Chapter 13 · Macroeconomics
Macroeconomic Analysis
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Key Definitions
- Actual growth
- Movement toward the productive potential of the economy, toward the PPC.
- Potential growth
- An outward shift of the PPC as the economy's productive capacity rises.
- Sustained growth
- Actual and potential growth maintained over a long period without excess inflation.
- Sustainable growth
- Growth that can be kept up without running down resources for future generations.
- Inclusive growth
- Growth that is broad-based, creates productive jobs and reduces inequality.
- Full employment
- The level of employment consistent with about 3% unemployment: roughly 2% in Singapore and about 4 to 5% in the US and UK.
- Price stability
- Low and stable inflation, usually measured by the Consumer Price Index (CPI).
- Favourable balance of trade
- Exports exceed imports (a surplus).
Core Concepts
Unemployment rate
- Unemployment rate equals the number unemployed divided by the economically active population, times 100.
Effects of a trade deficit
- More foreign borrowing.
- Depletion of foreign-exchange reserves.
- A possible fall in the exchange rate.
- Lower living standards.
The circular flow
- Two-sector model: the real flow of goods and services against the money flow of factor payments.
- Four-sector model: adds the government and foreign sectors.
- Withdrawals: savings (S), taxes (T) and imports (M).
- Injections: investment (I), government spending (G) and export revenue (X).
- Equilibrium occurs where injections equal withdrawals, J = W.
The multiplier
- Change in national income = K x change in injections.
- K depends on the marginal propensity to consume (MPC).
- Leakages: MPS, MPT and MPM reduce the size of the multiplier.
- Each round of spending is smaller than the last.
The AD components
- AD = C + I + G + (X - M): consumption, investment, government spending, and net exports.
Consumption determinants
- Expectations.
- Price expectations.
- Interest rates.
- Availability of credit.
- Government policies: tax cuts, reliefs and handouts.
- Preferences.
Investment
- Includes fixed capital formation and changes in stocks.
- FDI pull factors: infrastructure, skilled labour, political stability and tax incentives.
- FDI push factors: disasters and corruption in the home country.
- Determinants: interest rates, the business outlook, the cost and efficiency of capital equipment, and government policy such as investment grants and corporate tax cuts.
Government spending
- Government expenditure depends on the level of debt: high debt risks a credit downgrade and higher borrowing costs.
- The fiscal stance here is expansionary, for example Abenomics.
Net exports determinants
- Foreign income.
- Exchange rates: a depreciation raises exports and lowers imports.
- Relative quality of domestic goods.
- Trade policies.
Essay Outline
- Open by defining actual versus potential growth and linking each to movements and shifts of the PPC.
- Work through the circular flow, withdrawals and injections, and the condition J = W.
- Explain the multiplier and its dependence on the MPC and on leakages.
- Break AD into its components and relate the determinants of C, I, G and (X - M) to each.
- Apply the framework to a policy scenario and evaluate which component most reliably drives growth.