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WEEK 2- CH 4: Eco Growth & The Business Cycle - Coggle Diagram
WEEK 2- CH 4: Eco Growth & The Business Cycle
LO#1: LR Eco growth & Impact on SoL
1.1 LR Eco Growth & Real GDP per capita
Expects living standard to rise
new products
ability to afford new G&S
Technological Advancements
LR Eco Growth Def: The process by which rising productivity increase the average SoL
Real GDPpc formula
Real GDP/ Population
1.2 Determining rate of LR Eco Growth
labour productivity formula: the quantity of G&S that can be produced by one worker or by one hour of work
Determinants of avg Labour Productivity
Increase in capital per hour worked
Land & Natural resources
Political and Legal environment
Technological Change
1.3 Potential GDP
Def: level of Gap attained when all firms are producing at capacity
Normal Capacity: Real GDP = Potential GDP
Will increase overtime
As Labour force grows
New factories & office building are built
New machinery & equipment are installed
Technological change takes place
LO#2: Savings, Investment & Financial System
2.1 macroeconomics of saving & investment
The financial system
financial markets and intermediaries where firms acquire funds from households.
channels funds from savers to borrowers and channels returns on borrowed funds back to savers.
provides 3 key services for savers and borrowers
Risk Sharing
Liquidity
Information
Financial markets
financial securities
shares and bonds are bought and sold
Financial intermediaries
banks and non-bank financial intermediaries (NBFIs) that borrow funds from savers and lend them to borrowers.
credit unions, managed funds, superannuation and insurance companies
When firms use funds = they are engaging in investment.
Key point: the total value of saving in the economy must equal the total value of investment.
I = Y − C − G
(Y − C − T) + (T − G)
S = Y − C − G
therefore, S = I
Saving formulas
S_private = Y – C – T
S_public = T – G
2.2 The market for loanable funds
Def: The interaction of borrowers & lenders that determines the market i/r and the quantity of loanable funds exchanged.
Components
1.Demand for loanable funds:
determined by the willingness of firms to borrow funds to engage in new investment projects
2.Supply of loanable funds:
determined by the willingness of households to save and by the extent of government saving or dissaving
Both depend on real i/rs
Firms compare RoR on investment
Consumer: save or consume
If investment becomes more profitable:
There will be an increase in demand for loanable funds
D_1 to D_2 (and movement along the S-curve)
As a result, Increase in equilb. quantity of loanable funds (L_1 to L_2)
Increase in equilb. interest rates (i_1 to i_2).
Savings and investment both increase.
If investment became less profitable:
Decrease in equilb. quantity of loanable funds (L_1 to L_2)
Increase in equilb. interest rates (i_1 to i_2).
S_1 to S_2 (and movement along the D-curve)
There will be a decrease in supply for loanable funds
Reduces the amount of saving and investment in the economy
In fact, Higher IRs will reduce private expenditure, known as the crowding out effect. (decline in private expenditure -> increase government purchases
LO#3: The Business Cycle
3.1 Phases of the business cycle
Expansion phase
production, employment and income are increasing above trend.
End of Expansion
we see rising interest rates and wages
profits of firms begin to fall
It is because after borrowing to finance during the expansion period, they will have a great debt afterwards.
Business cycle peak
right after the expansion phase
Contraction phase
(might be followed by recession)—production, employment and income are falling below trend.
Recessions
Decline in economic activity spread across the economy and most sectors.
Lasting more than a few months (two successive quarters of negative economic growth).
Visible in key macro variables: industrial production, employment, real income and wholesale-retail trade.
End of Contraction
Begins with decreased spending by firms and decreased spending by households.
Firms sell durable goods and will see a decline in sales. They might come back to production and lay off workers, further this period leads to a reduction in spending.
3.3 Important events
AUS Experience
1974: World Oil price shock—OPEC decided to increase the price of oil 300%
1982/83: High real wages and inflation
1990: Government induced recession due to high interest rates
2007/2008: Global financial crisis (credit shortage)
counteract (large) fluctuations
Unemployment benefits and other government transfer programs
provide funds to the unemployed.
(It is to ensure unemployed people are spending, ex: jobseeker/keeper)
Federal government & RBA policies to stabilise the economy
make sure that the economy still employ people and business will stay survived and open after COVID-19
Stability of the financial system and active financial regulation
This impacts foreign borrowing -> lower availability of foreign borrowing -> reduce private foreign investment -> reduce spending
3.2 A look at the data
Consumer durables are affected by the business cycle more than non-durables.
Postpone buying durables, expensive items such as new cars, during a contraction or recession.
Noticeable cycles associated with changes in real GDP and fluctuations in car sales.
During economic expansions the inflation rate usually increases especially at the end of the expansion
Exception: If the expansion is due to rising productivity levels and an expansion of potential GDP
During contractions the inflation rate usually decreases
Exception: If the recession is caused by a supply shock
Contractions and recessions cause the unemployment rate to increase
Rate of unemployment continues to rise after a recession is over, because:
1.Discouraged workers re-enter the labour force. These employees will be counted as unemployed
2.Firms operate below capacity after the recession is over and may not rehire workers for some time.
