AS 3.4 (90632): Describe and illustrate aggregate economic activity

Transcription

1 3.4 (90632): Describe and illustrate aggregate economic activity VOCABULARY LIST Term Aggregate Demand () Aggregate demand () diagram Definition The quantity of output that is purchased at a given price level. It represents the total demand in the economy. In equation form: = C + I + ΔR + G + (X M) + SD Aggregate Demand Curve Y (= Real GDP) Aggregate Supply Is the quantity of national output (Y) that firms are willing to supply at each price level. Aggregate supply () Aggregate Supply YF Y (= Real GDP) Appreciation Balance of Payments Budget Capacity Output Occurs when the value of the NZ$increases relative to that of another currency. eg. NZ/Aus exchange rate appreciates from $1NZ = $0.6 Aus to $1 NZ = $0.8 Aus A statement that records the value of NZ s international transactions in goods, services, income and transfers and the changes in NZ s international financial assets and liabilities. It is made up of 3 parts: Current a/c + capital a/c + financial a/c The budget presents the government s financial position and information on the Government s revenue and expenditure for the coming year. Is the full employment or output of the economy with current technology and resources. Shown on / diagram as vertical line Yf.

2 Capital Account Contractionary fiscal policy Part of the balance of payments which records capital transfers and the sale/purchase of non-produced, non-financial assets. eg. Migrants funds Occurs when govt decrease govt spending or increase taxes or both, will cause a decrease in real GDP (ie. ) Contractionary fiscal policy Price Level 1 Y full Real Output Credit creation CREDIT MULTIIE R = Prudential Reserve (%) 1 Change in Money Supply = New Money X credit multiplier Credit created = change in Money Supply minus New money (NB: Credit created = secondary change; New Money = primary change) Crowding out Current Account Current Account deficit Deflation Deflationary / recessionary gap As a result of increased govt spending (or operating govt deficit) higher interest rates caused by growing govt debt "crowd out" private investment govt sector dominates economy This account records transactions in goods, sercies, income and current transfers with the ROW. balance in the balance of payment that shows a country's earnings and expenditure with the rest of the world. In equation form: Balance of goods + Balance of services + Balance of Income + Balance of Current Transfers Deficit occurs when a country's earnings (current inflows) are less than current expenditure (current outflows) Note this is current NZ situation Occurs when the inflation rate is negative (i.e.. general price level is falling) eg. inflation rate is below zero A deflationary gap exists if the short run / equilibrium is BELOW full employment real GDP (i.e less than Y f )

3 Deflationary / recessionary gap * LR Recessionary Gap 1 Y* YF Real GDP Depreciation Direct tax Disinflation Economic growth rate Exchange Rate Expansionary (loose) fiscal policy Occurs when the value of the NZ decreases relative to that of another. eg. NZ/Aus exchange rate depreciates from $1NZ = $0.9 Aus to $1 NZ = $0.8 Aus Is taxation levied on income eg PAYE (pay as you earn) Occurs when the inflation rate is reduced (i.e general price level increases but at a slowing rate) eg. inflation rate falls from 3.5 to 2.5% The percentage change in real GDP or real GDP per capita from one period to the next Is the rate at which one currency can be exchanged for another. The exchange rate is determined by the demand for and the supply of NZ dollars in the foreign exchange market. The use of government income and expenditure policies to stimulate the economy through increasing Aggregate Demand. E.g. increase in govt spending or decrease taxes. Expansionary (loose) fiscal policy Price Level Y full Real Output Expansionary (loose) monetary policy Expenditure approach for calculating GDP Factor costs Occurs when RBNZ lowers the OCR. It will do this if it believes the inflation rate in the future will go below the bottom of the PTA target, ie. 1% pa C + I + ΔR + G + (X M) + SD Cost of using resources (inputs) in a production process eg. cost of using labour = wages

4 Financial Account Fiscal Policy Fiscal Responsibility Act Foreign exchange market This account records NZ s investment transactions with the ROW. In equation form: Direct Investment + Portfolio Investment + Other Investment + Reserve Assets It refers to government budget measures that will involve changes to government expenditure and government revenue in order to influence the level of economic activity. Act provides the legislative framework for fiscal policy in NZ. The market where foreign currencies are exchanged and the price of foreign currencies (the exchange rate) established Foreign exchange market Exchange rate NZ Exchange rate eg. $1 NZ =$Aus 0.90 NZ FOREX MARKET e S $NZ = comes from people needing forex ie. all outflows from NZ in Bof P eg. import payments D $NZ = comes from people with forex wanting NZ $ ie. all inflows into NZ in Bof P eg. export receipts Q $NZ / forex Gross domestic product (GDP) Household disposable income (HDI) Income approach for calculating GDP (formula) The money value of all final goods and services produced within an economy in a given time-frame, normally one year Income available for households to spend i.e. gross income (income from employment +benefits) minus tax W + P + It - Su where W = compensation of employees P = gross operating surplus It = taxes on production and imports (i.e. indirect taxes) Su = subsidies Indirect tax Inflation Inflationary gap Is taxation levied on expenditure eg. GST Occurs when the general level of prices is increasing An inflationary gap exists if the short run / equilibrium is BEYOND full employment real GDP (i.e.. beyond Y f ) Inflationary gap LR Inflationary Gap * Y FUll Y* Real GDP

5 Jawboning (Moral Sausion) Liquidity M1 This is using RBNZ announcements to persuade the registered banks to cooperate. The speed with which an asset can be turned into cash Narrow Money Supply. Includes notes and coin held by the public plus chequeable deposits (transactions balances cheques). M2 Near Money Supply. M1 plus Transaction EFTPOS (excluding cheque) plus all other on-call funding M3 The broadest measure of NZ money supply. M2 plus NZD funding (term deposits). Term deposits cannot be broken without penalties -eg loss of interest. Monetary policy Monetised (operating) deficit Money flows Net international investment position formula Nominal GDP Nominal wages Non-monetised (operating) deficit Official Cash Rate (OCR) The action taken by the RBNZ which impacts on the interest rates, the money supply and the availability of credit to influence the level of economic activity in order to achieve price stability. Occurs when the govt operates a deficit and the method of funding the deficit leaves the system with an increase in the supply of money.(i.e. the method of funding the deficit DOESN'T offset the money supply caused by the operating deficit) eg. an operating deficit funded by borrowing from the RBNZ. The dollar value of flows (in the circular flow model) made in exchange for goods and services eg. consumer spending, incomes Total NZ investment abroad Total foreign in NZ = Net international investment position The current dollar value of all final goods and services produced in an economy in a period(normally a year) Nominal wages are the return to labour measured in current dollars. Occurs when the govt operates a deficit and the method of funding the deficit leaves the system with no change in the supply of money. (i.e.. the method of funding the deficit OFFSETS the Ms caused by the deficit) eg. an operating deficit funded by borrowing from the general public ( ie. by selling govt securities) It is an interest rate set by the RBNZ to implement monetary policy, so as to maintain price stability. The RBNZ set an official cash rate and pays 0.25% less to banks for cash held in settlement cash accounts overnight. The RBNZ will "lend" to banks and charge 0.25% above the cash rate.

6 Open market operations (OMO's) Used by the RBNZ to smooth out the impact of government transactions on the money supply eg. when govt transaction will increase money supply (eg. benefit payments) the RBNZ will sell short-term securities to withdraw cash and so offset the government transaction. On tax days (which reduce money supply) the RBNZ will buy short-term securities to put more money in circulation and again offset the govt transaction Operating balance (+ operating surplus + operating deficit) Productivity The difference between (Crown) revenue (R) and expenses (E) in a given year. Operating surplus = R>E. Output per unit of input eg. labour productivity = Operating deficit = R<E output of production process number of labour inputs Policy Targets Agreement (PTA) CPI inflation between 1 per cent and 3 per cent (on average over the medium term). CPI = All Groups Consumers Price Index (CPI) Public debt Real GDP The total amount owed by the NZ govt (both to NZ'ers and overseas) Real GDP refers to nominal GDP adjusted for price changes relative to some base year. Real GDP is the value of output per year in terms of constant prices. Real GDP (formula) Nominal GDP for X Year Price index for X year X 1000 Real flows Real wages Flows (in the circular model) of actual goods and services or resources Real wages are nominal wages adjusted for changes in the level of prices they represent the purchasing power of wages. In equation form: nominal wage divided by a price index Ie. W where W = nominal wage (eg. $10) and =Price deflator (eg. CPI)

7 Reserve Bank Act Terms of trade Contains the framework underlying monetary policy. The Act establishes price stability as the sole objective of monetary policy in NZ. Is the ratio of its export prices to its import prices expressed as an index relative to a base year. It measures the changing volume of imports which can be funded from a fixed quantity of NZ s exports. It is a measure of the purchasing power of our exports. P X P M X 1000 where: P X = exports price index P M = imports price index Tight (contractionary) monetary policy Trade weighted exchange rate index (TWI) If there are inflationary pressures building up in the economy (i.e. pressure on prices to rise) the RBNZ will tighten monetary policy by increasing the OCR. The TWI measures the exchange rate in relation to a basket of five currencies made up of the currencies of our main export markets. Trade/Business cycle (model) New Zealand Business Cycle Full employment level Economic Growth Rate Time Trade/Business cycle (stages) The trade cycle is the fluctuations in the rate of economic growth that take place in the economy.these fluctuations appear to occur around every three to five years RECOVERY PHE OF TRE CYCLE Occurs when the economy is growing faster and an output gap emerges - shortages in key resources occur PEAK OR BOOM PHE OF TRE CYCLE Occurs when the economy has reached the end (top) of its growth phase - excessive confidence, speculation occur RECESSION OR DOWNTURN PHE OF TRE Occurs when economy begins to grow more slowly identified by many economists as at least two consecutive quarters of decline - rising unemployment, business failures occur TROUGH (DEPRESSION) PHE OF BUSINESS Occurs when economy has reached the bottom of the downturn - relatively high unemployment levels occur