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Flashcards · 9708 · A Level Topic 10

Government macroeconomic intervention (A Level) flashcards

19 cards on A Level Topic 10, subtopics 10.1 to 10.3. Pick a subtopic or study them all.

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10.1 Government macroeconomic policy objectives

The macroeconomic objectives at A Level, with a measure for each
Low, stable inflation (CPI change); balance of payments stability (current account as % of GDP); low unemployment (unemployment rate); steady growth (real GDP growth); development (real GDP per head, composite indices); sustainability (resource and emissions measures); redistribution (Gini, poverty rate).
Internal value of money
Its purchasing power at home.
External value of money
What it buys abroad, shown by the exchange rate.
Nominal vs real
Only real growth shows more output.
GDP grows 3.0% and population grows 1%. Find growth per head, and say why development needs wider measures.
Growth per head = 1.03 ÷ 1.01 − 1 = 1.98%, below the headline figure. It still says little about health, education or how income is shared.
Why is ranking macroeconomic objectives a matter of judgement?
Objectives conflict, so improving one can worsen another, and which to put first is a value judgement (normative). A good answer names the conflict and says which objective a government might prioritise and why.

10.2 Links between macroeconomic problems and their interrelatedness

Natural rate of unemployment
The rate at which actual inflation equals expected inflation.
Traditional Phillips curve versus expectations-augmented Phillips curve
Traditional: a stable, downward-sloping convex curve showing a trade-off between inflation and unemployment; it cannot explain high inflation with high unemployment. Expectations-augmented: a trade-off only in the short run, for given expected inflation; the long-run curve is vertical at the natural rate.
SRPC vs LRPC
Movement along a curve (short-run trade-off) vs a shift (change in expectations or the natural rate).
Inflation = expected inflation − 0.4 × (unemployment − 6). Expected inflation is 3% and unemployment is held at 4%. What happens over three years?
Year 1: 3 + 0.8 = 3.8%. As expectations adjust: year 2 4.6%, year 3 5.4%. Holding unemployment below the natural rate makes inflation accelerate by 0.8 points a year.
Imports are 200, the income elasticity of demand for imports is 1.5, and income grows 4%. Exports stay at 190. What happens to the trade balance?
Imports grow 1.5 × 4% = 6%, to 212. The balance worsens from −10 to −22: a conflict between growth and the balance of payments.
Demand-pull vs cost-push
AD shift vs short-run aggregate supply shift. The Phillips curve fits demand-pull; a cost-push shock moves the curve.

10.3 Effectiveness of policy options to meet all macroeconomic objectives

s = 0.05, t = 0.20, m = 0.15. Government spending rises by 16. Find the change in output and in the deficit.
Withdrawals = 0.40, so k = 2.5 and output rises by 40. Tax revenue rises by 0.20 × 40 = 8, so the deficit rises by only 16 − 8 = 8.
Crowding out
Public borrowing pushes up interest rates and reduces private investment. Example: spending rises by 16 but investment falls by 4, so the net injection is 12 and, with k = 2.5, output rises by 30 rather than 40.
Laffer curve
The relationship between the tax rate and tax revenue, rising then falling. Revenue is zero at 0% and at 100%. Beyond the peak a rate cut raises revenue (base = 300 − 2t peaks at 75%, revenue 112.5). The peak is not observable and behaviour takes time to change.
Market-based versus interventionist supply-side policy
Market-based: stronger incentives and freer markets (lower tax rates, deregulation, privatisation, labour market flexibility, competition policy). Interventionist: state action on factors (education, training, health, infrastructure, research subsidies, regional policy).
Fiscal versus monetary policy: one strength and one weakness each
Fiscal: can be targeted at groups or regions, and automatic stabilisers act at once; but long lags, debt costs and crowding out. Monetary: quick to change and run at a distance from elections; but blunt, with lags, and little power when rates are near zero.
Expenditure-switching versus expenditure-reducing policies
Switching changes what is bought, from imports to home goods (a lower exchange rate, protection). Reducing lowers total spending (contractionary fiscal or monetary policy), cutting imports but also output.
Inside lag versus outside lag, and why lags can cause government failure
Inside lag: time to recognise the problem and decide. Outside lag: time for the policy to act. With an inside lag of 2 quarters and an outside lag of 4, the effect arrives about 6 quarters late, possibly at the wrong point in the cycle (pro-cyclical).

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