As AD shifts to the right the economy has an inflationary economy (higher price levels and lower unemployment) this leads to businesses competing for workers which causes workers to demand higher wages/input prices, the SRAS curve shifts to the left. We return to Full-employment at a higher price level. RGDP is back to the original level.
(h) (i) Calculate the NGDP in 2014.
NGNI + Factor Income sent abroad – Factor income earned abroad = NGDP
291.53 + 68.30 – 8.13 = 351.70 NGDP 2014
NGDP – factor income sent abroad + Factor income earned abroad = NGNI
358.97 – 75.90 + 9.49 = 292.56 NGNI 2015
(I) Determine RGDP in 2014 & 2015
NGDP – Inflation = RGDP
The inflation rate from 2014 to 2015 is given by the Deflator (which is a price index) that measures inflation from one year to the next.
2014 has a Deflator number of 100, this implies that 2014 is the base year and therefore has no inflation so the NGDP = RGDP
RGDP in 2014 is 351.70
2015 NGDP is 358.97 and the deflator is 100.88
NGDP/Deflator x 100 = RGDP
358.97/100.88 = 355.84 = RGDP 2015
(J) Calculate the rate of economic growth between 2014 & 2015.
Rate of Change formula = (New – Old)/ Old x 100
Growth is best-determined using RGDP numbers
(355.84 – 351.70)/ 351.70 x 100 = 1.18%
(K) Outline 1 possible disadvantage of Foreign Direct Investment (FDI) for economically less developed countries.
· Repatriation of profits and royalties may lead to balance of payment problems
· Importation of intermediate goods and capital goods may lead to balance of payment problems
· Domestic firms may be hurt as to small to compete
· Technology employed may be inappropriate so that employment decreases
· Income inequality may widen between rural and urban area where most MNC locate.
· The tax contributions may be less than expected because of tax concessions and /or transfer pricing.
· MNC’s may use their economic power to adversely influence market government policies.
· Production by MNC’s may result in negative externalities/exploitation of resources.
The NRU (natural rate of unemployment) is the unemployment level at which the LRPC (long-run Phillips curve) is vertical and that it consists of structural, (seasonal) and frictional unemployment.
· An increase in Gs (government spending) is direct since Gs is a component of aggregate demand or since infrastructure or subsidies can be targeted towards key areas.
· Spending by the government will often directly increase employment (or decrease unemployment) and thus confidence levels.
· There may be the multiplier effect as incomes rise consumption rises also.
· Lowering income taxes increases disposable income and thus may positively affect spending as well as confidence levels.
(b) Explain 2 reasons why low and stable inflation is desirable.
· Investment Spending – As companies can predict future revenues and costs with less uncertainty/more confidence there are higher levels of investment spending.
· Export Competitiveness – as PL (price levels) doesn’t change export sells are more competitive so trade deficits do not widen creating BOP (balance of payment) problems/ export-driven growth is maintained.
· Income Inequality Stability – money wage earners and recipients of transfer payments do not suffer a decrease in their purchasing power as they usually cannot negotiate higher wages/payments (income inequality doesn’t widen).
· Price Mechanism Efficiency – efficiency of the price mechanism is maintained permitting efficient allocation of resources.
· Lenders Loss – so income is not redistributed from lenders to borrowers, so that lenders (banks) do not charge unnecessarily high interest rates/ so that borrowing is not excessively encouraged.
· Borrowers Loss – so income is not redistributed from consumers to other groups such as banks, shareholders or producers who would benefit from higher profits (or so income inequality does not widen)
· Currency Depreciation – which leads to higher import prices and production costs.
· Deflationary Spiral – prices and profits keep falling.
· Deflationary Gap – decrease in economic activity and higher unemployment or bankruptcies.
(c) State 2 functions of a country’s Central Bank.
· Regulator of commercial banks.
· Banker to the government/ managing government finances
· Conducting monetary policy/ control of interest rates/ control of money supply/ maintenance of price stability (control of inflation)
· Exchange rate policy.
· Holder of foreign exchange reserves
· Issuer of notes and coins
· Promoter of full employment
· Banker to the commercial banks
· Lender of last resort
(d) Using the data in table 1, identify 2 reasons many economists would consider Country A’s economy to be performing badly in 2012.
High Unemployment and Deflation.
The unemployment rate is 7% considered high and deflation is thought of as a negative.
Deflationary spirals may occur continually lowering price and profits.
(e) State 1 reason why monetary policy is considered to have limited effectiveness in increasing aggregate demand if an economy is in deep recession.
· Interest Rates are already close to zero (Monetary tool of lowering interest rates to stimulate the economy cannot be used)
· Spending depends on confidence/ indebtedness as well as interest rates (“You can lead a horse to water but you can’t make him drink” if citizens are afraid of the future they will be unwilling to take on additional debt no matter how low the interest rates are lowered)
· Money demand may be highly sensitive (flat) with respect to interest rates.
Investment/Consumption may not be sensitive to changes in interest rates.
To find a Rate of Change
(New – Old)/Old x 100
2014
(102.51 – 100.55) / 100.55 x 100
1.96/100.55 x 100
.01949 x 100
1.949 then round up = 1.95
2015
(107.52 – 102.51)/ 102.51 x 100
5.01 / 102.51 x 100
.04887 x 100
4.887 then round up = 4.89
2012
Unemployed + Employed = Labor Force
.99 + 12.50 = 13.49 (Labor Force)
Unemployed / Labor force x 100 = Unemployment Rate
.99/13.49 x 100
.07338 x 100 = 7.338 Then round up = 7.34 Unemployment Rate (2012)
2013
Unemployed + Employed = Labor Force
.71 + 12.60 = 13.31 (Labor Force)
Unemployed / Labor force x 100 = Unemployment Rate
.71/ 13.31 x 100
.5334 x 100 = 5.334 Then round down = 5.33 Unemployment Rate (2013)
· Investment Spending – As companies can predict future revenues and costs with less uncertainty/more confidence there are higher levels of investment spending.
· Export Competitiveness – as PL (price levels) doesn’t change export sells are more competitive so trade deficits do not widen creating BOP (balance of payment) problems/ export-driven growth is maintained.
· Income Inequality Stability – money wage earners and recipients of transfer payments do not suffer a decrease in their purchasing power as they usually cannot negotiate higher wages/payments (income inequality doesn’t widen).
· Price Mechanism Efficiency – efficiency of the price mechanism is maintained permitting efficient allocation of resources.
· Lenders Loss – so income is not redistributed from lenders to borrowers, so that lenders (banks) do not charge unnecessarily high interest rates/ so that borrowing is not excessively encouraged.
· Borrowers Loss – so income is not redistributed from consumers to other groups such as banks, shareholders or producers who would benefit from higher profits (or so income inequality does not widen)
· Currency Depreciation – which leads to higher import prices and production costs.
· Deflationary Spiral – prices and profits keep falling.
· Deflationary Gap – decrease in economic activity and higher unemployment or bankruptcies.
Advantages
· Supporting farmers incomes - because farmers have low incomes
· Decreasing income inequality – because rural areas have lower incomes
· Reducing rural-urban migration – because urban areas have higher unemployment and lower living standards due to population density
· Decreasing price instability in agricultural markets – due to weather and other random factors
Disadvantages
· Higher prices for food, which is a necessity
· Overproduction of farm products – misallocation of resources – because to much land is used for agriculture
· Increased government expenditure – requires higher taxes or government borrowing.
· Opportunity costs in financing scheme – because spending on other goods must be foregone
At a price of $10 only 5m Kg per month will be bought (demanded) while at the high
price of $10 the suppliers will supply 8m Kg of the good.
· Destroy the surplus
· Store for future use
· Export abroad at a lower price
· Overseas food aid
· Purchasing the surplus (government)
· Providing food banks or low income families with rationed surplus
Funds used on purchasing the surplus could have been used to finance education, health services or those taxes for citizens will have to be higher or (increased) borrowing penalizes (or burdens) future generations.
At the equilibrium price of $8 there will be 6m Kg demanded and supplied, but when the Price Floor raises the price to $10 the Qd will fall to 5m Kg, a decrease of 1m Kg.
ginal Spending = $8 x 6m Kg = $48m (at Equilibrium before Price Floor)
New Spending = $10 x 5m Kg = $50m (after Price Floor)
Increase of $2m
