Annie Unsworth - Economics Notes Topic 3.Docx[1]
Transcript of Annie Unsworth - Economics Notes Topic 3.Docx[1]
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Topic 3 Economic issuesEconomic Growth
Definition: Economic growth involves an increase in the volume of goods that aneconomy produces, or increases in real output or productive capacity over a period oftime.
Measurement Economic Growth = real GDP(current) Real GDP (previous) x 100
Real GDP (previous) 1
GDP per capita = value of GDP per person Real GDP = nominal GDP (price x quantity) adjusted for inflation Real GDP = Nominal GDP x 100
1. CPIGDP: calculation of the total volume of goods that an economy producesReal GDP is the best measure of economic growth because it cancels out the effectsof changes in prices and relates the actual change in production in the time period.
Keynesian rational The equilibrium income (Y) is the level of income in the economy from which
there is no tendency for change Y = C+ S E = C + I Y = O = E Equilibrium is where
Aggregate Demand (C + I ) = Aggregate Supply (C + S)
Y1YIncomeExpenditureAggregate DemandAggregate Demand 1Aggregate Supply
Aggregate Demand The amount of expenditure in an economy Total demand for goods and services AD = C + I + GE + (X-M)
Aggregate Supply The total available supply of goods and services in the economy Y = C + S + T
There is an autonomous increase in an aggregate demand component (C+I+G+X-M),which increases demand for resources and thus increases income. Increased income
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causes a multiplied level of change in national income, known as the multiplier effectwhereby the economy will return to equilibrium (S+T+M=I+G+X) at a higherincome. Economic growth occurs as there is an increase in consumption and
production. Businesses reach maximum capacity and invest in new productivecapacity because national income increases (induced investment)
The multiplier effect A change in autonomous expenditure is redistributed within the economy In general, a change in expenditure will lead to a greater than proportionate
increase In national income Shows the total change in national income, as the increased Autonomous
expenditure travels through the economy, being saved and consumed, untilworth 0
K= 1/MPS or K = 1/(1-MPC)
MPS =S/Y In general, the multiplier in Australia is about 1.6x
Sources of economic growth
Aggregate Demand Consumption (60% of GDP) Consumer expectations
Expectations about future rates of inflation, real incomes and general availability offoods
The level of interest rates
High rates means higher savings The distribution of income
Greater equality of income distribution means higher rates of overall spending Income levels and consumption preferences
Aggregate Demand Investment (21% of GDP)
The cost of capital equipment Affected by changes in interest rates, government policies
Labour productivity substitute labour for capital
Allow existing resources to be utilised more efficiently Business expectations
Expectations about future demand for their products Capital formation
Raises productivity Aggregate Demand Government (22% of GDP)
$42 billion stimulus package to pump prime the economy
Spend on the education revolution and infrastructure
Microeconomic reform achieved productivity growth through encouraging innovation, competition and the
adoption of new technologies Aggregate Demand Exports Imports
Terms of trade have improved
Fluctuations in the $A
Depreciation = improved international competitiveness, decreases export pricesincreasing AD
Comparative Economic Growth with China
Effects of economic Growth in Australia
Benefits Living Standards
Increased real GDP per capita
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A higher disposable income means higher material living standards
Investment
High consumer and business confidence
Taxation revenue Growth dividend occurs due to bracket creep, (employees move into
higher taxation brackets) Finance welfare and alleviate poverty as will as develop infrastructure
in the economy
Employment
Generates additional employment due to increased aggregate demand
Changes the nature of employment towards more highly paid and
highly skilled jobs
Research and development
Leads to innovation, technological progress and increases in
productivity.Costs
Inflation
Demand pull inflation particularly when the economy approaches full
capacity. Due to a wage price spiral
Current consumption forgone
Since capital accumulation and technology is needed to sustain
economic growth, resources are required to be diverted away fromcurrent consumption
Income distribution
Benefits of economic growth often flow mainly to shareholders or
company executives, rather than flowing more broadly to peoplethrough wage increases or improved public services
Structural unemployment
May increase due to technological and structural changes in production
Increased number of highly skilled jobs
Environmental impacts
Detrimental when economic policy peruses growth above all other
goals Can result in pollution, depletion of non-renewable energy sources and
damage to local environment
External Stability
Increased consumer and business spending results in a higher level of
imports Causes an increase in the CAD
Increased demand leads to increased imports
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Unemployment
Measurement Labour force: the section of the population o15 years of age and above who
are employed in full-time or part time work(work for 1 hour or more eachweek), or are unemployed but are actively seeking work
Labour Force affected by Population size (Population growth rate (%) = Natural Increase (%) + Net Migration
(%) Level of net migraton Age distribution of population
Labour force = employed + unemployed
Participation Rate: The percentafe of the working age population who are inthe labour force (i.e. working or actively seeking work)
Labour Force X 100
Working age population (15+) 1
Unemployment Rate: the proportion of people who are willing and able towork, actively seeking work, but unable to find it. As of April 10 at 5.4%
Unemployed People X 100
Labour Force 1
Problems with the method used to measure unemployment: Underemployment
Unemployment doesnt take into account the hours that person work
for Many people are underemployed and would prefer to work longer
hours Hidden unemployment
Many people have given up seeking for work and are no longer
classified as part of the labour force According to the Australian Council of Social services there are 1.4
million hidden unemployed people in AustraliaTrends
Participation rates closely correlated with the unemployment rate and changesto the level of economic growth. As unemployment falls, participation levels
rise as it is easier to fid work. This saw the participation rate rise from 63.4%in 1999 to 65.25% in 2009 as previously discouraged workers re entered theworkforce
Participation rate growth from 61% to 65% from 1990 2008
Increasing female offset decreasing male
The number of married femaes I the labour force
The age of retirement
The school retention rate
The number of people in full-time post-secondary education
The level of economic activity/growth Unemployment
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Reduced 11% -4.5% between 1991-2007
April 2004
Skill shortages in healthcare, mining
Increasing part time work through GFC
Types of unemployment
Institutional Unemployment is caused by a price floor or minimum wage This restricts the price mechanism, as social objectiveness favoured over
economicMinimum Wage
Q of labour
Demand Side types of Unemployment Cyclical: Unemployment associated with the business cycle i.e. insufficient
aggregate demand to provide the required derived demand for labourE ($)
YfullYeADAD1ASUnemployment or deflationary gap
Yfull represents the full employment level of national income i.e. all
who seek a job can find a job. Ye represents the inadequate level of national income that exists
The unemployment gap represents the extant of or lack of demand for
labour in the economy The movement of AD to AD1 is the solution to cyclical unemployment
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Time Lag of 6 moths between a change in the level of economic
growth and a change in employment levels known as the ratcheteffect
Seasonal: unemployment based on the rapidly changing nature of some work
e.g. fruit picker, ski lift operator, Christmas operatorSupply Side types of Unemployment
Structural Unemployment
Structural changes within an economy (due to changes in technology
or patters of demand) may lead to a mismatch of labour skills with thejob vacancies provided.
It takes time for workers to acquire new skills before they can fill the vacanciesoffered
Skill Mismatch driven by: Industry closure Technologival change Inadequate education
Main source of Australias unemployment
Long Term Unemployment
Refers to persons unemployed for over 12 months (usually due to
structural unemployment) Hard to reduce:
Harder to be absorbed back into the workforce Normally dont possess the required skills Lose enthusiasm after numerous rejections
Underemployment: Where a person is working in an industry and not utilizing specialist skills
(e.g. o/s trained doctors as taxi drivers)OR
Where a person is working less than the desired amount of hoursHidden Unemployment:
Discouraged job seekers Those who may not be counted as part of the official unemployment statistics
because they have given up looking for work.Frictional Unemployment:
People moving between hobs or experiencing changing economic
circumstances Result of normal market turnover and the imperfect flow of
information between hob seekers and employers on the labour market.
Causes of Unemployment Cyclical Unemployment Cause
Deflationary gap arises when total spending is insufficient to
guarantee full employment of the economys resources Low AD means full employment cannot be produces there are fewer
employment opportunities Okuns law (used to justify pump priming the economy)
%Change GDP>%Change Labour force + %Change in Productivity (means that therewill be a decrease in unemployment)
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Unemployment is derived from GDP If it was equal unemployment would remain constant
Structural Unemployment Cause Microeconomic Policy forces business to increase efficiency to
compete; possibly reallocating resources, or causing labour capitalsubstitution
Tariff Removal Privatization of formerly public companies Deregulation of industries
Market orientated Change
Changes in tastes and preferences Globalization allows businesses to source foods from overseas
Technological Change
New products and new production methods, means that capital is substituted orlabour. New skills are needed wile old ones are made redundant
Inadequate Training and Investment Skills Shortages in trades people, nursing and chefs
Participation rates An increase in the participation rate will tend to increase
unemployment More people who previously were not looking for work (and were not
classified as unemployed) start actively seeking employment)
Productivity
Low productivity encourages employers to use capital in preference tolabour in production Increases in productivity also mean that the same level of output can
be produced with fewer workers
Cost of Labour Wages are established above market rates catering for future inflation
(award wages through trade unions) Demand for labour is lower. Capital may be substituted for labour or
alternatively employment may be rationed leading to unemploymentQD QS
QuantityWage
Unemployment is created, with the Award Wage reducing demand. Unemployment
represents QS-QD
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The Natural Rate of Unemployment (Non-Accelerating Rate of Unemployment) The rate of unemployment that is considered full employment in the labour
marker including seasonal, structural, hard-core, frictional The level of unemployment that exists when cyclical unemployment is zero It represents the supply constraint of the economy (the limit of labour
resources that the economy can use) Currently it is between 4-5% in Australia
UnemploymentInflationLong Run Phillips CurveShort Run Phillips Curve
Short Run Phillips Curve (SRPC): Indicates that there is a trade-off between the rates of inflation an
unemployment (Decreasing unemployment, increases inflation) Raised aggregate demand, raises demand for labour whilst producing inflation
Long Run Phillips Curve (LRPC) Once the natural rate of unemployment is reached, there is no longer a
trade off between inflation and unemployment Illustrates the limit of AD based polices to reduce unemployment
Further stimulation by the governmenta reduction in private sector spending by thecrowding out effect of higher I.R (demonstrates by the vertical Phillips cure)
Any increases in AD will only produce inglation as all cyclical unemployment isexhausted
The skill mismatch means that even though there is demand for labour,
the pool of unemployed workers does not fall.Costs of Unemployment
Economic Costs
Living Standards Unemployment reduces the production of both consumer and capital
goods Less consumer goods, leads to a reduction in current living standards and rates of
economic growth Less capital goods, decrease our future capacity to produce goods and services
Opportunity Cost Unemployment means that the economys resources are not being used
to full capacity Operating inside of the production possibility frontier
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Lower total output means lower household incomes and expenditure,
which may lower sales and profit Loess of potential economic growth as not all resources are fully
utilized
Skills Decline Unemployed will lose their labour market skills, self esteem and
experience, will become les employable
Taxation Revenue Falling incomes associated with unemployment will generate less tax
revenue Greater transfer payments misallocate government income towards
unemployment benefits, lab our market programs and trainingSocial Costs
Social Costs Severe financial hardship and poverty, increased levels of debt,
homelessness and housing problems, family tensions and breakdown,boredom, increased social isolation, crime, erosion of confidence andself esteem, loss of work skills
Increased inequality Unemployment occurs more frequently among lower income earners
in the economy, such as the young and unskilled
Groups Affected by unemployment Youth (15-19 years)
Often lack the required training, education, skills and experience
In 2009, 15.4% for males and 21.2% for females
Indigenous Australians Unemployment rate of almost 20% (4 times national average)
Age related unemployment Older workers have greater difficulty in finding work once they have
lost a job
Find it difficult to maintain the required skills and knowledge Remain unemployed for a longer period of rime
A person aged 35054 is unemployed for an average 57.8 weeks, compared with 31.8weeks for 20-24 year olds
Geographic Location Urban areas generally have slightly lower unemployment rates than
non-metropolitan areas In 2004, the figure were 52% urban compared to 6.2% rural
Occupations
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Semiskilled or unskilled occupations had unemployment rates of 7-
10% in 1998 compared to rates of 1-5% for managers, professionalsand trades people
Relationship between productivity and unemployment
Productivity the level of output produced per unit of labour in a unit of time
Okuns law Relationship between economic growth, productivity increases, labour
force changes and unemployment As productivity increases and economic growth and labour force remain
constant unemployment increases Unemployment is a lagged indicator
economic growth means that hidden unemployment reenters the labour
force
InflationInflation: A sustained increase in the general level of prices over timeFormula
Inflation Rate = Current Inflation Previous Inflation x 100Previous Inflation 1
Headline Measures the rate of change of the Consumer Price Index
The CPI summarises the movement in the prices of a basket of goods
and services (weighted according to their significance for the averageAustralian household)
Total Inflation within an economyUnderlying Excludes one off occurrences core inflation and real costs
Seasonal factors
Interest rate changes
A new government tax
Trends
Microeconomic policy, RBA targeting managed low inflation 2005-2007 saw heavy inflationary pressures peaked at 5%
Higher oil prices
Higher house prices (5%p.a.)
Tradable prices inflation raise 1.3% 2009 inflation steadied
Despite heavy stimulus, low consumption kept low inflation 1.4%
CausesASDemand Pull Inflation
ExpenditureAD
Inflationary gap
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National IncomeYf
Y
Y full denotes full employment the economy is at maximum productivecapacity as all resources (L, L, C, E) are fully utilized
At Y the economy has exceeded full capacity Aggregate Demand Exceeds Aggregate Supply leads to an inflationary gap Too much money chases limited resources. Consumers auction up the price of
goods and services (as there is limited available), while businesses auction upthe price of resources
Consequently demand pull inflation
Cost Push Inflation
Price LevelAggregate Supply
P1
P
Real GDPAggregate Demand
Real GDP1 Real GDP
A decrease in aggregate supply caused by increase input costs (higher costs ofproduction), to remain competitive these costs are past on to theconsumercauses a new equilibrium, established at a higher price and a lower output of
real GDP The economy experiences a contraction in real GDP (less economic growth)
and a rise in inflation cost shocks Increased wages
Increased interest rates
Raised resource costs
Imported Inflation Inflation transferred to Australia through international transactions Caused by either
A rise in the price of imports
The depreciation of the Australian dollar
Inflationary Expectations
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Consumers and Business perceptions of future inflation based n past andcurrent rates of inflation. Such will try and protect themselves
If employers expected future increases in their costs of production,
they may raise prices in order to cover the expected costs, resulting ininflation
If employees expect a certain level of inflation, they are likely to factorthis inflation into their wage claim, leading to cost-push inflation
Inflationary EffectsHouseholds
Purchasing Power - wages
Potential wage price spiral to mitigate inflation exaggerating effects
Reduction in real purchasing power distorts economic decisions
Savings and investment decrease
Producers are uncertain about future prices, costs and profit. Less
willing to invest Consumers spend in the short term, as purchasing power reduced over
time Unemployment
In the shorter term, there is an inverse relationship between inflation
and unemployment Illustrated in the Phillips curve
However may cause stagflation
Income distribution
Lower income earners often find that their incomes do not rise as
quickly as prices More likely to have fixed incomes, and les likely to have income indexed for the rate
of inflation.Firms Resource allocation
Investment and resources reallocated to avoid inflationary pressures-
due to the rising cost of production Exchange rate
High inflation is a major cause of depreciation, due to decreased
international demand Exporters lose export market as international competitiveness declines
International Investment
International investors are reluctant to invest their funds in a high
inflation economy Reduces international competitiveness. Imports become domestic
substitutes corroding CADGovernment
Taxation revenue
Inflation raises nominal income, causing bracket creep, where more
and more people movie into higher tax income brackets and hence paymore in taxation
Interest Rates
Higher inflation requires contractionary policy
Deflationary Effects Fall in the general level of prices
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Consumption delayed for future price falls Idle capacity form Collapse in asset prices, wealth is destroyed and consumption expenditure is
lower, leading to a recession Investment is reduced, reducing national income and creating a potential
deflationary spiral
Role of Price (Why solve inflation?)
Prices allocate resources to different alternative uses send a signal to theowners of resources that more resources are required in the industry.
Prices distribute incomes Prices ration goods and services between households cast a vote in products
markets
Relationship between inflation, unemployment and economic growth
Stagflation
Philips curve inverse relationship between inflation and unemployment Cost- push inflation both inflation and unemployment rising at the same
time Experience in Australia in 1970s as OPEC restricted oil supplies =
cost shock Stagflation
Typically low rates of economic growth were also causing falling demand forlabour
Resulted in the need for microeconomic reform to generate low inflationarygrowth.
Demand- pull inflation Unemployment is a derived demand and a lagged indicator Phillips curve
Environmental Management
Ecologically Sustainable development
Development that meets the needs of the present generation withoutcompromising the ability of future generations to meet their own needs
Brundtland Report - 1987
Intergenerational equity This means that current economic growth and development should not result
in long term damage to the environment or depletion of scarce resourcesResource use and exploitation
If the rate of harvest (use of resources) > rate of regeneration = extinction Renewable resource
Can be sustained despite useage and usually encompass all biologival
resources in the environment E.g. fish
Non-renewable resources Cannot be sustained with increasing usage as their supply is finite and
may be exhausted E.g. coal
Definitions Private costs
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Expenditure incurred by consumers or producers in giving up a part of
their money income in purchasing resources, goods or services Private benefits
Profits made by producers selling goods and services and the utility
gained by consumers through satisfying their own needs and wants
Social Costs Are imposed on or borne by society as a result of private actions
Social benefits Accrue to society as a results of private actions
Price Mechanism The interaction between demand and supply, to reach an equilibrium price and
quantity of production Solves the problem of scarcity In market economics Price to the consumer
Represents relative value
Communicates information to the supplier
Price is a rationing device
Price to the producer Shown through profit
Determined by costs of production
Increase in price more resources allocated to the production
Price and CostMSCMPCMPB
PsPm
Qs QmQuantity
MPB (Marginal private benefit)= Benefit from an additional unit of consumptionMPC (Marginal Private cost) = cost of extra good or serviceMSC (Marginal Social Cost)= total cost to society of an extra unit producedPm too low to allow for sustainable use of resourcesPS price at a sustainable levelThe price mechanism considers private cost of production but not social costs of
productionPublic vs Private goods
Private goods are excludable and rival, transferrable Public goods are non-excludable and non-rival
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An item that private forms are unwilling to supply as they are not able
to restrict usage and benefits to those that are willing to pay for thegood
E.g. air, oceans
Definitions
Non- excludable It is not possible to prevent people who are unwilling to pay for it from
obtaining it Fully accessible to everyone
Non-rival No matter how many people consume them, the benefits available to
others will not be reduced One persons consumption does not reduce the amount available to
everyone else Free Riders
Non-paying users of a good
Market Failure Less than optimal allocation of resources around the economy
Public goods Environmental goods are public, meaning that they are non-excludable
and non-rival Inability to set a price
No price means no control over demand: Free riders and the tragedy
of the commons Exploitation
Accelerated extinction of non-renewable goods Non- enewable: harvest is greater than renewal
Property Rights Price mechanism only accounts for private costs and benefits
Price mechanism does not take into account social costs (externality)
The total cost or gain accruing to society from a particular activity may not beregistered reflecting a misallocation of resources
Does not take into account future demand for goods, which may not be satisfiedbecause resources have been destroyedQuantity
Qs QmPsPmMPCMSCMPBPrice and Cost
ABExternality
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B= ecologically sustainable price and quantityA = unsustainable level of resource useExternalities
The costs or benefits to the environment and society tht are not included in theprice of exchange between the producer and consumer
Leads to a misallocation of resources Factors that lead to externalities
Private costs of exchange are too low
The environment is a public good lacks property rights
Human nature individualistic Examples
Pollution (impurities that reduce environmental quality)
Environmental Management Policies Carbon Pollution reduction scheme
Garanaut report 2008
Rudd proposed a carbon pollution reduction scheme has delayed this
Proposition- give property rights to carbon
Various enterprises are given fixed permit numbers or pollution.
Failing to adhere requires payment of fine
Internalized the externality Costs exceed price of new capital promote research and
development OP represents income reallocated to Government for research and
cleaning Business may pass on the costs, reduce real income or cut workers to
remain competitiveDemandOQP
Price of carbonFixed SupplyQuantity of Permits
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Direct Ban Forced closure of industry
E.g. CFCs
Rebates and Subsidies Income and resources directed towards environmental friendly power
production $AU 1.4 billion on solar panels over 6 years
Quotas Ration: lesser form of direct ban
Rate of renewal exceeds tate of harvest
E.g. 5620 tonne tuna fishing limit
Excise Tax Internalised economy
Dissuade consumption and reallocates investment and resources
Marginal Social Costs unkown
TaxPrice and CostQuantityQs QmPsPmMPCMSCMPB
Conflicts of Ecologically sustainable development Impact of economic growth on ESD
There is often a trade off between high growth in the short term (associatedwith high immediate living standards) nd long term growth
Growth draws upon natural resources
Excessive consumption raises the rate of harvest for renewable and
non-renewable resources Depletion and damage to scare resources
Illustrated by an inwards shift in the product possibility curve: there are physicallyless resources for future growth
Also, the unsuitable disposal of waste products associate with growth
reduces environmental quality e.g. air pollution or land and soildegradation (farming, mining), and prevents long term use of theenvironment
Reduced quality of life with lesser environmental enjoyment
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Unsustainable development Economic Growth
Inward shifts of the product possibility frontier Unemployment
Structural change: resources are exhausted shifting production materials Quality of life
Reduced quality of lift rthrough reduced environmental enjoyment External Stability
Australian growth commodity based. Resource exploitation shifts PPF inwards,reducing exports and requiring imports to satisfy demands
Inflation
Cost Push: raised input prices raise production costs, which are passed ontoconsumers
Income Distrbution
Relative Poverty. Greater proportions of poor persons income spent on needs Water, food
Relationship between the external cost to the community, amount of pollutionabatement and the cost of reducing pollutionPACMECAmount of pollution abatement i.e. the reduction of pollutionExternal costs to the community i.e. social cost or negative externality ($)Cost of reducing pollution or abatement costs ($)A
MEC = marginal external cost the line traces out the cost of pollution to the economy
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PAC pollution abatement cost The cost of reducing pollution
E.g. new technology, permits Point A
The optimum leve of pollution abatement
Where the cost of reducing pollution is equal to the benefit to the environment andsociety of the ower level of pollutionExplanation of Diagram
Cost benefit analysis A behaviour should be changed only to the point where the cost of
changing behaviour is equal to the benefit of the change in behaviour This is represented by Point A
Assumption All costs of production are known
We can measure the benefits of lower levels of pollution The costs of reducing pollution can be calculated
There is a direct relationship between money spend on pollution
reduction and benegit ot society
Income DistributionIncome: the value of benefits received by individuals during a period in return fortheir factors of production (land, labour, capital and enterprise) or as a transfer
payment from the governmentWealth: the net value of real and financial assets owned by individuals at a particular
point in time.Quintile: 20% groupings of a population
Lorenz Curve Illustrates income distribution Graphs data on income shares for equal groupings od the population Enables for a comparison between the income received and the income
recipients The Lorenz curve lies below the line of perfect equality
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A shift to the right represents increased inequality, whilst a shift to the leftrepresents increased equality
Gini Coefficient A mathematical expression of the degree of income inequality It is the are between the line of perfect equality ad the Lorenz curve
Gini Coefficient = Area A/ (Area A + Area B)
A gini coefficient of 0 is perfect equality A gini coefficient of 1 is complete inequality
Source of income Wages and salaries
Income derived form the supply of labuor
55-65% of total household income
Property Income Returns on factors f production (profits, dividneds, rent and interest)
20-30% of total household income
Transfer payments Payments received whereby nothing is given directly in return e.g.
social security 10-15% of total household income
Other Superannuation
Sources of wealth Link between wealth and income
People with little wealth usually have low incomes
Income generates wealth and wealth generates income Dwelling capital
Includes land, houses and home units 59% of total household wealth in 2004
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Business Capital
Includes shops, offices, factories and farms Accounted for 37% of total household wealth in 2004
Consumer Capital
Includes, cars, boats, furniture, appliances and jewellery
Accounted for 3.5% of total household wealth in 2004 Other
Investment in government securities Australian investment overseas Holdings of cash denoted as money base
Dimension and Trends to Income and Wealth Gender
Female Earnings represent 78% male earnings
Reasons for this
Greater percentage of women working part-time (32%) compared with men (23%) A younger age structure among full time female workers Lower educational qualifications for older women Occupational bias (with women under-represented in managerial/ administration
positions) Less overtime Duration and continuity of unemployment, (due to women normally acting as the
primary caregiver) Age
Lowest income age bracket is 15-24 years
Less experience and education Highest income age-bracket is 35-44 years
Occupation Training increases, supply decreases
Male professionals earn $1700 per week whilst laborers earn $800 p.w.
Ethnic Background English speaking migrants: highest
Non- English speaking migrants: lowest
Indigenous Australians earn considerable less than non-indigenous
Australians Family Structure
Couple with no dependent children
Median income $704
Couple with dependent children median income $659
Single Parent
Median income $446 58% wealth from allowances
Single Person
Median Income $535 p.w
Benefits of Income Inequality Economic Benefits
Incentive effect
Reward of higher wages and improved living standards encourages employees to:
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Undertake higher education, training and skillsacquisition
Work longer, harder hours improving labourproductivity
Labour mobility (occupation and geographic) due to
relative wage flexibility, which helps to allocate labourmore efficiently
Entrepreneurs Accept risks more readily with potential profit Greater innovation, technological advances, and
employment opportunities Capital formation
High income earners save greater proportion of income which can fund capital Greater productivity of labour, increase in the output of goods and services, hence
leading to higher living standards Reduces reliance upon foreign capital by providing domestic savings
Social Benefits Unrealistic: May arise if inequality promotes a desirable social
structure Whereby relative productivity of individuals within society was reflected by their
financial position, so that the more productive and individual was, the wealthier theywould become
Economic Costs Welfare support
Welfare payments reduced government spending on capital goods, place a tax burdentaxpayers, and may deteriorated the governments fiscal position Economic growth reduced
Lower consumption (due to lower MPC): lower aggregate demand Reduced economic activity, employment, investment and living standards
Social Costs Poverty and social problems
Inequality of income causes relative poverty Inequality of opportunities in terms of health, housing, education and employment Increased levels of crime, disease and reduced life expectancy (police resources)
Social class divisions Social and economic instability through class tensions E.g. wage disputes between workers and employers Democracy may be undermined
Wealthier members of society have greater politicalinfluence
Polices to reduce income and wealth inequality Social security
aged pensions, family assistance, sole parent pensions
Reforms to income tax brackets Widening income bands, lowering tax
Income tax rebates for low income earners
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Saving exemptions Reductions in capital against tax Increase in minimum wage by Fair Work Australia by $26 p.w.
However, the more flexible enterprise bargaining has meant that represented
labour has higher than average wage increases than unskilled, unorganized andunrepresented labour (migrant women)
Wage growth for these workers is 1-3% compared to 4-5% for
represented workers
The social wage Transfer payments made by federal court
Unemployment benefits, family assistance, disability pensions Provision of Medicare
Minimum wage
First home buyers grants
Nation Building and Job Plan
Hospital reform package
These policies are MICRO in nature
External Stability
CAD as a percentage of GDP Chronically negative 2002-2008 averaged 5.8% GDP. This fell to 3.75% GDP in early 2009 before
an expected rise to 5.5% GDP by 2009/10 The CAD is considered unsustainable If it exceeds the growth rate of the
economy Servicing cost of external liabilities is greater than the growth in
income or output Formula
CAD/GDP ratio = CAD x 100
GDP 1Net foreign debt as a percentage of GDP
Refers to foreign debt assets (debt lending by Australians to foreigners) minusforeign debt liabilities (debt lending by foreigners to Australians). Keep below40%
Formula
Net foreign debt/ GDP ration = Net Foreign Debt x 100GDP 1
Gradually rising from 47.9% (2004-2005) GDP to 58.5% (2008-2009)Net foreign liabilities as a percentage of GDP
Net foreign liability is equal to net foreign debt and net foreign equity Total value of assets in Australia such as land, shares and companies in
foreign ownership minus the total vale of assets overseas, owned byAustralians
Formula GDP Ration = Net foreign liabilities (debt + equity) x 100
GDP 1The current Account
Covers external transactions that are not reversible
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Consists of Net goods (X-M)
Net services (tourism and education)
Net income (earnings on investment i.e. rent, interest, profit
Net current transfers
Causes of a High CAD The savings/ investment Gap
The capital and financial account drives the Cad
Aggregate Demand = Aggregate Supply C + I + G + x-M = C + S + T
Cancelling put consumption and putting likes together X-M = S-I + T-G
External Balance = private sector debt + Public sector underlying balance CAD = S/I Gap + net PSUB
In 2004 national savings was 18% of GDP, while investment was 24%
of GDP Since investment leads to economic growth via the multiplier effect, no
government wants to slow down investment This lack of domestic savings means we rely on foreign savings
Australian residents then pay interest, rent and dividends on foreign
equity and foreign debt and this leads to the deficit on the net incomeof the current account
Recently exaggerated through huge fiscal stimulus.
The yields on Investment in Australia (structural) Yields refer to the rate of return in cash 9interest rates, shares/equity
(dividend yield) and real estate (rentals) Since Australias interest rates (4-5%) are relatively high compared
with the USA and Japan (0-3%), non-residents are encouraged to ld toAustralia (foreign debt) or invest in Australia (foreign equity)
This is seen in the large net income deficit of the current account
(approx. 70% in 2009) In structural terms, this net income deficit is the underlying problem of
the current account deficit.
The price elasticity of Demand for Exports The price elasticity of demand refers to the sensitivity of buyers to a
change in price Price elastic means buyers and sensitive Price inelastic means buyers are relatively insensitive to price changes
A substantial amount of Australias exports are low value added
agricultural products There are numerous competitors wit Australian wheat exporters, so if Australian whet
prices increase then our buyers will look to the USA, Canada and Europe . Priceelastic
On the other hand, Australian demand for high value added imports is
price inelastic Should price increase due to a depreciation in the $A Australians will spend more to
buy less
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The income Elasticity of Demand for Imports Australias demand for imports is aggregate demand elastic
This means as Australian aggregate demand increases, demand for imports grows at afaster rate
As aggregate demand increases this leads to an increase in national income via the
multiplier effect, which leads to an increasing demand for imports. This is sometimes called the income elasticity of demand for imports
As for exports, an increase in incomes overseas will not result in a
large increase in demand for agricultural products If incomes overseas increase, consumers tend to buy better quality food rather than
more, so out exports tend to be income inelastic
Comparative Economic Growth In cyclical terms, when the domestic economy grows faster than the
world economy or the economies of Australias trading partners,import demand tends to outstrip export demand
The goods balance deteriorates, adding to an existing current accountdeficit.
Terms of Trade Australias vulnerability
Australia Is vulnerable to the terms of trade since it is very reliant on mineral exportsfor earning export income
The price and income elasticity of demand for such commodities tends to be quiteinelastic
This means that a fluctuation of price will affect revenue
BOGS balance recorded 1.4% surplus in December 08 as terms of trade balanceimproved 68% Combined with law consumer confidence which saw imports fall, CAD reduced
Causes of High Net Foreign Debt Persistent CAD
Required financing through overseas debt and equity borrowing
Long term depreciation of the Australian dollar Increased debt servicing loans for the foreign debt denominated in
foreign currency loans Decline in domestic funds due to low borrowings There was an early shift to debt financing after deregulation
The outflow of investment from Australia
Effects
Debt Trap scenario (perpetuating cycle) A high CAD requires and inflow of foreign funds (either foreign debt
or selling Australian assets to foreigners) to finance CAD With a larger foreign debt, servicing costs become greater
These interest payment constitute a large part of the income debits that
flow out on the current account Threat would exist ig Australia was unable to attract a reasonable
level of investment
Susceptibility to Exchange fluctuations
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Valuation effect on debt
Debt sustainability problems As debt increases; it becomes increasingly difficult to service he debt
Australia cannot sustain a growth rate in excess of 5% if the CAD rises
to over -5% of GDP (if the increase in CAD is greater than the rate ofeconomic growth) has average 4.5% over the last two decades
Since the debt servicing obligation becomes greater than the capacity of the economyto increase its income
The interest payments on the debt will progressively take up a greater proportion ofour CAD
Results in decreased investment spending This reduces Australias standard of living and the growth potential of
the economy However, Pitchford thesis suggests if debt/ equity borrowings are put into
income generating assets, debt is irrelevant Since Public sector debt is 8% of net foreign debt while private sector debt is
92%
Increase in Australias international credit rating High net foreign debt is seen as a significant risk to an economies
future performance Credit rating downgrading Great capital outflows
Hence, it may increase the cost of borrowing through higher interest
rates
High interest costs hamper capital formation
Contractionary policy May require contractionary policy to reduce CAD
Policy to Reduce CAD
Monetary Policy Inflation management maintaining import competitiveness
Fiscal policy The budget directly relaties to CAD and the net income
Aggregate demand = Aggregate supply
C + I + G + X- M = C + S + T Cancelling out consumption and putting likes together X-M = S-I + T-G
Fiscal consolidation has historically eliminated public sector debt
More savings can be used for private sector investment reducing
reliance on foreign investment Recent stimulus has worsened the Cad raising PSUD and the savings
and investment gap Twin Deficit theory
Reduction of budget deficit government borrowing less more domestic funds
available for the private sector there is domestic borrowings and dont need to go
overseas reduces foreign debt reduction in CAD
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Microeconomic Reform Superannuation
Compulsory 9% p.a. to reduce low national savings Deregulation, privatization
Raise competitiveness and export markets
g