Economic Terms

An ongoing process that is improving the integration of the world’s economies to reduce the restrictions on where goods and services are made and sold. This allows large numbers of goods and services to be sold in many countries.

Below shows how globalisation has affected the UK economy in an AD-AS framework.

As the UK has run a trade deficit continuously since 2006 the globalisation impact on AD has been negative (indicated by AD at AD1 rather than at AD). This does not mean there has been no AD growth over that period it just means that the contribution from globalisation has been negative as the UK imports more than it exports. However, globalisation has allowed the UK economy to expand productive processes and capture economies of scale so that it has had a positive impact on the productive capacity of the UK economy (LRAS to LRAS1). Overall, the effect of globalisation is that the UK has expanded its productive capacity (YFE to YFE1) without inflationary effects (P to P1). This is an excellent example of how the expansion of productive capacity is critical to achieving sustainable economic growth. 

 

Different countries will experience a different balance of demand and supply side effects. Students will need to explain the outcome of these using AD/AS analysis.  

A physical product which commands a price when sold and yields utility when consumed.

Physical products which command a price when sold and yields utility when consumed.

A plan detailing the income and expenditure a government anticipates over a given period of time together with details of any borrowing requirements.

When a government intervention (indirect tax, subsidy or regulation) fails to correct a market failure and would create a net welfare loss compared to the free market solution.

Below is a diagram to illustrate how government intervention can sometimes fail to solve market failure and in some cases worsen the welfare belonging to society. In this instance, there is a presence of a negative externality that causes a divergence between the marginal social cost and the marginal private cost curves. Therefore the only way this externality can be removed is if the government introduces a tax equidistant to the distance between the marginal social and marginal private cost curves. However if the government imposes too high a tax then this causes the firm to have a lack of incentive to produce many goods and as a result the dead-weight loss triangle may be even greater than previously. This is normally caused by the government having insufficient information to correct market failure or the government is bowing to electorate pressures and not choosing a socially optimal policy.

Goods that are provided by the government e.g. state education. These goods can be either pure public goods or quasi public goods.

When a Government introduces a regulation, indirect tax or subsidy that is designed to overcome a specific market failure e.g taxes to discourage consumption of alcohol and petrol, subsidies to encourage installation of solar panels or state provision of education to correct insufficient supply.

Below is a diagram to illustrate how a government can successfully intervene in a market that is plagued with negative externalities.  In this instance, there is a presence of a negative externality that causes a divergence between the marginal social cost and the marginal private cost curves. Therefore the only way this externality can be removed is if the government introduces a tax equidistant to the distance between the marginal social and marginal private cost curves. In this case the government has successfully imposed a tax of the correct level and this makes the marginal social and private cost curves equal to each other and therefore firms now realise the negative externality they were producing and therefore the quantity being produced is at the socially optimal level. As a result the dead weight loss triangle has been removed and the welfare for society has increased.

 

When a Government introduces a regulation, indirect tax or subsidy that is designed to overcome a specific market failure e.g taxes to discourage consumption of alcohol and petrol, subsidies to encourage installation of solar panels or state provision of education to correct insufficient supply.

The expenditure undertaken by government to provide things like transfer payments, public services and infrastructure.

In the context of measuring Aggregate Demand any expenditure relating to transfer payments is excluded. 

Government spending is one of the key macroeconomic policy levers available to a government to control the business cycle. Increases in government spending cause an expansion in aggregate demand and decreases in government spending cause a reduction in aggregate demand.

An increase in government spending can be funded via raising taxes across the economy and/or borrowing more by selling government bonds. The decision of how the government funds the extra spending depends on the political environment, cost of borrowing and the overall health of the economy. For instance, if the cost of borrowing (i.e. bond yields) are high then the government may decide this is not a good time to borrow to invest in public infrastructure. This is because the returns generated will struggle to exceed the initial borrowing costs and interest charges. However, it may be the case that the government operates in a low growth economy and imposing heavier taxes on economic agents, could create significant long-term damage to the economy and therefore it is not feasible to raise spending by taxes and higher borrowing may be the only option.

Keynesian economists argue that governments should be active in using government spending to impact the economy, in particular encouraging an increase in government spending during recessions. Classical economists are more wary of having too much government spending due to its potential effects to cause or increase a budget deficit.

How governments use taxes and benefits to transfer wealth from the affluent to the needy sections of the economy. This helps to address inequalities in the distribution of income and wealth.