The Dynamics of the Economy

Definition Macroeconomics looks at the economy as a whole and how the parts of the economy interact in order to generate wealth.

Component Parts of the Economy (1)

Firms supply goods and services and provide employment. Households buy goods and services and supply their labour to the firms which make them Government supplies and demands goods and services. May also try to actively manage the economy.

Component Parts of the Economy (2)

Banks collect money, for example savings, and re-distribute it to those who need it, for example investment External (overseas) sector anywhere outside of the country that goods are sold to (exports) or bought from (imports)

Exercise
Draw a diagram which shows the relationships between the five components parts of the economy.

Firms Government Banks Overseas

Households

Macroeconomic Objectives
There are 4 main macroeconomic objectives: Economic growth Inflation Unemployment The Balance of Payments

Economic Growth
Definition increases in a countrys productive potential over time which is measured in terms of Gross Domestic Product (G.D.P.) per capita
Higher rates of economic growth are preferred providing that they are sustainable

Factors Which Determine Economic Growth Rates

The rate of investment in capital, including new technology The quantity and quality of labour The ability to achieve higher productivity through changes in working practices

Inflation
Definition the rate of increase in prices in the economy as a whole, measured as a percentage change in comparison to the previous year.
High rates of inflation are believed to be damaging to the economy and so should be avoided.

Sources of Inflation
Demand-pull the demand for goods and services is greater than the available supply which results in rising prices Cost-push a result of increases in firms costs, for example higher raw materials prices or wage rises, which are then passed on to the consumer in the form of higher prices

Unemployment
Definition the percentage of the labour force who want to work but do not currently have a job A high rate of unemployment is damaging to the economy as it represents a waste of resources which could otherwise be used to generate economic growth

Types of Unemployment
Frictional people moving between jobs Structural people do not have the right skills for the jobs available Demand deficient occurs when the level of demand for goods and services is not high enough, for example in a recession Classical wages are too high so that supply exceeds the demand for labour

Balance of Payments
Definition summary of a countrys trade in goods and services (current account) and financing arrangements (capital account) with other countries A large deficit on the current account is undesirable as imports are greater than exports so that money flows out of the country. The value of the countrys currency the exchange rate will fall.

Exercise
What impact will each of the following have on the macroeconomic objectives? A) more people undertaking higher education programmes B) a significant rise in the price of oil C) a recession in the economy