Hard macroeconomics questions – Flashcards

>An increase in the rate of interest will increase the cost of borrowing to firms. >A higher interest rate increases the opportunity cost of investment. >A higher interest rate may encourage firms to place profits in financial institutions rather than invest/increase reward to firms from saving. >Consumer expenditure may fall with a higher interest rate which may reduce firms' profits. >Lower profits may reduce firms' ability and willingness to invest. >Investment involves spending on capital goods. >If firms expect the yield to exceed the rate of interest they will still invest/firms may be optimistic about the future. >Firms may not expect the rise in the rate of interest to last. >Banks may not pass on the rate increase to their customers. >Other factors may be favourable to investment, eg low corporation tax. >In real terms the rate of interest may have fallen. >Depends on the initial rate of interest. >Depends on the size of the increase.

>Low unemployment would involve high utilisation of resources/economy would operate close to production possibility curve. >Low unemployment will lead to high output/income. >Low unemployment may mean higher living standards. >Low unemployment may mean low poverty. >Low unemployment may reduce social problems eg crime. >Low unemployment may increase tax revenue. >Low unemployment would reduce government spending on benefits. >Low unemployment may reduce income inequality. >It may conflict with other policy objectives. >Low unemployment may result in inflation. >Low unemployment may reduce flexibility. >Low unemployment may increase a current account deficit. >It will depend on the scale of unemployment relative to other macroeconomic problems. >Inflation can cause a range of problems. >Steady and sustainable economic growth can enable a government to achieve a range of macroeconomic objectives. >A current account deficit may put unwanted downward pressure on the exchange rate. >It may be necessary to focus on reducing national debt in order to retain confidence in the economy. >May be difficult to reduce unemployment. >It can depend on the type of unemployment. >The main objective should be full employment rather than low unemployment.

increase competition (one mark). raise the profit incentive (one mark). increase investment (one mark). reduce costs of production (one mark). raise efficiency/productivity (one mark). increase aggregate supply/productive capacity (one mark). raise GDP (output)/long run economic growth/result in sustained economic growth (one mark). increase quality of output (one mark).

increase the skills of labour/human capital (one mark) increase labour productivity/output per worker/efficiency (one mark) raise occupational mobility (one mark). lower costs of production (one mark). increase aggregate supply/productive capacity (one mark). raise GDP (output)/long run economic growth/result in sustained economic growth (one mark). Increase quality of output (one mark).

increase the incentive to work (one mark). raise the size of the labour force (one mark). increase aggregate supply/productive capacity (one mark). raise GDP (output)/long run economic growth/result in sustained economic growth (one mark). increase quality of output (one mark).

The effect of the rise will depend on how demand responds to the price changes. If, for instance, the quality of domestic products increase, demand for the economy's exports and demand for its imports may remain unchanged. If incomes abroad rise or trade restrictions abroad are reduced, the economy may continue to enjoy a large current account surplus and so aggregate demand may not decrease. Lower aggregate demand will have more of an impact on an economy's inflation rate if the economy is initially operating close to full capacity. Producers may not pass on lower imported raw material costs to consumers. If domestic firms do not have substitutes in the form of imports they may continue to raise their prices. A higher exchange rate may discourage FDI as it will make exports from the country more expensive/encourage domestic firms to move abroad. This could reduce AS and lead to a higher inflation rate. The impact on the economy's inflation rate may be greater, the more open the economy is. The effect on aggregate demand will be influenced by what is happening to the other components of AD. The effects may be offset by a rise in productivity or higher inflation abroad.

Change/rise/fall in the price level.

A fall in unemployment may mean more people are in work. Lower unemployment may increase output/real GDP/incomes. Rise in consumer expenditure. May increase investment. May increase tax revenue leading to higher government spending. Higher C, I or G may increase AD. Higher AD may increase output/real GDP. A rise in real GDP is an increase in economic growth. Fuller use is made of existing resources/capacity. Lower unemployment may enable the government to switch its spending that may increase labour productivity/skills. Up to three marks for evaluation. A fall in the unemployment rate does not necessarily mean more people are employed. There are a number of reasons why people may stop being unemployed including retiring, entering education and emigrating. Consumer expenditure may not rise despite high income if consumer confidence is low/saving may rise. Imports may increase - raising employment abroad. Lower unemployment may generate a multiplier effect, causing AD to rise by more than the initial change. Depends on the size of the fall. Depends on the duration of the fall. Lower unemployment does not increase potential economic growth/long run economic growth unless it reduces the full employment level of unemployment. If the fall in unemployment moves the economy closer to full employment it may have more impact on P than on Y

Measured by the consumer prices index/retail price index. A base year is selected. A survey is carried out, such as The Expenditure and Food Survey, a Family or Household Expenditure Survey. A basket of goods and services used/a representative selection of items used. There is recognition that there are some differences in the items included in CPI and RPI. These products are put into different categories. Weights are attached to items. Weights are based on items' importance in people's expenditure. Weights/items are changed each year. Prices are checked in a range of outlets. Price changes are compared over time. Weights are multiplied by price changes. The weighted price changes are then totalled to calculate the inflation rate

Lower disposable income or less to spend. Consumer expenditure may fall. Aggregate demand may fall (may be shown on a diagram). Demand-pull inflation may fall (may be shown on a diagram). Higher tax revenue may take spending out of circulation if not matched by a rise in government spending Consumers may keep spending unchanged if they are confident about the future and instead cut back on saving. Inflation may be caused by factors other than a rise in income tax. Higher income tax may stimulate wage claims and higher wages may contribute to cost-push inflation. There may be tax evasion. The impact will be influenced by the current level of economic activity. The effect will depend on the size of the rise in income tax. The effect will depend on the duration of the rise in income tax. Time lag. The impact will vary across different income levels. Another/other component(s) of AD may change offsetting the fall in AD.

A conclusion that it is generally harmful as it is likely to have an adverse effect on the government's macroeconomic objectives. A recognition that it is likely to be harmful and this is why governments' supply-side policy measures always seek to increase aggregate supply and do not try to reduce it. It is important for AS to increase to keep up with increases in aggregate demand. The effect of a decrease in AS will partly depend on the cause. A decrease in investment will be particularly harmful as it will also decrease aggregate demand. A fall due to e.g. a rise in the school leaving age/numbers in HE may later increase AS. The effect will be influenced by the size and duration of the decrease. A larger, long run decrease will have a larger impact. The effect on unemployment is uncertain as there may be a difference in the number and rate of the unemployed. The effect will depend on the initial level of economic activity. If there is initially considerable spare capacity, the effect will be less harmful than if the economy is operating at full capacity he inclusion of an AD/AS diagram showing how it may affect an economy with some written explanation of the effect of the change in the price level and output/real GDP on macroeconomic performance. A reduction in productive capacity will result in greater competition for resources and so generate cost-push inflation. Lower AS may reduce real GDP/growth of real GDP and so lead to a recession/fall in economic growth and raise unemployment. Lower output may decrease employment in the long run especially if fewer capital goods result in fewer workers being needed to operate them. A reduction in AS may raise the relative price of exports and so increase a current account deficit. A decrease in AS resulting from a decrease in labour productivity may reduce net exports due to a fall in their quality and/or rise in their price

Recognizing that a cut in corporation tax will enable firms to keep more of their profits/raise profits available for firms. This cut will enable firms to invest more/have more retained profits to invest. Higher investment involves increased spending on capital goods/technology A reduction in corporation tax will reduce the costs of production. Awareness of the reduction may increase business confidence. Knowing that more profits can be kept will provide an incentive to invest The effect on investment will depend on the size of the cut. Firms may not invest if there is considerable spare capacity. Firms may not invest, despite the cut, if they are pessimistic about economic prospects. Corporation tax may still be high/effect on investment will depend on the initial tax rate. The cut in corporation tax may be offset by another relevant factor which is identified e.g. a rise or the level of interest rates. Firms may not invest if the cost of capital goods is high/rising

access to a larger market, access to cheaper imported raw materials, ability to specialise, opportunity to take advantage of economies of scale, access to new ideas and technology. selling to a global market may enable firms to reduce costs/increase sales/increase profits/raise finance from abroad; cheaper imported raw materials will reduce costs of production; trading with other countries can help the spread of new technology which can raise the quality of what is produced/reduce costs of production

A fall in a country's inflation rate could increase the price competitiveness of its products Lower inflation rate means prices rise more slowly Exports may increase. Imports may fall. Export revenue may increase and import expenditure may fall Current account deficit may decrease/current account may move to a surplus/surplus may increase. The inflation rate may fall but the country's products may still be more expensive than those of rival countries. An increase in price competitiveness may be offset by a fall in quality. The reduction in the inflation rate may be offset by an increase in the exchange rate. The reduction in the inflation rate may be offset by a fall in incomes abroad. The reduction in the inflation rate may be offset by a rise in trade restrictions imposed by foreign governments. An improvement in the trade in goods and services balances may be offset by deterioration in the income balance or the current transfers balance. Trade in goods and services are only two of the components of the current account. The outcome will be influenced by PED.

An increase in spending on education does not guarantee an improvement in the quality of education. Higher government spending may increase inflation and not increase economic growth in the short run if the economy is operating at full capacity. An increase in government spending may have a significant impact on economic growth in the short run if there is spare capacity and there is a large multiplier effect Productive capacity will not increase if more educated workers emigrate. Full advantage may not be gained from higher educated workers if investment falls. By increasing AD and AS, education has the potential to create sustained economic growth. Another policy measure maybe more effective in promoting economic growth with the reasons why explained. Government spending is a component of AD and higher government spending may increase AD. Higher AD may increase real GDP and so lead to economic growth. Improved education may increase the skills and productivity of workers. Higher productivity can increase productive potential/AS and so increase potential (long run) economic growth. Use of AD/AS diagram shifting AD and/or AS curve to the right with relevant explanation of why AD and/or AS may shift and the impact on economic growth

One mark for absence of fluctuations in the economy One mark for absence of booms and bust/absence of economic or trade cycle. Two marks for avoidance of volatility in any two of - economic growth rates, inflation, employment/unemployment, exchange rates

One mark for data does not generally support the view. One mark for the country, Venezuela, with the highest investment as a percentage of GDP had the lowest growth (actually negative growth). One mark for the country with the lowest investment, Brazil, had the second highest growth rate. One mark for any other relevant supporting comparison e.g. Chile had a higher investment (as a %) than Mexico but a lower economic growth rate or Mexico had higher investment (as a %) than Argentina but a lower economic growth rate. One mark for investment increases AD/may cause actual growth. One mark for investment increases AS/causes potential economic growth Up to three marks for evaluation. data does not show the actual value of investment. only a small number of countries shown. only one year is shown. economic growth rate is influenced by other factors GDP data could be nominal not real there may be a time lag between changes in investment and economic growth

higher income tax rates may reduce disposable income/purchasing power. it may reduce aggregate demand. Firms will lower output and so need fewer workers. lower aggregate demand may increase cyclical unemployment may act as a disincentive to work. higher tax rates may increase voluntary unemployment/encourage people to live off benefits. may encourage workers to press for wage rises which may increase firms' costs of production. Up to three marks for evaluation: the effect will be influenced by the size of the increase. the effect will be influenced by the original rate. workers may respond to higher income tax rates by working more hours and so AD may not fall. higher tax income rates may be accompanied by higher government spending and so AD may not decrease/may be offset by a rise in I or (X - M). higher income tax rates may reduce inflationary pressure and increase exports and employment. higher income tax rates may not be a disincentive effect if unemployment benefits are low. higher income tax rates may have less impact on structural and frictional unemployment. higher income tax rates may not discourage consumer expenditure. higher income tax rates may not raise unemployment if AD falls on the vertical part of the AS curve. if income tax is progressive higher rates will affect those on higher incomes more.

One mark for reference to the rate of interest. One mark for reference to the money supply or the exchange rate. One mark for recognising it is designed to increase aggregate demand/cut in the rate of interest/increase in the money supply/lower exchange rate.

One mark for setting an inflation target may convince people that inflation will be kept under control. One mark for recognising that if people expect inflation to be low, they will act in a way which causes inflation to be low. One mark for describing how people may behave e.g. consumers will not bring forward their purchases, workers may press for lower wage rises and firms may not push up their prices just to cover expected future higher costs. One mark for makes central bank/government more accountable/provides something for the central bank/government to aim for. One mark for can influence government/central bank policy/monetary /fiscal/supply side policy One mark for identifying a specific policy measure to influence inflation e.g. the rate of interest

One mark for exchange of products One mark for between countries / over national boundaries

current account deficit inflation depletion of natural resources pollution economic instability increase in income inequality. Exemplar response: a rise in AD may increase output but may, as full capacity is reached, cause demand-pull inflation

One mark for positive relationship One mark for higher consumer expenditure will mean firms will be selling more products. One mark for higher consumer expenditure may increase profits One mark for to expand output, firms may purchase capital goods One mark for higher profits will increase the ability of firms to invest One mark for higher C may increase firms' confidence. One mark for higher investment may improve the quality of products One mark for higher investment may reduce costs and, in turn, prices. One mark for higher quality of products/lower prices may increase consumer expenditure. One mark for the idea of the multiplier effect upon consumer expenditure

There was a difference between low, middle and high earners. Recognising that the income tax rates on lower and middle income earners were reduced whilst the income tax rate on high earners was increased. consumer expenditure is likely to have risen higher consumer expenditure may have increased aggregate demand lower and middle earners tend to spend a high proportion of their income/have a high marginal propensity to consume. high earners tend to spend a small proportion of their income/have a low marginal propensity to consume higher AD may have caused inflation/if AD increases more rapidly than AS, there will be inflation

Knowledge and understanding - For one mark One mark for a budget deficit arises when government spending exceeds taxation (although it can be implicit rather than explicit). Analysis - Up to two marks One mark for a cut in tax rates may change the balance between tax revenue and government spending. One mark for changes in consumer spending/investment/saving may influence tax revenue. One mark for changes in the hours worked may change income tax revenue. One mark for a cut in tax rates will increase disposable income/net profits and/or lower prices of products. One mark for a cut in tax rates may influence incentives to work, enterprise and saving. Comment Up to four marks for evaluating whether a cut in tax rates will result in a budget deficit, eg: coming to a judgement it will depend on the initial position it will depend on the size of the cut in tax rates if the incentive effects are uncertain the effects of cuts in direct and indirect tax on consumer expenditure and investment are uncertain it will depend on what the government does to spending A cut in taxes rates may reduce tax evasion

identifying an appropriate measure/policy which will increase/decrease AD identifying the effect of the measure/policy on consumer expenditure identifying an appropriate measure/policy which will increase AS Lower inflation may be achieved by increasing AS Identifying the likely effect of a change in AD on unemployment Identifying the likely effect of a change in AD on inflation A change in unemployment may change consumer expenditure A change in unemployment may change AD A change in unemployment may influence wage claims and so may affect cost-push inflation. it will depend on how much unemployment falls it will depend on the cause of unemployment It may depend on the cause of inflation it will depend on the initial level of economic activity different policy measures may be used to achieve the objectives supply-side policies may be able to reduce both unemployment and inflation in the long run lower inflation may reduce unemployment by making the country's products more internationally competitive other costs may fall and so cost-push inflation may not occur

The effect will depend on the size of the change. A larger cut may have a greater impact The effect will be influenced by the initial level of economic activity. It is likely to be more beneficial if the economy is initially operating with spare capacity. If an economy is operating close to full capacity, it may initially cause demand-pull inflation Lowering the rate of interest may not lead to higher AD if consumers and firms lack confidence In the long run it is important for both AD and AS to increase for economic growth to be sustained and sustainable It is possible that commercial banks may not focus on a lower rate of interest May be offset by another policy measure The inclusion of an AD/AS diagram showing how it may affect economic activity with an explanation of why AD/AS may increase It may increase consumption as saving will be discouraged It may increase C as borrowing will be cheaper For 18 marks a candidate needs to have two strong evaluation points or one strong and two reasonable For 17 marks a candidate needs to have at least one strong evaluation point and one reasonable point For 16 marks a candidate needs to have one strong evaluation point on one brief evaluation point or two reasonable evaluation points For 15 marks a candidate needs to have one strong evaluation point or one reasonable evaluation point and one brief evaluation point For 14 marks a candidate needs to have one reasonable evaluation point or two brief evaluation points For 13 marks a candidate needs to have one brief evaluation point 12 marks for good analysis of the impact on two influences on AD and also the impact on AS. 11 marks for good analysis of the impact on two influences on AD or on AS, or one good and one reasonable point on AD and one on AS 10 marks for reasonable analysis of the impact on two influences on AD. 8 F582 Mark Scheme June 2011 Question Mark Rationale E xpected Answer It may increase C as discretionary income will rise It may increase investment as borrowing will be cheaper It may increase I as firms will expect higher sales It may increase I as the opportunity cost of investment will fall It may increase (X-M) as a lower interest rates may reduce the exchange rate higher C, I and (X-M) will raise AD It may increase AS as higher I will increase productive capacity An increase in AD may lead to an increase in real GDP. There should be some direct link in the analysis to economic growth. This might be by the use of an AD/AS diagra

eg lost output/lower GDP/producing inside PPC/inefficiency. Lower income/lower living standards/increased poverty lower tax revenue, increased spending on unemployment benefit (job seekers' allowance).

1 mark for tariffs are a tax on imports/import duties 1 mark for tariffs are likely to raise the price 1 mark for a higher price may reduce the price competitiveness of the country's exports 1 mark for it will be difficult if demand is elastic/depends on PED

mark for an awareness that a depreciation is a fall in the exchange rate. Analysis - Up to two marks 1 mark for a depreciation will lower export prices and raise import prices. 1 mark for demand for exports should rise and demand for imports should fall. Or: 1 mark for a depreciation will lower export prices and so raise demand for exports. 1 mark for a depreciation will raise import prices and so lower demand for imports. Comment- Up to four marks Up to 4 marks for evaluating the extent to which a depreciation will improve/not improve a country's trade in goods balance. It will depend on eg: the extent to which the currency depreciates what happens to the quality of exports and imports what happens to incomes at home and abroad what happens to trade restrictions abroad the price elasticity of demand for exports and imports how much costs of production are increased by the higher price of imported raw materials.

In practice, it can be difficult to reduce some forms of government spending, eg on education and health care. The measure is more likely to be effective if the economy is operating at full capacity. The effectiveness will be influenced by the size of the multiplier. The larger the multiplier, the less government spending will have to be cut to achieve a given reduction in inflation. A reduction in government spending on e.g., training infrastructure may increase firms' costs of production and so contribute to cost-push inflation. Reducing government spending may not reduce aggregate demand, if other components of aggregate demand fall, or if taxation is reduced. In the longer term, supply-side policies may be more effective in avoiding inflation, whilst allowing the economy to grow. Monetary policy (interest rate increase) or increasing income tax may be more effective by directly influencing C + I which are larger components of AD. Reducing government spending may have an adverse effect on the macroeconomic objectives of low unemployment and economic growth. Government spending is a component of AD and so lower government spending will reduce AD. A reduction in government spending is deflationary fiscal policy which may be designed to reduce demand-pull inflation. Lower AD may reduce demand-pull inflation if the economy is operating at or close to full employment/maximum capacity. The inclusion of an AD/AS diagram showing how a shift to the left of the AD curve may reduce inflationary pressure/the price level. Lower government spending on benefits may increase incentives and so raise output and put downward pressure on prices. Lower government spending on benefits may reduce consumer expenditure and so lower AD

It will increase the cost of borrowing It will increase the reward for saving It will reduce consumer expenditure It will reduce investment It will reduce aggregate demand. Lower aggregate demand will put pressure on producers to cut prices It will be influenced by how much the rate of interest is increased Aggregate demand may continue to rise if consumers and producers are optimistic about the future It will raise firms' costs of production which may contribute towards cost-push inflation.

1 mark for a high value of the currency will mean export prices are high. 1 mark for high export prices may discourage demand. 1 mark for a high value of the currency will result in import prices being low. 1 mark for low import prices may increase demand. 1 mark for low export revenue and high import expenditure can result in a trade deficit. Up to a maximum of 4 points

The effects of economic growth will be influenced by the type of extra products produced. For example, if more consumer goods and services are made, living standards will rise now. If more capital goods are made, it may take a little while for living standards to increase. If more weapons are made, people may not feel better off For living standards to rise, real GDP has to increase by more than population, so real GDP per head increases If income is unevenly distributed, only a small proportion of the population may benefit for economic growth The more sustainable economic growth is, the more beneficial it is likely to be. Avoiding depleting non-renewable resources and pollution, is more likely to enable economic growth to continue for future generations Outcome will depend on the nature of economic growth i.e. whether it is short or long run. Economic growth resulting from a shift of the aggregate demand curve to the right may be associated with inflation whilst potential economic growth resulting from a shift to the right of the aggregate supply curve may reduce inflationary pressure Economic growth caused by shifts of both the AD and AS curves will last for longer than economic growth resulting from just a shift in one curve Economic growth may have both costs and benefits for economic growth to be beneficial the benefits must outweigh the costs. As economic growth is a macro economic objective for most governments this suggests most countries regard economic growth as beneficial Economic growth can raise living standards by producing more goods and services and increasing employment opportunities If an economy is producing at full capacity, there will be an opportunity cost involved in achieving economic growth. Resources will have to be shifted from producing consumer goods to produce capital goods

risk of double counting (1) as using the output method, raw materials must not be counted twice (1) need to exclude transfer payments (1) as only incomes earned in producing products must be included (1) the existence of undeclared economic activity (1) may mean that real GDP figures understate the true level of the country's output (1) the need to measure inflation accurately (1) as nominal (money) inflation has to be adjusted to get real GDP.

2 marks for the process by which any change in a component of AD results in a greater final change in real GDP. (Also accept the formula 1/mpw for 2 marks, but remember this is not required at this level.) 1 mark for idea that a change in spending has a knock on effect/affected by injections.

1 mark for each of two ways stated eg reduction in/abolition of tariffs, increase in quota levels or abolition of quotas, removal of embargoes, removal of subsidies, joining an international organisation or trade bloc that promotes free trade. Plus up to 2 marks each for each explanation of how the ways would reduce protectionism, eg a reduction in tariffs would lower the price of imports on the domestic market. (1) This would make them more price competitive relative to home produced goods. +(1) increase in quota levels would allow more imports into the country. (1) If these imports are cheaper or better quality, demand for domestically produced products is likely to fall. (1

exports are a component of aggregate demand./injection into the circular flow an increase in exports will raise aggregate demand. higher aggregate demand will encourage firms to expand output. to raise production, firms may employ more workers/increases employment. Up to 3 marks for evaluating effects eg: the impact on employment will depend on whether exports rise by more than imports. another component of aggregate demand may fall. higher output could result from improved productivity or capital investment and so employment may not rise. if the economy is operating at full employment, it may not be possible to increase employment. final effect one employment may be greater than the initial impact due to the multiplier effect.

Changes in the current and expected profit level may have more impact on investment than changes in the rate of interest. Firms will not want to invest even if the rate of interest falls very low if it is thought that investment will not be profitable. If consumer confidence is low, a fall in the rate of interest may not encourage higher consumer expenditure. If business confidence is low, firms are unlikely to invest. Consumer expenditure and investment may not change if it is thought that the lower interest rate will not last. Borrowers will gain from a lower interest rate whilst lenders will lose. Such a redistribution of income may still lead to higher consumer expenditure and investment as borrowers tend to spend more than lenders. If the rate is already very low, a cut may have little impact. A large reduction is likely to have more of an impact than a small cut A cut in the rate of interest may increase investment as the opportunity cost of investing will fall, it will be cheaper to borrow to invest and firms may anticipate higher consumer expenditure. A lower interest rate may increase consumer expenditure as it will be cheaper to borrow, saving will be less rewarding and borrowers' discretionary income will be higher. A reduction in the rate of interest would be likely to encourage consumers to spend more as less return from saving A reduction in the rate of interest would be expected to increase investment as cheaper to invest..

1 mark for identifying a measure eg government spending on education, privatisation, a cut in income tax, subsidies. Up to 3 marks for explaining how a supply side measure could improve a country's current account position: improved education should improve labour productivity higher labour productivity may cut costs and make exports more price competitive increase in export revenue would reduce the gap between export revenue and import expenditure. import expenditure may be reduced due to improved productivity the existence of a time lag more spending on education will not necessarily improve educational performance costs of production will not fall if wages rise by more than productivity lower export prices may not raise export revenue if incomes abroad are falling increased output may boost import spending - this is a deterioration

Up to 2 marks for explaining how a cut in income tax may increase consumer expenditure. 1 mark for explaining it will raise disposable income. 1 mark for explaining disposable income is income after the deduction of income tax (plus state benefits). 1 mark for explaining that higher disposable income will enable people to spend more. Up to 4 marks for evaluating whether consumer expenditure will rise: eg, it will be influenced by how much income tax is cut. consumers may not spend more if pessimistic about the future. spending on imports may rise. it may be offset by other factors, e.g. a rise in the interest rate

The effect that an increase in AD has on output (real GDP), unemployment and inflation will depend on the size of the change. A larger increase is likely to have more of an impact than a small increase. The final effect of an increase in AD may be greater than the initial increase due to the multiplier effect. The impact will depend on the degree of spare capacity in the economy. If an economy is initially operating with considerable unemployment, an increase in AD may raise output and reduce unemployment but have no effect on the price level. In contrast, if the economy is operating close to full employment, the impact may just be on the price level. An increase in AD may also increase AS if it results from, e.g. an increase in investment or an increase in government spending on education and training. In this case, an economy can experience both actual and potential economic growth. Higher AD may be met by workers working overtime, an increase in labour saving investment and so unemployment may not fall. If AD does not rise in line with an increase in potential output (AS), unemployment may rise the inclusion of an AD/AS diagram showing how a shift to the right may affect output and the price level with some supporting statements. an increase in AD will mean more spending in an economy. Higher spending may encourage firms to increase their output. Higher output (real GDP) may encourage firms to take on more workers. higher AD may result in demand-pull inflation with excess demand, pulling up prices

2 marks for total/value output produced in an economy/country. 2 marks for total output produced in a given time period. 2 marks for total amount spent on the products produced by an economy. 1 mark for total output/income/expenditure. 1 mark for what is produced/earned in a country/economy. 1 mark for in a given time period.

1 mark for each of each two causes of an increase in investment identified eg rise in consumer expenditure, rise in business confidence, fall in corporation tax, fall in interest rates, advances in technology. 1 mark each for each of two basic explanatory points eg. higher consumer expenditure increases demand for firms' products. 1 mark each for each of two further elaborations eg to produce more products, firms may have to expand their capacity

1 mark for stating a difficulty, eg. figure can be affected by inflation, some economic activity may not be declared, need to avoid transfer payments. 1 mark for basic explanation, eg have to remove the effects of inflation, have to assess the size of the informal economy. 1 mark for a further elaboration, eg real GDP shows changes in output, the size of the informal economy is influenced by tax rates

2 marks for identifying a cause of unemployment, eg lack of aggregate demand, decline of particular industries. (x2). 1 mark each for each description eg if AD is low, firms' output will be low so production will be low and not many workers will be needed; (x2) Or switches in demand, changes in technology and reduced international competitiveness can lead to a decline of particular industries

High output • high tax revenue • low government spending on benefits • poverty trap • increased consumer confidence Up to 2 marks for explaining an effect/effects e.g. higher tax revenue because more people in work and spending more, higher tax revenue can increase spending on education and health care. Up to 4 marks for evaluating effects, eg will depend on: • how low unemployment is • the length of time people are unemployed • the type of unemployment • there can be advantages and disadvantages e.g. demand -pull inflation

supply side policies, including education and training, may take years to have an influence on productivity and so on aggregate supply • supply side policies, including education, training, government subsidies may be expensive and government expenditure on them will have an opportunity cost • there is no guarantee supply side policies will work. For instance, privatisation may or may not increase efficiency and cut costs • supply side policies can make economic growth more sustainable and enable AD to increase without generating inflation • supply side policies may have no impact on the price level if the economy is already operating with considerable spare capacity n AD/AS diagram may be used, showing the AS curve shifting to the right with some supporting statements • education and training may increase labour productivity, which could lower costs of production and so reduce cost-push inflation • cutting income tax and reducing state benefits may increase the incentive to work and encourage enterprise and effort. If the number of hours worked increases, AS will shift to the right • a cut in corporation tax may increase the ability and willingness of firms to invest. This will increase productive capacity. privatisation and deregulation can increase competitive pressures and hence efficiency. This will lower costs of production supply side policies should shift the AS curve to the right and so raise real GDP and lower the price level. • supply side policies are designed to increase productive capacity. Having more or better quality resources increases the amount an economy can produce.