11.1

• What is economic growth?

  An increase in the real value of goods and services produced in an economy over time, usually measured by real GDP
• what is the difference between short-run and long-run economic growth?

  • short-run growth: occurs when AD increases, moving the economy closer to potential output
  • long-run growth: occurs when the productive capacity of the economy expands (outward shift of LRAS or PPF)
• how is economic growth measured?

  by the percentage change in real GDP over time
• Demand side definition

  Relates to the impact of changes in aggregate demand on the economy; associated with Keynesian economics
• What drives short-run growth (supply-side determinants)?

  • improved efficiency
  • Lower production costs (e.g oil price fall)
  • Short-term supply shocks (positive or negative)
• what drives long-run or trend growth (supply-side determinants)?

  • investment in physical capital
  • education and training (human capital)
  • technological innovation
  • infrastructure improvements
  • labour force growth (population, migration)
  • institutional and policy reforms
• what is the difference between actual growth and trend growth?

  • actual growth: short-term increase in real GDP
  • trend growth: long-term increase in potential output (LRAS shift)
• supply side definition

  relates to changes in the potential output of the economy, which is affected by the available factors of production (e.g changes in the size of the labour force and the productivity of labour)
• trend growth rate

  the rate at which output can grow, on sustained basis, without putting upward or downward pressure on inflation. it reflects the annual average percentage increase in the productive capacity of the economy
• what role does productivity play in economic growth?

  higher productivity increases output per worker, raising potential growth and shifting LRAS right
• why is sustainable growth important?

  ensures long-term growth without creating excessive inflation, inequality or environmental harm
• economic cycle (aka business cycle or trade cycle) definition

  upswing and downswing in aggregate economic activity taking place over 4 to 12 years
• actual output definition

  level of real output produced in the economy in a particular year - not to be confused with trend level of output, which is what the economy is capable of producing when working at full capacity. actual output differs from the trend level of output when there are output gaps
• what are the main phases of the economic cycle?

  • boom
  • downturn (or slowdown)
  • recession
  • recovery (or upswing)
• what happens in a boom?

  • high growth
  • falling unemployment
  • rising inflationary pressures
  • positive output gap
• what happens in a recession?

  • two consecutive quarters of negative growth
  • rising unemployment
  • falling investment and consumption
  • often lower inflation or deflation
• what is a positive output gap?

  when actual GDP is above potential GDP - economy overheating, leading to inflationary pressure
• what is a negative output gap?

  When actual GDP is below potential GDP - unemployment and spare capacity in the economy
• what factors cause fluctuations in the economic cycle?

  • changes in AD (consumer confidence, investment, government spending, exports)
  • supply shocks (oil prices, pandemics, war)
  • financial crises and credit availability
• What are the main benefits of economic growth?

  • rising incomes and living standards
  • Falling unemployment
  • higher tax revenues for government (more spending on health, education)
  • More business confidence and investment opportunities
• what are the main costs of economic growth?

  • inflationary pressures (especially demand-pull)
  • environmental damage (pollution, climate change)
  • rising inequality if growth is uneven
  • current account deficits if imports rise faster than exports
• how does economics growth affect individuals?

  • positives: more jobs, higher incomes, better access to goods/services
  • negatives: work stress, inequality, higher cost of living if inflation rises
• how does economic growth affect the wider economy?

  • expands productive capacity
  • creates fiscal space for governments
  • risk of unsustainable booms and busts
  • structural change (shifts from manufacturing to services)
• how does economics growth affect the environment?

  • can lead to pollution, overuse of finite resources, and climate change
  • but sustainable growth (renewables, green tech) can reduce environmental costs
• why can growth sometimes increase inequality?

  • gains may go disproportionately to owners of capital or skilled workers
  • regional disparities may widen if growth is concentrated in certain sectors
• what is meant by ‘inclusive growth’?

  growth that raises living standards for all groups in society and reduces inequality
• how does economic growth link to the economic cycle?

  growth fluctuates due to booms, slowdowns, recessions and recoveries - driven by changes in AD and supply shocks
• Besides GDP, what indicators are used to identify phrases of the economic cycle?

  • unemployment rate (rises in recessions, falls in booms)
  • Inflation rate (demand-pull in booms, disinflation in recessions)
  • Business investment levels
  • Consumer confidence and spending
  • Balance of payments performance
  • Capacity utilisation in industry
• what is an output gaps?

  the difference between actual GDP and potential GDP
• how does AD/AS analysis show output gaps?

  • if AD intersects AS to the left of potential output -> negative gap
  • if AD intersect AS to the right of potential output gaps-> positive gap
• why are output gaps important for policymakers?

  they help decide whether to use expansionary or contradictory fiscal/monetary policy to stabilise the economy
• what has been the typical gap situation in the UK since 2008?

  • 2009-2013: the large negative output gaps due to the financial crisis and austerity
  • 2014-2019: output gap narrowed as recovery took hold
  • 2020 (covid): sharp negative output gaps due to lockdowns
  • post-2021: recovery but risks of inflationary pressure created positive gaps in some sectors
• why are output gaps hard to measure accurately?

  because potential GDP is not directly observable - must be estimated using productivity, labour market slack, and capital utilisation
• how does output gaps affect inflation in the UK?

  • positive gaps -> demand-pull inflation (seen in 2021-22 with supply chain issues)
  • negative gaps -> disinflation/low inflation (e.g post 2008 stagnation)
• how does unemployment link to output gaps?

  • negative gaps -> cyclical unemployment rises
  • positive gaps -> unemployment falls, possibly below the natural rate
• economics growth is measured as a change in real GDP rather than as a change in nominal GDP