You owe.

Article on Economic Cycle Did you highlight the key issues use 2 different colours? Did you summarise the key issues?

Hand in your answers to Q1,2,4

REVIEW OF HWK
BoP Q&A

Balance of Payment Questions.

1. What is meant by (2 marks each = 6 in total) A trade gap? A current account deficit? A current account surplus?

2. Explain why an economic boom may result in a current account deficit. (3 marks) 3. Explain why a recession may result in an improvement in the current account position. (3 marks) 4. To what extent might a current account deficit have an effect on Employment? Inflation? Growth? 4 marks each = 12 marks Total = 24 marks

Balance of Payment Questions.

1. What is meant by (2 marks each = 6 in total) A trade gap?

the difference in value over a period of time of a country's imports and exports
A current account deficit?

Where M>X
A current account surplus?

Explain why an economic boom may result in a current account deficit. (3 marks)
Boom = lots of employment, consumer confidence, business profits. Confidence = C + I which can often lead to greater need for goods beyond domestic production, therefore greater iMports! Also draw a boom macro diagram what happens to prices? So domestic goods more expensive & so less competitive, therefore less eXports! Also exchange rates gets stronger so SPICED!

Explain why a recession may result in an improvement in the current account position. (3 marks)
Draw a recession diagram Increasing unemployment Lower prices

Fall in confidence (both consumer and producer)

So more eXports with weaker exchange rates and lower prices makes us more competitive There might be lower iMports as they become more expensive

To what extent might a current account deficit have an effect on employment? Inflation? Growth?

Where M > X Fall in employment but why? Rise in inflation but why? Fall in growth but why?

Inflation & Deflation

Recap & move forward

Recap
What was the more recent FIVE causes of UKs rise in inflation last month?

Recap
What was the more recent FIVE causes of UKs rise in inflation last month? F= Fuel I = Imports create higher costs V = VAT E= exchange rates

Recap
In theory what are the 2 different types of inflation? Demand pull inflation Cost push inflation

Recap
Can you draw me a demand pull inflation diagram (show SR & LR AS)

DEMAND PULL INFLATION

SRAS2 Price Level LRAS SRAS

AD1 AD

In the LR, workers are not willing to sacrifice Leisure time for more overtime. But still have high wage expectations. demand pull inflation

Y1

Y2

Real National Output

Recap
Can you draw me a cost push inflation diagram (show SR & LR AS)

Draw an Classical AD/AS diagram

Price Level LRAS SRAS2 SRAS1

AD

Y2

Y1

Real National Output

Deflation
Is it good or bad?

Deflation
Deflation is a sustained fall in the general price level A sustained period of negative inflation The internal value of money rises

Deflation for some products

Price deflation in many markets for UK consumers
Annual percentage change in the consumer price index for selected items

0.0 -2.0 Clothing and Footwear -4.0 -6.0

1996=100

-8.0 -10.0 -12.0 Audio-visual and photo equipment -14.0 -16.0 Oct Jan Apr Jul 01 02 Oct Jan Apr Jul 03 Oct Jan Apr Jul 04 Oct Jan Apr Jul 05 Oct

Source: Reuters EcoWin

6 5 4 3
Percent

Whats the Consumer Price Inflation for Goods and Services start & Whats the Annual Percentage Change end points? trend?
Inflation in Services

Describe the changes in the data provided.

2 Goods and Services Together 1 0 -1 Inflation in Goods -2 -3 00 01 02 03 04 05

All items (CPI), Chg Y/Y All goods, Index [ar 12 months]

All services, Index [ar 12 months]

What effects do you 06 think this had on the economy?

Source: Reuters EcoWin

The diagrams
demand side cause of deflation

DEMAND PULL Deflation

Price Level LRAS SRAS

AD1

AD

Y2

Y1

Real National Output

Demand side causes of Deflation

A Large (adverse) Fall in AD Exogenous shocks to the economy A global recession leading to a fall in exports and investment
A rise in the exchange rate (leading to lower exports and cheaper imports) Declines in domestic and international asset prices

Deliberate attempts by macroeconomic policy to reduce AD through tightening of fiscal and/or monetary policy

HWK
Read article on inflation Use 2 colour highlighters to select pros & cons Summarise key issues

Next lesson..

Multi choice
Dont get excited there is NO multi choice for paper 2

Demand-pull inflation is most likely to be caused by

A total spending exceeding productive capacity. B an increase in output. C a rise in raw material prices. D a rise in interest rates.

An economy is most likely to be in the boom phase of the trade cycle when there is a rise in

A business pessimism. B the savings ratio. C spare capacity. D the demand for imports.

Real incomes rise whenever

A nominal incomes rise. B the price level rises by more than nominal incomes. C nominal incomes rise by more than the price level. D the rate of inflation slows down.

Inflation article
Read use highlighters to select key positive & negative issues

Whats so BAD about inflation?

RPI is an aggregate figure what does this mean? Why are interest rates on mortgages such an important monetary tool to control inflation? What is the difference between nominal and real prices? The article identifies 4 problems of inflation. What are they?

The diagrams
supply side cause of deflation

SR Cost push deflation

Price Level LRAS SRAS1

SRAS2

AD

Y1

Y2

Real National Output

LR Cost push deflation

Price Level LRAS LRAS SRAS1

AD

Y1

Y2

Real National Output

Supply side causes of deflation

An Increase in Long Run Aggregate Supply The supply potential of the economy has been boosted by a series of beneficial shocks such as Impact of rapid technological advances
Reductions in the international prices of commodities and capital goods Higher productivity which drives down unit cost of production

Exploitation of economies of scale leading to lower LRAC

Excess supply in some industries due to over-investment in new capital machinery i.e. deflation results from a persistent demand deficit over existing and potential productive capacity.

Deflation good and bad points!

Consequences of Deflation
Holding back on spending: Consumers may opt to postpone demand if they expect prices to fall further in the future Debts increase: The real value of debt rises when the general price level is falling and a higher real debt mountain can be a drag on confidence
Mortgage payers on fixed mortgage interest rates will see the real cost of servicing their debt increase

The real cost of borrowing increases: Real interest rates will rise if nominal rates of interest do not fall in line with prices

Lower profit margins: This can lead to higher unemployment as firms seek to reduce their costs.
Confidence and saving: Falling asset prices such as price deflation in the housing market hit personal sector wealth and confidence leading to further declines in AD. Higher savings can lead to the paradox of thrift

Past paper practice

I would suspect that your exam paper will be about recessionary issues one being Deflation!

QUESTIONS
1. Explain what is meant by the term deflation. (4 marks)

2. With reference to Extract 1, explain the effect on GDP of the change in asset prices in 1990. (8 marks)
3. Explain why deflation neednt be all bad? (line 28, extract 2) (8 marks)

4. With reference to the extracts, examine the problems associated with a long period of deflation. (12 marks)
5. Assess the relative effectiveness of using monetary and fiscal policy to move the economy out of a period of deflation. (12 marks) 6. How might the continuing deflation in Japan affect the global economy? (6 marks)

Or.

January 2006 - inflation

The questions