIES
Factors that influence pricing decisions: 1. Level and strength of consumer demand
2. Amount of competition from rival producers to supply a market 3. Cost of production and level of profit required
Demand-based strategies:
1. Price skimming(Uses high price initially when it is a new or improved product, charges high prices to recover development cost )
2. Penetration pricing(Setting prices low to encourage more consumers and increase loyalty)
Competitive pricing strategies
1. Destruction pricing(Setting price often below cost in order to destroy sales of other competitors)
2. Price Wars(continually reducing prices lower than competitors)
3. Price leadership(when the largest market share lowers or raises the price and everyone else follows)
Cost-Based pricing
Price = (Total cost/Total output) + mark-up profit
MARKET STRUCTURES (characteristics of the market, usually on supply side) Examining competition:
1. Amount of control a firm has over the total market supply 2. Amount of influence a firm has over market price
3. Freedom of new suppliers have to enter the market
Perfect Competition: No one firm or consumer has powers to influence market price, they are all price takers and any firms that raise the price would lose to producers and go out of business. Unable to lower price below either because it will lose too much money. (Does not exist)
Features:
1. Price and non-price competition
2. Pursue different pricing strategies based on amount of competition
3. Product features and brand images will be highly differentiated and wide range of product designs
4. Market share and profits of competing businesses will vary over time as new business enters and inefficient firms are forced to close
Imperfect competition: when one firm has a degree of control over price MONOPOLY
ADVANTAGES DISADVANTAGES
May be more efficient in production because of scale of production
Less consumer choice
Monopoly may still face competition from overseas
Lower output and higher prices
May still charge low prices as they fear new firms may enter
Lower product quality
May re-invest its profits in new inventions and better products
X-inefficiency(No competition therefore they use less effort to ensure resources are used in the most efficient way)
BARRIERS TO ENTRY (Things preventing firms from entering a market)
NATURAL ARTIFICIAL
Economies of scale(big firms reduce average cost lower than other firms by producing more)
Restriction on supplies
Capital size(Product may require a large amount of capital to produce)
Predatory pricing
Historical reasons(First in the supply) Exclusive dealing Legal considerations(patenting) Full line forcing
Ways government controls monopolies: 1. Break them up into smaller ones
2. Impose fines on firms that abuse market power
UNIT 5.1-GOVERNMENT ECONOMIC POLICY
Capital Expenditures: Investments in long-lived assets by the government. For example computers, roads, schools and healthcare.
Governments will use their spending to achieve a number of objectives:
1. Provide goods and services that are in the public interest(Merit and Public goods) 2. Invest in national infrastructure(Roads, railway, universities, public buildings)
3. Support agriculture and key industries (by providing financial assistance or subsidies to firms to reduce their cost of production or make investments in staff training, new machinery, research and development of new products, processes and materials. 4. Manage the macroeconomy(Increase public spending during a recession can boost
demand and reduce unemployment)
5. Reduce inequalities in incomes and help vulnerable people(Income support and welfare payments)
Many private sectors benefit from public expenditure from their impact on consumer demand. Such as:
1. Construction firms benefit from contracts to build schools and other buildings 2. Office equipment manufacturers benefit from spending on equipping public offices 3. Farms may benefit from agricultural subsidies to increase their production of food 4. Power companies earn revenue from electricity supplied for street lights
5. The defence industry benefits from orders for defence equipment
6. Public sector workers use their incomes to buy goods and services from businesses
Macroeconomic objectives of the government: 1. Low and stable rate of inflation
2. High and stable level of employment 3. Economic growth in the total output
4. Stable of balance of international trade and payment
5. Reduce poverty and reduce inequalities in income and wealth 6. Reduce pollution and waste
Demand-side policies influence the level of AD in an economy using a number of policy instruments. These are:
1. Total public expenditure 2. The overall level of taxation 3. The rate of interest
They can be effective for these reasons:
)
(
Exports-Imports + Governme nt Spending Investmen ts Consumpti on + + = Aggrega te Demand1. The amount consumers have to spend on goods and services depend on their level of disposable income after income taxes have been deducted
2. Taxes on profits will affect the amount of money firms have to invest in new productive capacity and their demand for labour
3. Increasing public expenditure can boost total demand and therefore stimulate higher output and employment in a n economy
4. As interest rates rises consumers may save me and /or borrow less to spend on
consumer goods and services. This may also encourage investments from overseas. As interest rates fall firms may borrow more to invest
Two types of demand-side policies: Fiscal and Monetary Fiscal Policy
(Involves varying the overall level of public expenditure and/or taxation in an economy to manage the AD and influence the level of economic activity)
Expansionary fiscal policy: If a government wants to increase AD in the economy to boost employment and output it can increase its expenditure and/or reduce taxation.
This leads to:
Firms: Cutting taxes on profits provide firms with an incentive to increase output and investments in new productive capacity.
People: Cutting taxes on personal income encourages people to participate and motivate them to increase their productivity
Expansionary fiscal policies are implemented during a recession or economic downturn. Budget: An expansionary fiscal policy usually means running or increasing a budget deficit. If public expenditure exceeds total revenue the budget will be deficit and the government will have to borrow money to finance it.
Contractional Fiscal Policy: Aims to reduce pressure on prices in the economy by cutting aggregate demand through a reduction in public expenditure and/or by raisin g total taxation. Effect: Fiscal policy can affect the distribution of income. Increased taxes may be placed on those with the highest incomes and the money raised used to finance more public services and increased welfare for the lowest incomes
Contractionary policy reduces employment and decreases growth in output
Budget: A budget deficit will be cut or may go into surplus if tax revenue exceeds public spending
Problems with fiscal policy:
1. Fiscal policy is cumbersome to use (Hard to know exactly how much public spending or cut taxes by during an economic downturn)
2. Increase in public expenditure crowds out private spending (Increasing public
spending or cutting taxation requires the government to borrow more money from the private sector. The more money they borrow the less the private sector has to spend) 3. Increasing taxes on incomes and profits can reduce incentive to work and enterprise (If taxes are too high people and firms may reduce their work effort. This leads to a reduction in labour productivity, total output and profits. As cost of production in firm’s increase they will be less able to compete on product and price quality against other producers overseas. As a result demand goes down and unemployment may rise) 4. An expansionary fiscal policy creates expectations of inflation (Consumers and
produces may expect a rise in inflation following an expansionary fiscal policy. As a result, employees push for higher wages to protect them from an increase in the cost of living. Rising wages will increase production costs and reduce demand for labour. This may cause a cost-push inflation and rising unemployment)
Monetary policy
(Involves changes in the money supply or the interest rate in an economy to influence the level of AD and economic activity)
Main instrument of monetary policy is the minimum lending rate or rate of interest charged by the central bank to loan money to the banking system. This will affect how the banks charge businesses and personal customers to borrow money the rate of interest savers earns on their saving account.
Expansionary monetary policy:
Involves a cut in interest rates and/or expansion in the money supply to boost AD. These measures will often be taken when unemployment is rising and economic growth is falling or has turned negative during an economic recession.
1) Interest rates↓ Borrowing↑Savings↓ Consu../Expen…Investment↑ Output/Employment↑
2) Quantitative easing (Using printed money to buy bank’s financial assets to lend more money) Money supply↑ Dispo..Income↑ Consumption↑ Income↑ AD↑= Economic Growth(Inflation also)
Contractionary monetary policy:
This involves raising interest rates and/or cutting the money supply to reduce aggregate demand if the economy is overheating and inflationary pressures are rising
1)Interest rates↑ Borrowing↓ /Money supply↓=Less spending(AD↓Employment↓Future EC↓) Exchange rate policy
When exchange rate falls in one country, transactions with other international countries will become more expensive. Therefore imported goods will become more expensive which will negatively impact its country balance of international payments and cause inflation to occur. To counter this, the government will raise its interest rates in order to raise the exchange rate. This happens because wealthier residents from other countries will buy more of that country’s currency to store money in that country’s bank.
If interest rates were lowered, it would reduce the cost of overseas residents buying goods from their country which can increase exports and boost output and employment
SUPPLY SIDE POLICIES
Supply side policies target economic growth, they aim to boost productive potential and increase the aggregate supply. Expanding AS will help to reduce inflationary pressures on prices from rising AD, provide additional employment and boost production of goods and for exports. Overall, supply side policies can help to achieve all the macroeconomic objectives of a government at the same time
1) Selective tax incentives
-High rates on personal incomes reduce people incentives to work and entrepreneurs to start new firms. Therefore cutting taxes on earnings and profits can positively impact on
productive efforts of workers and firms.
-Granting tax reliefs also encourages firms to invest in new plant and equipment to expand their productive potential
2) Selective subsidies
-Financial assistance paid to businesses by a government to help meet cost. Helps expand output and reduce market price. Often used to support faming, to fund investments in new technologies and to help small business grow
3) Improving education and training
-In order for firms to be successful in competing in international markets they need to have highly trained and skill workforce.
-A well-educated land trained workforce can raise labour productivity and will be better able to adapt to new production methods and technologies. Governments can assist by providing training programmes, funding universities and providing more accessible education.
-Restrictions on the supply of labour to an occupation will force up the market wage and result in fewer jobs. Governments can introduce laws and regulations to reduce the power of trade unions to strike and demand unreasonable wages
-Laws on minimum wages can be used to encourage people to work. Some firms cut jobs as their cost of production increases
5) Competition policy
-Monopolies that dominate the market are large and powerful and may use their market power to restrict competition, charge igh prices and earn excessibe profits. Laws and regulations can be used to fine firms that are anti-competitive and force them to break up to smaller firms
6) Removing trade barriers
-A national government may seek to protect its domestic firms and labour forced from competition overseas
7) Privatization
- T ownership of a business, enterprise, agency, public service property from the public sector (the state or government) to the private sector (businesses that operate for a private profit) or to private non-profit organizations.
UNIT 5.2 TAXES Uses:
1. To finance government expenditure. One of the most important uses of taxes is to finance public goods and services, such as street lighting and street cleaning.
2. To reduce consumption of goods that creates negative externalities. 3. To control the amount of imported goods i.e. tariffs
4. Used as a part of fiscal policy to control aggregate demand in the economy. 5. To control income inequality
6. Protect the environment DIRECT AND INDIRECT TAXES
Advantage and disadvantage of direct taxes.
ADVANTAGE DISADVANTAGE
High revenue yield Reduce work incentives
Used to reduce inequalities in incomes and wealth
Reduce enterprise incentives
Based on ability to pay(Family commitments/dependants)
Tax Evasion
Cost Effective Inflationary
Expand tax base Regressive
Used to target specific products and activities Revenues are less certain and predictable Easy to adjust tax rates Encourage tax evasion(smuggling to avoid
tax)
UNIT 6.1-INFLATION
Inflation: A general and sustained rise in the level of prices of goods and services How to measure inflation
Measured by
• CPI (Consumer Price Index)
• RPI (Retail Price Index)
1. A base year or starting point is chosen. This becomes the standard against which price changes are measured.
2. A list of items bought by an average family is drawn up. This is facilitated by the Living Costs and Food Survey.
3. A set of weights are calculated, showing the relative importance of the items in the average family budget - the greater the share of the average household bill, the greater the weight. 4. The price of each item is multiplied by the weight, adjusting the item's size in proportion to its importance.
5. The price of each item must be found in both the base year and the year of comparison (or month).
