Price stability is a fundamental aspect of macroeconomic stability, crucial for sustainable economic growth. Understanding the concepts of inflation, deflation, and disinflation is essential for students studying Economics at the AS & A Level under the subject code 9708. These phenomena directly impact purchasing power, investment decisions, and overall economic health.

Key Concepts

Inflation

Inflation refers to the sustained increase in the general price level of goods and services in an economy over a period of time. It erodes the purchasing power of money, meaning that each unit of currency buys fewer goods and services than before. Inflation is typically measured by indices such as the Consumer Price Index (CPI) or the Wholesale Price Index (WPI). Causes of Inflation There are three primary types of inflation based on their causes:

Demand-Pull Inflation: Occurs when aggregate demand in an economy outpaces aggregate supply. This excess demand leads to higher prices as consumers are willing to pay more for goods and services.
Cost-Push Inflation: Results from an increase in the cost of production, such as wages and raw materials. Producers pass these higher costs onto consumers in the form of higher prices.
Built-In Inflation: Also known as wage-price inflation, it happens when workers demand higher wages, and businesses pass these higher labor costs onto consumers through increased prices.

Measurement of Inflation The most common measures of inflation include:

Consumer Price Index (CPI): Tracks the changes in the price level of a basket of consumer goods and services. It reflects the cost of living for consumers.
Wholesale Price Index (WPI): Measures the changes in the price of goods at the wholesale stage. It is often used as an indicator of future consumer price inflation.

Impact of Inflation Inflation has several effects on an economy:

Purchasing Power: As prices rise, the real value of money declines, reducing consumers' ability to purchase goods and services.
Savings and Investments: Inflation can erode the value of savings and fixed-income investments, discouraging savings and affecting long-term investment decisions.
Interest Rates: Central banks may raise interest rates to combat high inflation, increasing the cost of borrowing.
Income Redistribution: Inflation can benefit borrowers (who repay loans with cheaper money) and disadvantage lenders and those on fixed incomes.

Equation Representing Inflation Rate The inflation rate can be calculated using the following formula: $$ \text{Inflation Rate} = \left( \frac{\text{CPI in Current Year} - \text{CPI in Previous Year}}{\text{CPI in Previous Year}} \right) \times 100\% $$ Example: If the CPI was 250 last year and is 260 this year, the inflation rate is: $$ \text{Inflation Rate} = \left( \frac{260 - 250}{250} \right) \times 100\% = 4\% $$ This indicates a 4% increase in the general price level over the year.

Deflation

Deflation is the opposite of inflation, characterized by a sustained decrease in the general price level of goods and services. It leads to an increase in the real value of money, allowing consumers to purchase more with the same amount of currency. While this may seem beneficial, deflation can have detrimental effects on an economy. Causes of Deflation Deflation can arise from:

Decrease in Aggregate Demand: A reduction in consumer and business spending leads to excess supply, pushing prices downward.
Increase in Aggregate Supply: Technological advancements or increases in productivity can reduce production costs, leading to lower prices.
Reduction in the Money Supply: When the money supply contracts, there is less money circulating in the economy, reducing demand and prices.

Measurement of Deflation Deflation is typically measured using the same indices as inflation, such as the CPI and WPI, but observes a consistent decrease over time. Impact of Deflation Deflation can have severe economic consequences:

Delayed Consumption: Consumers may postpone purchases expecting lower prices in the future, reducing overall demand.
Increased Real Debt Burden: The real value of debt increases, making it harder for borrowers to repay loans.
Lower Profits and Wages: Businesses may experience reduced profits, leading to cost-cutting measures such as layoffs and wage reductions.
Economic Recession: Persistent deflation can lead to a deflationary spiral, where decreased demand leads to lower production, unemployment, and further decreases in demand.

Disinflation

Disinflation refers to a reduction in the rate of inflation, meaning that while prices are still increasing, they are doing so at a slower pace. It is a sign of improving economic conditions and is often a result of effective monetary policies. Causes of Disinflation Disinflation can be caused by:

Monetary Tightening: Central banks may increase interest rates or reduce the money supply to slow down inflation.
Improved Supply Chains: Enhancements in production efficiency and supply chain management can reduce production costs and slow price increases.
Reduced Demand: A decrease in aggregate demand due to lower consumer spending or investment can lead to slower inflation rates.

Impact of Disinflation Disinflation has several positive effects on the economy:

Increased Purchasing Power: Slower price increases help maintain consumers' purchasing power.
Stable Interest Rates: With controlled inflation, interest rates can remain more stable, encouraging investment.
Economic Confidence: Lower and stable inflation rates enhance business and consumer confidence, promoting economic growth.

Equation Representing Disinflation If the inflation rate decreases from one period to the next, this indicates disinflation. For example: $$ \text{Inflation Rate}_{\text{Year 1}} = 5\% $$ $$ \text{Inflation Rate}_{\text{Year 2}} = 3\% $$ This decrease from 5% to 3% represents disinflation. Example: Consider an economy where the CPI was 200 last year and increases to 210 this year (5% inflation). Next year, the CPI increases to 216.3, representing a 3% inflation rate. The reduction in the inflation rate from 5% to 3% signifies disinflation.

Relationship Between Inflation, Deflation, and Disinflation

Understanding the interplay between inflation, deflation, and disinflation is crucial for grasping macroeconomic stability:

Inflation vs. Deflation: While inflation denotes rising price levels, deflation signifies falling price levels. Both represent deviations from price stability but have opposite effects on the economy.
Disinflation vs. Deflation: Disinflation indicates a slowdown in the rate of price increases, whereas deflation involves actual price decreases.
Policy Responses: Central banks aim to maintain price stability by controlling inflation and preventing deflation. Disinflation may result from deliberate policy measures to reduce high inflation rates.

Theoretical Explanations

Various economic theories explain the causes and effects of inflation, deflation, and disinflation: Quantity Theory of Money The Quantity Theory of Money posits that there is a direct relationship between the money supply and the price level. The equation is represented as: $$ MV = PQ $$ Where:

M: Money supply
V: Velocity of money
P: Price level
Q: Real output

According to this theory, if the money supply increases while velocity and output remain constant, price levels will rise, leading to inflation. Phillips Curve The Phillips Curve illustrates the inverse relationship between the rate of unemployment and the rate of inflation. It suggests that lower unemployment rates are associated with higher inflation rates and vice versa. However, this relationship may not hold in the long run, as expectations adjust. Cost-Push vs. Demand-Pull Inflation - Cost-Push Inflation: Arises from increased production costs leading to reduced aggregate supply. - Demand-Pull Inflation: Results from increased aggregate demand outpacing aggregate supply.

Equations and Formulas

Understanding the mathematical representation of inflation is essential for analyzing economic scenarios: Inflation Rate Formula $$ \text{Inflation Rate} = \left( \frac{\text{CPI}_{\text{current}} - \text{CPI}_{\text{previous}}}{\text{CPI}_{\text{previous}}} \right) \times 100\% $$ Real vs. Nominal Values To adjust for inflation, real values are used: $$ \text{Real GDP} = \frac{\text{Nominal GDP}}{\text{Price Level}} $$ Fisher Equation The Fisher Equation relates nominal interest rates (i), real interest rates (r), and expected inflation ($\pi$): $$ i = r + \pi $$ This equation shows that nominal interest rates increase with expected inflation to maintain real returns. Example Calculation: If the nominal interest rate is 6% and expected inflation is 2%, the real interest rate is: $$ r = 6\% - 2\% = 4\% $$ This ensures that lenders receive a real return of 4% after accounting for inflation.

Examples

To solidify the understanding of these concepts, consider the following examples: Example 1: Inflation Suppose a basket of goods costs &dollar;500 this year and &dollar;525 next year. The inflation rate is: $$ \text{Inflation Rate} = \left( \frac{525 - 500}{500} \right) \times 100\% = 5\% $$ Example 2: Deflation If the CPI decreases from 300 to 285 over a year, the deflation rate is: $$ \text{Deflation Rate} = \left( \frac{300 - 285}{300} \right) \times 100\% = 5\% $$ Example 3: Disinflation An economy experiences an inflation rate of 6% this year and 4% next year. The disinflation rate is: $$ \text{Disinflation Rate} = 6\% - 4\% = 2\% $$ This indicates a slowing rate of price increases.

Policy Responses

Governments and central banks implement various policies to manage inflation, deflation, and disinflation: Monetary Policy Central banks use monetary policy tools such as interest rate adjustments and open market operations to control the money supply and influence inflation rates. Fiscal Policy Governments may adjust taxation and public spending to influence aggregate demand. For instance, reducing taxes or increasing public spending can stimulate demand, potentially increasing inflation. Supply-Side Policies These policies aim to increase aggregate supply by improving productivity and efficiency, thereby reducing cost-push inflation. Inflation Targeting Many central banks adopt explicit inflation targets to anchor expectations and guide monetary policy decisions, promoting price stability.

Case Studies

Analyzing real-world scenarios helps in understanding the practical implications of these concepts: Case Study 1: Hyperinflation in Zimbabwe Between 2007 and 2008, Zimbabwe experienced hyperinflation, with inflation rates reaching as high as 89.7 sextillion percent per month. This was caused by excessive money printing to finance government deficits, leading to a complete loss of confidence in the currency. Case Study 2: The Great Depression The Great Depression in the 1930s saw significant deflation worldwide. Falling prices led to decreased consumer spending, increased real debt burdens, and widespread economic hardship. Case Study 3: Japan's Lost Decade In the 1990s, Japan faced deflation and economic stagnation. Persistent deflation discouraged consumer spending and investment, contributing to prolonged economic challenges.

Advanced Concepts

Advanced Theoretical Explanations

To delve deeper into the phenomena of inflation, deflation, and disinflation, advanced theoretical frameworks provide a more comprehensive understanding: Expectations-Augmented Phillips Curve This model incorporates expectations of inflation into the traditional Phillips Curve framework. It suggests that the short-run trade-off between inflation and unemployment is influenced by adaptive or rational expectations: $$ \pi = \pi^e - \alpha (u - u^n) $$ Where:

$\pi$: Actual inflation rate
$\pi^e$: Expected inflation rate
u: Unemployment rate
u^n: Natural rate of unemployment
$\alpha$: Positive constant

This equation indicates that actual inflation depends on the difference between actual unemployment and the natural rate, adjusted by expected inflation. Monetarist View Monetarists, led by Milton Friedman, emphasize the role of money supply in determining inflation. They argue that "inflation is always and everywhere a monetary phenomenon," asserting that long-term inflation is primarily driven by excessive growth in the money supply. New Keynesian Perspectives New Keynesian economics incorporates price stickiness and considers how monetary policy can influence real economic variables. It emphasizes the importance of credible and predictable policy to manage inflation expectations effectively.

Complex Problem-Solving

Let’s tackle a complex problem involving simultaneous inflation and unemployment rates using the expectations-augmented Phillips Curve. Problem: Given the following information:

Expected inflation rate ($\pi^e$) = 3%
Actual inflation rate ($\pi$) = 5%
Natural rate of unemployment ($u^n$) = 4%
Parameter $\alpha$ = 2%

Find the actual unemployment rate ($u$). Solution: Using the expectations-augmented Phillips Curve formula: $$ \pi = \pi^e - \alpha (u - u^n) $$ Plugging in the values: $$ 5\% = 3\% - 2\% (u - 4\%) $$ Rearranging: $$ 5\% - 3\% = -2\% (u - 4\%) $$ $$ 2\% = -2\% (u - 4\%) $$ Divide both sides by -2%: $$ -1 = u - 4\% $$ $$ u = 4\% - 1 = 3\% $$ Answer: The actual unemployment rate is 3%.

Mathematical Derivations and Proofs

Let’s derive the relationship between the money supply and inflation using the Quantity Theory of Money under the assumption of velocity and real output being constant. Given the equation: $$ MV = PQ $$ Where:

M: Money supply
V: Velocity of money (constant)
P: Price level
Q: Real output (constant)

If V and Q are constant, any change in M directly affects P: $$ \frac{\Delta M}{M} = \frac{\Delta P}{P} $$ Thus, a 1% increase in the money supply leads to a 1% increase in the price level, implying 1% inflation. Proof: Assume $ M_1 $ and $ P_1 $ are the initial money supply and price level, and $ M_2 $ and $ P_2 $ are the new values after change. $$ M_1 V = P_1 Q $$ $$ M_2 V = P_2 Q $$ Dividing the second equation by the first: $$ \frac{M_2}{M_1} = \frac{P_2}{P_1} $$ Taking natural logarithm on both sides: $$ \ln\left(\frac{M_2}{M_1}\right) = \ln\left(\frac{P_2}{P_1}\right) $$ Assuming small changes, $\ln(1 + x) \approx x$: $$ \frac{M_2 - M_1}{M_1} = \frac{P_2 - P_1}{P_1} $$ Thus: $$ \frac{\Delta M}{M} = \frac{\Delta P}{P} $$ This proves that a proportional change in money supply leads to an equivalent proportional change in the price level, assuming velocity and output are constant.

Interdisciplinary Connections

The concepts of inflation, deflation, and disinflation intersect with various other disciplines:

Finance: Inflation affects investment strategies, portfolio management, and real interest rates. Financial instruments like Treasury Inflation-Protected Securities (TIPS) are designed to hedge against inflation.
Political Science: Inflation can influence political stability, policy decisions, and public perception of government performance.
Sociology: Persistent inflation or deflation impacts social behavior, consumer confidence, and income distribution within society.
Environmental Economics: Inflation can influence the cost-benefit analysis of environmental projects and the pricing of natural resources.

Understanding these connections enhances the holistic comprehension of macroeconomic phenomena and their broader implications.

Advanced Case Studies

Case Study 1: The Volcker Shock In the late 1970s and early 1980s, the Federal Reserve, under Chairman Paul Volcker, implemented tight monetary policies to combat hyperinflation in the United States. By raising interest rates sharply, the Fed succeeded in reducing the money supply growth, bringing down inflation rates from double digits to around 3-4% by the mid-1980s. However, this led to a recession in the early 1980s, illustrating the trade-offs between controlling inflation and economic growth. Case Study 2: Eurozone Deflationary Pressures Following the global financial crisis of 2008, several Eurozone countries, particularly those in Southern Europe, faced deflationary pressures. Low consumer demand, high unemployment, and restrictive fiscal policies contributed to falling prices. The European Central Bank responded with unconventional monetary policies, including quantitative easing, to stimulate demand and prevent a deflationary spiral. Case Study 3: Japan’s Deflationary Economy Japan has struggled with deflation since the 1990s despite various policy measures. Factors contributing to Japan’s deflation include a rapidly aging population, stagnant wages, and deflationary expectations. Persistent deflation has hindered economic growth and led to prolonged periods of low consumer spending and investment.

Comparison Table

Aspect	Inflation	Deflation	Disinflation
Definition	Sustained increase in the general price level	Sustained decrease in the general price level	Reduction in the rate of inflation
Impact on Purchasing Power	Decreases purchasing power	Increases purchasing power	Slows the decrease in purchasing power
Common Causes	Demand-pull, cost-push, built-in inflation	Decrease in aggregate demand, increase in aggregate supply, reduction in money supply	Monetary tightening, improved supply chains, reduced demand
Economic Policy Response	Increase interest rates, reduce money supply	Lower interest rates, increase money supply	Continue policies that slow inflation
Effects on Debt	Reduces real value of debt	Increases real value of debt	Affects debt dynamics similarly to inflation but less severely

Summary and Key Takeaways

Inflation is a sustained rise in the general price level, reducing money’s purchasing power.
Deflation is a sustained fall in the general price level, increasing money’s purchasing power but potentially harming the economy.
Disinflation refers to a slowdown in the rate of inflation, indicating improved price stability.
Understanding these concepts is crucial for analyzing economic policies and their impacts.
Effective monetary and fiscal policies are essential in managing inflation, deflation, and disinflation to maintain economic stability.

Examiner Tip

Tips

To excel in your exams, remember the mnemonic "DID" for Inflation concepts: Demand-pull, Input costs (cost-push), and Built-In inflation. Practice calculating inflation, deflation, and disinflation rates using real-world data to strengthen your understanding. Additionally, relate case studies like the Volcker Shock to theoretical concepts to see their practical applications. Lastly, regularly review key formulas and their derivations to ensure you can recall and apply them under exam conditions.

Did You Know

Did you know that hyperinflation, an extreme form of inflation, once rendered the Zimbabwean dollar worthless, leading to the abandonment of its currency in 2009? Another surprising fact is that Japan has grappled with deflation for over two decades, a phenomenon not commonly seen in other major economies. Additionally, during the 1970s, the United States experienced stagflation—a rare combination of high inflation and high unemployment—challenging traditional economic theories.

Common Mistakes

A common mistake students make is confusing disinflation with deflation. While disinflation refers to a slowdown in the rate of inflation, deflation means a decrease in the general price level. Another error is misapplying the inflation rate formula; forgetting to subtract the previous CPI from the current CPI can lead to incorrect calculations. Lastly, students often overlook the impact of inflation expectations on actual inflation, neglecting how anticipations can influence wage demands and price setting.

FAQ

What is the main difference between inflation and deflation?

Inflation is the sustained increase in the general price level of goods and services, reducing purchasing power, whereas deflation is the sustained decrease in the general price level, increasing purchasing power.

How does disinflation differ from deflation?

Disinflation refers to a reduction in the rate of inflation, meaning prices are still rising but at a slower pace. Deflation, on the other hand, involves actual declines in the price levels of goods and services.

Why is price stability important in an economy?

Price stability ensures predictable costs for businesses and consumers, maintains the purchasing power of money, and creates a favorable environment for investment and economic growth.

What role do central banks play in managing inflation?

Central banks control inflation by adjusting interest rates and managing the money supply through tools like open market operations, aiming to maintain price stability and support sustainable economic growth.

Can inflation ever be beneficial?

Yes, moderate inflation can encourage spending and investment, reduce the real burden of debt, and provide central banks with flexibility to adjust monetary policy.

What is the natural rate of unemployment?

The natural rate of unemployment is the level of unemployment consistent with a stable rate of inflation, where the economy is at full employment, factoring in frictional and structural unemployment.

1. The price system and the microeconomy

1.1 Types of cost, revenue and profit, short-run and long-run production

1.1.1 Short-run cost function: TC, AC, MC, TFC, TVC, AFC, AVC

1.1.2 Long-run production and returns to scale

1.1.3 Long-run cost curve and minimum efficient scale

1.1.4 Economies and diseconomies of scale

1.1.5 Revenue definitions and calculation: TR, AR, MR

1.1.6 Normal, subnormal and supernormal profit

1.1.7 Short-run production function and law of diminishing returns

1.2 Different market structures

1.2.1 Market types: perfect, monopoly, monopolistic, oligopoly, natural monopoly

1.2.2 Structure: number of firms, product type, barriers to entry

1.2.3 Performance in different markets: revenues, output, profit, supply curve, efficiency

1.2.4 Oligopoly: collusion, price/non-price competition, Prisoner's Dilemma

1.2.5 Concentration ratio

1.3 Growth and survival of firms

1.3.1 Reasons for different firm sizes

1.3.2 Internal and external growth: horizontal, vertical, conglomerate

1.3.3 Cartels and their consequences

1.3.4 Principal–agent problem

1.4 Differing objectives and policies of firms

1.4.1 Profit-maximisation and alternative objectives

1.4.2 Price discrimination: types, conditions, consequences

1.4.3 Other pricing policies: limit, predatory, price leadership

1.4.4 PED and firm revenue in different demand curves

1.5 Utility

1.5.1 Definition and calculation of total and marginal utility

1.5.2 Diminishing marginal utility

1.5.3 Equi-marginal principle

1.5.4 Derivation of individual demand curve

1.5.5 Limitations of marginal utility theory

1.6 Indifference curves and budget lines

1.6.1 Meaning of indifference curve and budget line

1.6.2 Causes of shifts in budget line

1.6.3 Income, substitution, and price effects

1.6.4 Limitations of indifference curve model

1.7 Efficiency and market failure

1.7.1 Productive and allocative efficiency

1.7.2 Pareto optimality and dynamic efficiency

1.7.3 Definition and causes of market failure

1.8 Private costs and benefits, externalities and social costs and benefits

1.8.1 Calculation of social, private and external costs and benefits

1.8.2 Positive and negative externalities in consumption and production

1.8.3 Deadweight welfare losses and asymmetric information

2. The Macroeconomy

2.1 Price stability

2.1.1 Consequences of inflation

2.1.2 Definition of inflation, deflation, disinflation

2.1.3 Measurement: CPI and difficulties

2.1.4 Nominal vs real values

2.1.5 Causes of inflation: cost-push and demand-pull

2.2 National income statistics

2.2.1 Meaning of national income

2.2.2 Measurement: GDP, GNI, NNI

2.2.3 Adjustment from market to basic prices

2.2.4 Adjustment from gross to net values

2.3 Circular flow of income

2.3.1 Circular flow in closed and open economies

2.3.2 Injections and leakages (multiplier not required)

2.3.3 Equilibrium and disequilibrium (no propensities)

2.4 Aggregate Demand and Aggregate Supply analysis

2.4.1 Definition and components of Aggregate Demand

2.4.2 Shape and shifts of AD curve

2.4.3 Definition and determinants of Aggregate Supply

2.4.4 Shape of AS in short run and long run

2.4.5 Shifts in AS in short and long run

2.4.6 Movement along vs shift in AD and AS

2.4.7 Establishing equilibrium in AD/AS model

2.4.8 Effects of AD/AS shifts on output, price level, and employment

2.5 Economic growth

2.5.1 Meaning and measurement of economic growth

2.5.2 Nominal vs real GDP growth

2.5.3 Causes and consequences of economic growth

2.6 Unemployment

2.6.1 Meaning and measures of unemployment

2.6.2 Causes and types: frictional, structural, cyclical, seasonal, technological

2.6.3 Consequences of unemployment

3. International economic issues

3.1 Relationship between countries at different levels of development

3.1.1 External debt: causes and consequences

3.1.2 Role of IMF and World Bank

3.1.3 International aid: forms, reasons, effects

3.1.4 Trade and investment

3.1.5 Multinational companies: definition, activities, consequences

3.1.6 Foreign Direct Investment: definition and consequences

3.2 Globalisation

3.2.1 Meaning, causes, and consequences of globalisation

3.2.2 Free trade area, customs union, monetary union, economic union

3.2.3 Trade creation and trade diversion

3.3 Policies to correct disequilibrium in the balance of payments

3.3.1 Balance of payments accounts: current, financial, and capital

3.3.2 Impact of fiscal, monetary, supply-side, protectionist and exchange rate policies

3.3.3 Expenditure-switching vs expenditure-reducing policies

3.4 Exchange rates

3.4.1 Measurement of exchange rates: nominal vs real

3.4.2 Trade-weighted exchange rates

3.4.3 Fixed and managed exchange rate determination

3.4.4 Revaluation vs devaluation of fixed exchange rate

3.4.5 Effects of exchange rate changes: Marshall-Lerner and J curve

3.5 Economic development

3.5.1 Classification by development and national income

3.5.2 Indicators of living standards and development: monetary, non-monetary, composite

3.5.3 Comparison of growth and living standards across countries and over time

3.6 Characteristics of countries at different levels of development

3.6.1 Population: birth/death rate, infant mortality, migration, urbanisation

3.6.2 Income distribution: Gini coefficient, Lorenz curve

3.6.3 Economic structure: employment sectors, trade patterns

4. The macroeconomy

4.1 Economic growth and sustainability

4.1.1 Positive and negative output gaps

4.1.2 Business (trade) cycle: phases, causes, stabilisers

4.1.3 Policies to promote economic growth and their effectiveness

4.1.4 Definition and effects of inclusive economic growth

4.1.5 Definition and effects of sustainable economic growth

4.1.6 Policies to mitigate impact of growth on environment

4.1.7 Actual vs potential growth

4.2 Employment/unemployment

4.2.1 Full employment: definition

4.2.2 Equilibrium and disequilibrium unemployment (including hysteresis)

4.2.3 Voluntary and involuntary unemployment

4.2.4 Natural rate of unemployment: definition, determinants, policy implications

4.2.5 Trends in employment and unemployment

4.2.6 Labour mobility: geographical and occupational

4.2.7 Policies to reduce unemployment and their effectiveness

4.3 Money and banking

4.3.1 Definition, functions, and characteristics of money

4.3.2 Definition of money supply and quantity theory of money (MV=PT)

4.3.3 Functions and objectives of commercial banks

4.3.4 Causes of changes in money supply in open economy

4.3.5 Credit creation, central bank role, government deficit financing, quantitative easing

4.3.6 Policies to reduce inflation and their effectiveness

4.3.7 Demand for money: liquidity preference theory

4.3.8 Interest rate determination: loanable funds and Keynesian theory

4.4 The circular flow of income

4.4.1 The multiplier: definition and calculation in different economies

4.4.2 Propensities: APS, MPS, APC, MPC, APM, MPM, ART, MRT

4.4.3 National income determination using AD and income approach

4.4.4 Effect of AD changes on national income using the multiplier

4.4.5 Components and determinants of AD: consumption, savings, investment, government spending, net export

4.4.6 Full employment and equilibrium level of national income

4.4.7 Inflationary and deflationary gaps

5. The price system and the microeconomy

5.1 Price elasticity of supply

5.1.1 Factors affecting PES

5.1.2 Implications for speed of response to market changes

5.1.3 Definition of PES

5.1.4 Formula and calculation of PES

5.1.5 Interpretation of PES coefficients

5.2 The interaction of demand and supply

5.2.1 Market equilibrium and disequilibrium

5.2.2 Shifts in demand and supply affecting equilibrium

5.2.3 Relationships between markets: complements, substitutes, derived demand, joint supply

5.2.4 Functions of price: rationing, signalling, incentivising

5.3 Consumer and producer surplus

5.3.1 Meaning and significance of consumer surplus

5.3.2 Meaning and significance of producer surplus

5.3.3 Causes of changes in consumer and producer surplus

5.3.4 Elasticity’s role in determining surplus changes

5.4 Demand and supply curves

5.4.1 Effective demand

5.4.2 Individual and market demand and supply

5.4.3 Determinants of demand

5.4.4 Determinants of supply

5.4.5 Causes of a shift in the demand curve

5.4.6 Causes of a shift in the supply curve

5.4.7 Shift vs movement along demand/supply curves

5.5 Price elasticity, income elasticity and cross elasticity of demand

5.5.1 Definitions of PED, YED, XED

5.5.2 Formulae and calculation of PED, YED, XED

5.5.3 Interpretation of elasticity coefficients

5.5.4 Types of elasticity: elastic, inelastic, unitary

5.5.5 Variation in PED along a straight-line demand curve

5.5.6 Factors affecting PED, YED, XED

5.5.7 Relationship between PED and total expenditure

5.5.8 Decision-making implications of PED, YED, XED

6. Government macroeconomic intervention

6.1 Government macroeconomic policy objectives

6.1.1 Using policy to achieve price stability, low unemployment, and economic growth

6.2 Fiscal policy

6.2.1 Meaning of government budget

6.2.2 Government budget deficit vs surplus

6.2.3 Meaning and significance of national debt

6.2.4 Types of taxes and tax rates

6.2.5 Reasons for taxation

6.2.6 Types and reasons for government spending

6.2.7 Expansionary vs contractionary fiscal policy

6.2.8 AD/AS analysis of fiscal policy impact

6.3 Monetary policy

6.3.1 Definition and tools of monetary policy

6.3.2 Expansionary vs contractionary monetary policy

6.3.3 AD/AS analysis of monetary policy impact

6.4 Supply-side policy

6.4.1 Meaning and objective of supply-side policy

6.4.2 Tools of supply-side policy

6.4.3 AD/AS analysis of supply-side policy impact

7. Basic economic ideas and resource allocation

7.1 Scarcity, choice and opportunity cost

7.1.1 Fundamental economic problem of scarcity

7.1.2 Need to make choices at all levels (individuals, firms, governments)

7.1.3 Nature and definition of opportunity cost, arising from choices

7.1.4 Basic questions of resource allocation: what, how, for whom

7.2 Economic methodology

7.2.1 Economics as a social science

7.2.2 Positive and normative statements

7.2.3 Meaning of the term ceteris paribus

7.2.4 Importance of the time period (short run, long run, very long run)

7.3 Factors of production

7.3.1 Definition of land, labour, capital and enterprise

7.3.2 Human capital vs physical capital

7.3.3 Rewards to the factors of production

7.3.4 Division of labour and specialisation

7.3.5 Role of the entrepreneur: risk and organisation

7.4 Resource allocation in different economic systems

7.4.1 Decision-making in market, planned and mixed economies

7.4.2 Resource allocation processes in different systems

7.5 Production possibility curves

7.5.1 Nature and meaning of a production possibility curve (PPC)

7.5.2 Shape of PPC: constant and increasing opportunity costs

7.5.3 Causes and consequences of shifts in a PPC

7.5.4 Significance of a position within a PPC

7.6 Classification of goods and services

7.6.1 Free goods and private goods (economic goods)

7.6.2 Public goods: nature and definition

7.6.3 Merit goods and under-consumption due to imperfect information

7.6.4 Demerit goods and over-consumption due to imperfect information

8. Government microeconomy intervention

8.1 Reasons for government intervention in markets

8.1.1 Addressing the non-provision of public goods

8.1.2 Addressing over-consumption of demerit goods and under-consumption of merit goods

8.1.3 Controlling prices in markets

8.2 Methods and effects of government intervention in markets

8.2.1 Impact and incidence of specific indirect taxes

8.2.2 Impact and incidence of subsidies

8.2.3 Direct provision of goods and services

8.2.4 Maximum and minimum prices

8.2.5 Buffer stock schemes

8.2.6 Provision of information

8.3 Addressing income and wealth inequality

8.3.1 Difference between income as a flow and wealth as a stock

8.3.2 Measuring inequality: Gini coefficient

8.3.3 Economic reasons for income and wealth inequality

8.3.4 Policies to redistribute income and wealth: minimum wage, transfer payments, progressive taxes, stat

9. International economic issues

9.1 The reasons for international trade

9.1.1 Absolute vs comparative advantage

9.1.2 Benefits of specialisation and free trade

9.1.3 Terms of trade: measurement, causes, impact

9.1.4 Limitations of trade theories

9.2 Protectionism

9.2.1 Meaning and context of protectionism

9.2.2 Tools of protection: tariffs, quotas, subsidies, embargoes, red tape

9.2.3 Arguments for and against protectionism

9.3 Current account of the balance of payments

9.3.1 Components of the current account

9.3.2 Calculation of trade balances and CAB

9.3.3 Causes and consequences of imbalances

9.4 Exchange rates

9.4.1 Definition and determination of floating exchange rates

9.4.2 Depreciation vs appreciation of exchange rates

9.4.3 Causes of exchange rate changes

9.4.4 Impact of exchange rate changes using AD/AS

9.5 Policies to correct imbalances in the current account

9.5.1 Objective of stability in current account

9.5.2 Use of fiscal, monetary, supply-side and protectionist policies

10. Government microeconomic intervention

10.1 Government policies to achieve efficient resource allocation and correct market failure

10.1.1 Application and effectiveness of taxes and subsidies

10.1.2 Use of price controls and production quotas

10.1.3 Prohibitions, licences, and direct provision

10.1.4 Pollution permits and property rights

10.1.5 Nationalisation and privatisation

10.1.6 Provision of information and behavioural insights

10.1.7 Definition, causes and consequences of government failure

10.2 Equity and redistribution of income and wealth

10.2.1 Equity vs equality

10.2.2 Equity vs efficiency

10.2.3 Absolute vs relative poverty

10.2.4 Poverty trap

10.2.5 Policies: negative income tax, universal and means-tested benefits, basic income

10.3 Labour market forces and government intervention

10.3.1 Derived demand and factors affecting labour demand

10.3.2 Shifts vs movement along labour demand curve

10.3.3 Marginal revenue product and labour demand

10.3.4 Factors affecting labour supply: wage and non-wage

10.3.5 Shifts vs movement along labour supply curve

10.3.6 Wage determination in perfect labour markets

10.3.7 Imperfect markets: trade unions, minimum wage, monopsony

10.3.8 Wage differentials from market forces

10.3.9 Transfer earnings and economic rent

11. Government macroeconomic intervention

11.1 Government macroeconomic policy objectives

11.1.1 Objectives: inflation, BoP, unemployment, growth, development, sustainability, redistribution

11.2 Links between macroeconomic problems and their interrelatedness

11.2.1 Internal vs external value of money

11.2.2 Balance of payments and inflation

11.2.3 Growth and inflation

11.2.4 Growth and balance of payments

11.2.5 Inflation and unemployment: traditional and expectations-augmented Phillips curve

11.3 Effectiveness of policy options to meet all macroeconomic objectives

11.3.1 Fiscal, monetary, supply-side, exchange rate and trade policies

11.3.2 Policy conflicts and problems

11.3.3 Macroeconomic government failure

Get PDF

PDF

Explore

Your Flashcards are Ready!

Definition of Inflation, Deflation, Disinflation

Introduction