Monday, 16 March 2015 00:00

Economic Growth - Video

Economic growth is an increase in the productive capacity of an economy. It is measured by comparing the GDP (total value of goods and services produced in an economy) in one year to GDP in the next. For the A Level course you need to understand what economic growth is, how to calculate it, what causes it, how to draw it and its costs and benefits. This video will give you an overview of the growth topic and what you should know.

 

Published in The National Economy
Monday, 16 March 2015 00:00

Economic Growth - The Economic Cycle

The economic cycle refers to the regular pattern of growth and then slowdown or recession seen in most market economies.

 

There are 4 phases to the economic cycle:

Recession – two consecutive quarters of negative economic growth

Slump – the economy has stopped contracting but has not yet started to grow

Recovery – growth has returned and employment is starting to rise again

Boom – strong economic growth associated with very low unemployment and rising inflation.

The Stages of the Economic Cycle

There are a number of possible causes of these economic cycles:

Inventory Cycles – When firms have excess stocks they may wish to de-stock, cutting back on output and so workers. This will reduce demand as incomes have fallen, further reducing the need for output. Equally when firms expect rising demand they will want to increase stocks and so will need a large increase in output.

Outside shocks – unexpected events altering either aggregate demand (demand side shocks) or aggregate supply (supply side shocks) can cause an increase or decrease in output.

Supply and Demand Side Shocks

 



Political Cycles – recessions and slowdowns have often closely followed elections. This suggests that governments may be creating unsustainable growth before an election in order to remain in power but that this leads to tightening of monetary and fiscal policy after the election. The long period of growth after independent Bank of England gained responsibility for monetary policy lends weight to this suggestion.

 

Accelerators and Multipliers – an injection into the circular flow leads to a multiplier effect, creating an increase in growth. A growth in national income will also lead to an accelerator effect, increasing investment spending. This also works in reverse if there is a withdrawal from the circular flow. This would create a sustained upturn followed by a sustained recession.

Published in The National Economy
Monday, 16 March 2015 00:00

Economic Growth - The Costs and Benefits

Generally economic growth is considered a good thing and but it is not enough simply to assume it is good in its own right. We must consider the benefits it creates. These are different in different circumstances. It usually results in:

  • Higher incomes
  • Higher standards of living
  • Lower unemployment
  • Improved government budget balance

When we talk about economic growth we are talking about an increase in the real value of economic output which, without thinking we tend to use as a proxy for quality of life or happiness. They are linked but they are not the same thing as growth can have downsides such as:

  • Environmental damage and depletion of resources
  • Increased inequality 
  • Increased inflation
  • Worsened current account deficit

Generally long run, sustainable growth caused by an increase in productive capacity is likely to bring more of the benefits and be affected by fewer of the costs.

Some economists such as Simon Kuznets suggest that inequality is worst in partially developed countries. In poorer societies the majority of the population have very low wealth and incomes, meaning there is little inequality. As economic development and growth occur, wealth is concentrated in the hands of business owners and those with access to capital. Finally, as higher levels of average income are reached individuals become more concerned about the level of inequality and have the disposable income to devote to charities and welfare systems, thus reducing inequality.

Kuznets Curve

 A similar argument can be made for environmental damage where newly industrialised countries tend to grow rapidly with ‘dirty’ technologies but as development continues people become more concerned about environmental damage and have the resources to devote to reducing environmental impacts.

Published in The National Economy

Economists talk about short run and long run growth. Short run growth is just an increase in output (like above). Long run growth is an increase in capacity. Think about it like a school. In the short run a school can grow numbers by increasing the number of desks in the classroom but this creates problems and can’t keep going forever. Eventually they must increase the capacity of the school by building new classrooms, then they can take more students than it was possible to take before.

 

Short Run Growth

Increasing aggregate demand leads to an increase in output. This increase in AD could be caused by anything that impacts one of the components of AD (consumption spending, investment spending, government spending or an improvement in the balance of trade).

e.g:

  •  An increase in incomes
  • A fall in interest rates
  • Looser fiscal policy
  • A fall in the exchange rate

In the short run it is possible to grow by increasing demand and using more of the capacity the economy already has but unless there is lots of spare capacity in an economy – high unemployment and lots of firms underusing their machinery then there will be inflation. The closer an economy gets to full capacity the more inflation there will be when AD rises and the less increase in output

Short Run AS/AD Diagram showing economic growth

 

Long Run Growth

Long run growth is caused by increasing the productive capacity of an economy. This is show by shifting the PPF or long run aggregate supply curve right. It is more desirable than short run growth as it is possible to continually grow this way without inflation.

Long run growth can be achieved by improving or increasing on of the factors of production. For example:

  • Finding new resources such as oil
  • Training the workforce better or increasing its size through immigration
  • Investing in more capital/infrastructure or researching and developing new types.

It is more sustainable than short run growth and does not cause inflation but most supply-side policies are very slow to take effect and the spending required may create even more inflation in the short run.

Classical Long Run AS/AD Diagram showing economic growth

Published in The National Economy

What is Economic Growth?

 

Economic growth is an increase in the productive capacity of an economy. It is measured by comparing the GDP (total value of goods and services produced in an economy) in one year to GDP in the next. In the short run that means increasing aggregate demand, but in the long run growth can only continue if the capacity of the economy to produce goods and services is increased. This is done with supply side policies that shift the long run aggregate supply curve right.

Calculating Economic Growth

To calculate economic growth you need to be able to calculate a percentage change

formula for calculating percentage change

Don't forget that if GDP goes down then the percentage change will be negative

Try it yourself:

In 2013, UK GDP was approximately £1,655 bn and in 2014 it was approximately £1,698 bn. Calculate the annual growth rate:

steps for calculating economic growth rate

UK Target

In the UK we aim for sustainable economic growth. There is no formal number for this but around 2.5% annual increase in GDP is sustainable year on year. Typically the actual rate of growth fluctuates around this but this is about the long term trend rate of growth

 

 

UK % Change in GDP

Published in The National Economy