Download Multiple Choice Week Six

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03.02.2012
Multiple Choice Week Six
1.
2.
3.
4.
5.
C
C
A
B
B
6. C
7. A
8. B
9. D
10. C
11. A
12. C
13. C
14. B
15. D
Kazakhstan - will its economic boom last?
(a) Monetary policy involves changing the interest rate and/or money supply in
order to change the level of aggregate demand in the economy. Slack
monetary policy tends to be used to get the economy out of recession.
(b) (i) 2002
(ii) Between 2002 and 2006, unemployment rate fell whilst inflation rate
increased, showing an inverse relationship between unemployment and
inflation, except for in 2004, where inflation decelerated. Initially, the
unemployment rate was higher than the inflation rate, however this changed
in 2005. Figure 1 suggests that the rate inflation changes more rapidly than
that of unemployment.
(c) Keynesians believe inflation occurs when there is an increase of aggregate
demand within an economy operating at, or close to, full capacity. Therefore
in order to reduce inflation, an economy must increase its spare capacity or
productivity. To do this, they may use a supply side policy such as training. A
better trained or educated work force will increase spare capacity, shifting the
Long Run Aggregate Supply (LRAS) curve to the right, from LRAS1 to
LRAS2. This will then reduce inflationary pressure because firms will respond
to a rise in aggregate demand from AD1 to AD2 by increasing output rather
than raising price, if they have spare capacity to do so.
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03.02.2012
(d) (i) Cyclical unemployment is caused by a downturn in the trade cycle.
Cyclical unemployment tends to rise during a recession, and is caused by
falling aggregate demand.
(ii) Whilst some industries, such as construction, are expanding, others - such
as agriculture - are declining. This unemployment caused by a decline in the
agricultural industry is known as structural unemployment.
(iii) The government can calculate unemployment through claimant count.
This involves counting the number of people in receipt of Job Seekers’
Allowance (JSA).
(e)
Investment is a component of aggregate demand; therefore an increase in
investment will lead to an increase in AD. This will shift the AD curve from
AD1 to AD2. Investment can also increase aggregate supply, as investment
may include the purchasing of capital, a factor of production, which will
increase the productive capacity of a firm or economy, therefore shifting the
LRAS curve to the right, from LRAS1 to LRAS2. This increase in both LRAS
and AD will cause a rise in real GDP from NY1 to NY2, therefore increase
employment as more factors of production are being utilised, and labour is a
factor of production. Provided the increase in aggregate supply is equal to or
greater than the increase in aggregate demand, average price level will
remain the same, at P1.
The effect of an investment will depend on the original position of the AD
curve, and the size of the increase. A large increase will cause the curve to
shift further, thus increase real GDP more, than a small increase in
investment, which would only cause a small rise in real GDP.
(f) (i) $15bn + $24bn = $39bn
(ii) Protectionism involves barriers between economies which wish to trade,
for example tariffs, whereas free trade does not restrict the trading with other
countries, and there are no tariffs.
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03.02.2012
(iii) Removing the tariffs imposed on imports would reduce the domestic price
of imports. Cheaper imports would increase demand for imports, therefore
consumer expenditure on imports would increase. This would mean import
expenditure would become much greater than export income, creating or
increasing a current account deficit, which means a worse trade balance.
However, the effect on the current account balance of removing import tariffs
would depend on the initial tariffs. If initially tariffs were low, their removal
would not cause as large an increase in import expenditure than if it were
large tariffs being removed. Furthermore, a current account deficit would only
be caused if not all other countries removed tariffs. If other countries were
removing tariffs, too, export income would also increase, which would not
worsen the trade balance. Finally, the effect of a change in price of imports
depends on the price elasticity of demand of the imports. More price elastic
imports are likely to experience a larger rise in demand than price inelastic
imports.
(g) Government spending is a component of aggregate demand, the total
amount of expenditure within the economy at a given average price level over
a given period of time. Economic growth occurs when the productive capacity
of the economy increases over time. Keynesians believe an increase in AD
from AD1 to AD2 will cause an increase in real GDP from NY1 to NY2,
provided firms have spare capacity.
LRAS
Average
Price
Level
AP1
AD1
NY1
AD2
NY2
Y/Fe Real GDP
Increasing government spending would be running an expansionary fiscal
policy. An increase in government spending causes an increase in aggregate
demand. This may be because of a multiplier effect. If an increase in
government spending on, for example education, provides more jobs, there
will be less unemployment. This means that more people have disposable
income to spend on goods and services. Disposable income is gross income
minus deductions, such as direct taxation, pension contributions and other
fixed outgoings, such as school fees and mortgage repayments. This increase
in disposable income therefore increases aggregate demand. Furthermore,
increased government spending could increase consumers’ disposable
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03.02.2012
income for those in receipt of benefits such as Job Seekers’ Allowance of
public pensions, such as teachers’ pensions.
In addition, an increase in government spending can increase aggregate
supply because it can increase the productive capacity of an economy, for
example providing education can increase the productivity of labour. An
increase in the quality of factors of production would shift the LRAS curve to
the right, increasing real GDP from NY1 to NY2.
However, the extent to which an increase in government spending will
promote economic growth depends on the level of spare capacity within the
economy. Keynesians believe firms will only respond to an increase in
aggregate demand by increasing production if they have spare capacity.
Firms operating at, or close to, spare capacity will respond to the increase by
raising their average price level, causing demand pull inflation.
Additionally, the effect would depend on what the government has spent its
money on. An increase in government spending on weapons would have little
effect on the aggregate demand, but an increase in benefit expenditure is
likely to increase aggregate demand more, and an increase in spending on
education will benefit aggregate supply in the long run, creating sustainable
economic growth.
Moreover, it would depend on how the government funded their extra
spending. If it was funded by increasing taxes, it is likely that the impacts
would be counter balanced by the impacts of raising taxes, for example
consumers’ disposable income would decrease, and therefore the increased
government spending would not be effective in promoting economic growth.
Finally, there would be a time lag before an increase in government spending
had an effect on the economy, as people would not respond to the increase
immediately, and educational improvements would have no effect on
economic growth until the students were old enough to be part of the work
force.