Theme 2
2.1.1 Economic growth
The most common measure of national income is GDP (gross domestic product). In the UK this is
measured by the ONS (office for national statistics).
Economic growth is an increase in the amount of goodsand services produced per head of the
population over a period of time. This is only sustainable if it can be maintained.
GDP is the total market value of goods/services producedover a given period.
GVA (gross value added at basic prices) is GDP minus indirect taxes plus subsidies.
Basic price adjustment is indirect taxes minus subsidies.
GNI (gross national income) is the total value of goods and services produced by a country in a given
time period plus net overseas interest payments and dividends. This is used more often due to
increasing remittances.
GNP (gross national product) is the market value of goods and services produced over time through
the labour or property supplied of a country's citizens, domestically and overseas.
Net national income is national income minus depreciation.
National income is the measure of output, expenditureand income of an economy.
Remittance is the flow of money overseas by migrantworkers.
Real GDP measures the volume of a country's GDP whilst nominal GDP measures the value of a
country's GDP.
Comparing nominal GDP and exchange rate is not a good comparison of two countries:
● Exchange rates are volatile affecting the comparison of an economy.
● GDP may be calculated differently.
● Lots of other factors to consider when comparing economies.
The US GDP is 7 times the size of the UK, though living standards can be compared better through
GDP per capita. This means US GDP is only 4 times the UK. GDP per capita is the GDP divided by the
population size.
Transfer payments are excluded from national income. These are payments without output to the
economy. E.g. children receive pocket money, unemployment benefits, or a second hand car sale.
GDP is used for:
● Academic economists to test hypotheses and build models.
● Governments and firms forecast changes in the economy, helping to plan for the future.
● To make comparisons over time showing economic growth rate.
● They are used to make judgements on economic welfare e.g. living standards.
GDP is not accurate due to:
● Statistical inaccuracies e.g. mistakes.
● Hidden economy (economic activity of trade and exchangeunreported to tax authorities or
those that take GDP statistics). Some people evade taxes whilst other things are sold in the
black market (cash only). The UK hidden economy is estimated to be 7-15% of GDP.
● Home produced services e.g. subsistence farming, housewives or DIY jobs.
● Public sector, a lot of the public sector cannot bevalued due to not being bought or sold.
Increased productivity also looks like output has decreased.
GDP and living standards comparisons over time has problems:
● Prices rise, increased GDP does not mean increased output. It is essential to consider the
real not nominal GDP change.
● Statistics are inaccurate. Also inflation rate calculates errors and the method used to
calculate GDP and inflation changes over time.
● Population changes, GDP is used to compare living standards. It is important to do GDP per
capita when doing this.
● Quality of goods and services. Quality will improve over time due to advancement in
technology leading to a price fall. This would show a GDP fall saying living standards have
also fallen. Pay in the public sector has increased faster than inflation resulting in it looking
like a GDP increase.
● Defence and related expenditures, war time meant that the UK had a high GDP spent on
defence with no increase in output.
, ● Consumption and investment, standard of living is affected by how much is invested and how
much is consumed.
● Externalities, these are not taken into account. E.g. pollution, green GDP is GDP that takes
into account environmental costs of production.
● Income distribution, national income increase does not mean everyone has a higher income,
distribution changes over time.
GDP and living standard comparison between countries problem:
● Countries use different accounting to calculate GDP.
● The quality of national income datavaries.
● Size of the unrecorded economydefers e.g. Italy’s larger than Sweden.
● National income figures must be adjusted to population size.
● Quality of goods and servicesdefer e.g. broadband, only the amount spent recorded.
● Countries expenditure on things that do not affect life quality e.g. defence are accounted for.
This differs between countries.
● National income statistics do not take into account external factors.
● Income distribution differs between countries.
● Geography distorts comparison e.g. heating bills.
● Market exchange rates do not reflect purchasing power giving distorted living standards.
Purchasing power parity is an exchange rate of onecurrency for another comparing how much a
typical basket of goods costs in one country in comparison to another.
Purchasing power parity is constructed by trying to work out an identical basket of goods costs in the
country's currency. Then get the value of both baskets in dollars and work out the exchange rate
between them. It is useful as exchange rates can under or over value countries' currencies.
PPP is needed as it helps compare living standards as exchange rates are volatile and only relevant for
some goods e.g. hairdresser price fluctuates in a nation.
Issues with this is:
● Quality of data
● Basket needs updating
● What should go in the basket is disputed
● It is hard to get the same products in the basket that is why we use a big mac index
sometimes as it’s an identical brand and good.
Wealth is a stock of assets which produces a flowof income over time.Income is rent, interest, wages
and profits earned from wealth owned by economic actors.
National income is used to show welfare over time but this is not always accurate. Happiness and
income are only related at low levels, there is rapid marginal diminishing utility. Income only affects
happiness a lot when basic needs are not met. Income does not correlate to happiness e.g. if everyone
owns a tv it will make you less happy when you buy it or income is important in comparison to the
countries average income. High income may give happiness due to creating social status or due to
correlating with factors such as good health that give happiness.
2.1.2 Inflation
Inflation is a sustained general rise in price levels across the economy (causing a fall in the value of
money). Deflation is a sustained general fall in price levels across the economy. Disinflation is a
general fall in the rate of inflation.Hyperinflation is when inflation is very high.
Reflation is a rise in GDP following a recession. Stagflation is a period of rising inflation or highin a
recession, with falling output. Deflationary policies are pursued by the government to reduce the rate
of economic growth and inflation causing disinflation.
, The BofE aims for low stable inflation of 2% to stimulate demand, avoid deflation and so that we have a
sustainable price increase:
● Leads to healthy demand and thus employment and pay rises.
● Increased sales due to encouraging spending, investment and economic growth.
● Businesses may cut costs from not increasing payments and allowing planning.
● Erodes debt.
Consumer price index
Consumer price index is a measure of the price levelacross the EU used by the bank of england to
measure inflation against its target.
Retail price index
Retail price index is a measure of the price levelwhich has been calculated in the UK over 60 years
and used in a variety of contexts such as the government to index welfare benefits.
The basket of goodsreflects goods and service common consumption habits to show the changing
cost of living.
How to measure inflation:
1. In the living costs and food survey a representative range of goods and services are recorded
and a basket of goods are created on a regular basis.
2. Surveys are then sent out to get prices for these goods and services at shops and
supermarkets and the average price is converted into index number form.
3. Some figures are weighted e.g. food carries more weighting than tobacco.
4. The weighted averages are then added together to monitor the change in price indices.
5. Multiply each weight by its corresponding price index, sum these values together and divide
the result by 1000.
6. The change in index value of the basket then will thus represent inflation.
Limitations:
● Household spending patterns are constantly changing and it is only changed every year and
thus slow to respond to changes.
● It’s only an average consumer and does not represent each individual's inflation rate e.g.
petrol won't affect kids, pensioners spend more income on food.
● Does not measure the quality of goods.
● Does not take into account all production and consumption in an economy.
● Does not take into account substitutes as price rises.
● When making comparisons over time we are comparing different goods.
Inflation causes
Demand pull inflation
Demand pull inflation occurs when there is a rise in aggregate demand and not an increase in
aggregate supply due to excess demand. This then causes the price level to rise. This may also be
caused due to growth in money supply from central banks through borrowing and lending allowances,
leading to more spending (not when in a liquidity trap and recession).
The demand increase in a country may be due to:
● Consumer spending is rising excessively.
● Firms are increasing their investment substantially.
● Governments are increasing its spending or cutting taxes.
● The world demand for UK exports is rising due to a boom.
Seen as less harmful as its associated with improving living standards, productive capacity, increased
profits and thus investment.
Cost push inflation
2.1.1 Economic growth
The most common measure of national income is GDP (gross domestic product). In the UK this is
measured by the ONS (office for national statistics).
Economic growth is an increase in the amount of goodsand services produced per head of the
population over a period of time. This is only sustainable if it can be maintained.
GDP is the total market value of goods/services producedover a given period.
GVA (gross value added at basic prices) is GDP minus indirect taxes plus subsidies.
Basic price adjustment is indirect taxes minus subsidies.
GNI (gross national income) is the total value of goods and services produced by a country in a given
time period plus net overseas interest payments and dividends. This is used more often due to
increasing remittances.
GNP (gross national product) is the market value of goods and services produced over time through
the labour or property supplied of a country's citizens, domestically and overseas.
Net national income is national income minus depreciation.
National income is the measure of output, expenditureand income of an economy.
Remittance is the flow of money overseas by migrantworkers.
Real GDP measures the volume of a country's GDP whilst nominal GDP measures the value of a
country's GDP.
Comparing nominal GDP and exchange rate is not a good comparison of two countries:
● Exchange rates are volatile affecting the comparison of an economy.
● GDP may be calculated differently.
● Lots of other factors to consider when comparing economies.
The US GDP is 7 times the size of the UK, though living standards can be compared better through
GDP per capita. This means US GDP is only 4 times the UK. GDP per capita is the GDP divided by the
population size.
Transfer payments are excluded from national income. These are payments without output to the
economy. E.g. children receive pocket money, unemployment benefits, or a second hand car sale.
GDP is used for:
● Academic economists to test hypotheses and build models.
● Governments and firms forecast changes in the economy, helping to plan for the future.
● To make comparisons over time showing economic growth rate.
● They are used to make judgements on economic welfare e.g. living standards.
GDP is not accurate due to:
● Statistical inaccuracies e.g. mistakes.
● Hidden economy (economic activity of trade and exchangeunreported to tax authorities or
those that take GDP statistics). Some people evade taxes whilst other things are sold in the
black market (cash only). The UK hidden economy is estimated to be 7-15% of GDP.
● Home produced services e.g. subsistence farming, housewives or DIY jobs.
● Public sector, a lot of the public sector cannot bevalued due to not being bought or sold.
Increased productivity also looks like output has decreased.
GDP and living standards comparisons over time has problems:
● Prices rise, increased GDP does not mean increased output. It is essential to consider the
real not nominal GDP change.
● Statistics are inaccurate. Also inflation rate calculates errors and the method used to
calculate GDP and inflation changes over time.
● Population changes, GDP is used to compare living standards. It is important to do GDP per
capita when doing this.
● Quality of goods and services. Quality will improve over time due to advancement in
technology leading to a price fall. This would show a GDP fall saying living standards have
also fallen. Pay in the public sector has increased faster than inflation resulting in it looking
like a GDP increase.
● Defence and related expenditures, war time meant that the UK had a high GDP spent on
defence with no increase in output.
, ● Consumption and investment, standard of living is affected by how much is invested and how
much is consumed.
● Externalities, these are not taken into account. E.g. pollution, green GDP is GDP that takes
into account environmental costs of production.
● Income distribution, national income increase does not mean everyone has a higher income,
distribution changes over time.
GDP and living standard comparison between countries problem:
● Countries use different accounting to calculate GDP.
● The quality of national income datavaries.
● Size of the unrecorded economydefers e.g. Italy’s larger than Sweden.
● National income figures must be adjusted to population size.
● Quality of goods and servicesdefer e.g. broadband, only the amount spent recorded.
● Countries expenditure on things that do not affect life quality e.g. defence are accounted for.
This differs between countries.
● National income statistics do not take into account external factors.
● Income distribution differs between countries.
● Geography distorts comparison e.g. heating bills.
● Market exchange rates do not reflect purchasing power giving distorted living standards.
Purchasing power parity is an exchange rate of onecurrency for another comparing how much a
typical basket of goods costs in one country in comparison to another.
Purchasing power parity is constructed by trying to work out an identical basket of goods costs in the
country's currency. Then get the value of both baskets in dollars and work out the exchange rate
between them. It is useful as exchange rates can under or over value countries' currencies.
PPP is needed as it helps compare living standards as exchange rates are volatile and only relevant for
some goods e.g. hairdresser price fluctuates in a nation.
Issues with this is:
● Quality of data
● Basket needs updating
● What should go in the basket is disputed
● It is hard to get the same products in the basket that is why we use a big mac index
sometimes as it’s an identical brand and good.
Wealth is a stock of assets which produces a flowof income over time.Income is rent, interest, wages
and profits earned from wealth owned by economic actors.
National income is used to show welfare over time but this is not always accurate. Happiness and
income are only related at low levels, there is rapid marginal diminishing utility. Income only affects
happiness a lot when basic needs are not met. Income does not correlate to happiness e.g. if everyone
owns a tv it will make you less happy when you buy it or income is important in comparison to the
countries average income. High income may give happiness due to creating social status or due to
correlating with factors such as good health that give happiness.
2.1.2 Inflation
Inflation is a sustained general rise in price levels across the economy (causing a fall in the value of
money). Deflation is a sustained general fall in price levels across the economy. Disinflation is a
general fall in the rate of inflation.Hyperinflation is when inflation is very high.
Reflation is a rise in GDP following a recession. Stagflation is a period of rising inflation or highin a
recession, with falling output. Deflationary policies are pursued by the government to reduce the rate
of economic growth and inflation causing disinflation.
, The BofE aims for low stable inflation of 2% to stimulate demand, avoid deflation and so that we have a
sustainable price increase:
● Leads to healthy demand and thus employment and pay rises.
● Increased sales due to encouraging spending, investment and economic growth.
● Businesses may cut costs from not increasing payments and allowing planning.
● Erodes debt.
Consumer price index
Consumer price index is a measure of the price levelacross the EU used by the bank of england to
measure inflation against its target.
Retail price index
Retail price index is a measure of the price levelwhich has been calculated in the UK over 60 years
and used in a variety of contexts such as the government to index welfare benefits.
The basket of goodsreflects goods and service common consumption habits to show the changing
cost of living.
How to measure inflation:
1. In the living costs and food survey a representative range of goods and services are recorded
and a basket of goods are created on a regular basis.
2. Surveys are then sent out to get prices for these goods and services at shops and
supermarkets and the average price is converted into index number form.
3. Some figures are weighted e.g. food carries more weighting than tobacco.
4. The weighted averages are then added together to monitor the change in price indices.
5. Multiply each weight by its corresponding price index, sum these values together and divide
the result by 1000.
6. The change in index value of the basket then will thus represent inflation.
Limitations:
● Household spending patterns are constantly changing and it is only changed every year and
thus slow to respond to changes.
● It’s only an average consumer and does not represent each individual's inflation rate e.g.
petrol won't affect kids, pensioners spend more income on food.
● Does not measure the quality of goods.
● Does not take into account all production and consumption in an economy.
● Does not take into account substitutes as price rises.
● When making comparisons over time we are comparing different goods.
Inflation causes
Demand pull inflation
Demand pull inflation occurs when there is a rise in aggregate demand and not an increase in
aggregate supply due to excess demand. This then causes the price level to rise. This may also be
caused due to growth in money supply from central banks through borrowing and lending allowances,
leading to more spending (not when in a liquidity trap and recession).
The demand increase in a country may be due to:
● Consumer spending is rising excessively.
● Firms are increasing their investment substantially.
● Governments are increasing its spending or cutting taxes.
● The world demand for UK exports is rising due to a boom.
Seen as less harmful as its associated with improving living standards, productive capacity, increased
profits and thus investment.
Cost push inflation
