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Measures of Economic Performance Key Economic Goals Macroeconomics Indicators

Low Inflation Rate Consumer Price Index

Low Unemployment Unemployment Rate

Healthy Balance of Payments Current Account Capital & Financial Account

High Economic Growth Gross Domestic Product

Inflation:

A sustained and continuous increase in general price level in an economy over a period.

Measured by change in Consumer Price Index (CPI).

The Consumer Price Index measures the retail prices of a fixed “market basket” of several thousand goods and services purchased by households.

When inflation is present, general price level rises. Each unit of currency buys fewer goods and services and purchasing power falls.

Unemployment:

Non- availability of jobs for people who are willing & able to work

Measured by unemployment rate

County X’s unemployment rate in 2011 was 2.0%. This means 2.0% of its total labour force was unemployed.

Balance of Payments:

Measures economic transactions between a country & rest of the world

Components of BOP: Current Account & Capital & Financial Account i. Current Account (Earnings from Exports, Payments from

imports, Income flows, Transfer Payments) ii. C&F Account (Sale & purchases of capital assets and non-

produced or non-financial assets, trade in financial assets) Economic Growth:

Measured by increased in Gross Domestic Product (GDP) Total market value of final

output of goods & services produced within a country in a given time period (normally a year/quarter of a year)

The circular Flow of Diagram = equality of income & expenditure

*National Income = National Output = National Expenditure = Aggregate Demand

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Approaches to Calculate GDP: (all 3 generate same results) 1) Output aka Value-Added approach

Sum of value added in each industry sector

Measures national income by adding total value of financial G&S GDP = Value added of Goods producing industries + Value added of Services producing industries

2) Expenditure

Total amount of expenditure in economy Total amount of money $$ spent on purchasing all G&S produced by

firms in the country AE/GDP/AD= C+I+G+(X-M) 3) Income

Sum of payments to Factors of Production (FOP) Total amount of income $ generated by production of G&S Amount of money received by FOP for producing national output

GDP = AD = Wages + Rent + Interests + Profits Wages (salaries for labour), rent (for land), interest (for capital), profits (for firms & entrepreneurs)

(calculates NO inflation) Real GDP per capita = Real GDP/Total Population e.g. 2013$10million 2008 to 2013 10% inflation rate After remove inflation, only produce $9 million. (Inflation) Nominal GDP with Inflation e.g. 2013 inflation $10 million

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08 PROTECTIONISM Policy to benefit domestic producers of goods and services, where domestic

producers are insulated from competition against foreign firms by various forms of trade restrictions. They may also be supported directly by the government with the use of subsidies.

The opposite of protectionism is free trade (p07) in which goods are freely permitted to cross borders, without government intervention.

METHODS OF PROTECTIONISM

Category Definition Examples

Tariff/Duties Tax imposed on imported G&S Import Tax

Non-Tariff Barriers Restrictions that result from prohibitions or specific market requirements.

Import quotas & licenses, Voluntary Export quota, Exchange control, Export subsidies

Administrative Barriers Policies / regulations that influence the quantity of imports.

Health & Safety standards, Environmental standards, Embargoes (ban/trade sanctions)

Effects of Tariffs & Quotas:

Raises price by consumers Discourages consumption Reduced trade & direct resources to less efficient production

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Tariffs vs. Quotas: Unlike tariffs, government receives NO tax revenue for quota Imposing quota removes links with international process and does not allow

consumers to gain from lower prices elsewhere since a fixed quantity is imposed Quotas tend to be allocates indiscriminately and not to the most efficient

producer

Arguments for Protectionism: 1) Protect Domestic Jobs

Sunset industries cannot compete internationally. If these industries are large, governments often protect them so that workers can continue to stay in a particular industry and the countries avoid high levels of structural unemployment.

2) Infantry Industry Argument An infant industry needs time to achieve economies of scale advantages to compete against foreign competition. e.g. if SG allows free trade, all people will buy cars from overseas as it is cheaper. This Infant Industry will protect Singapore.

3) Foreign Subsidization Protect against unfair competition from foreign producers which are subsidized by their governments.

4) Prevent Dumping Protect against the “dumping” of excess foreign goods at a price below the cost of production to drive out competitors. Dumping is considered an unfair trade practice, hence, most nations have banned it. Eg: When EU sells its surplus butter to small developing economies, it would harm the domestic producers in the latter economies.

5) Strategic Reasons (National Defense)

Protect strategic industries in case they are needed at times of war. Certain industries such as aircraft, petroleum and weapons are vital to a nation’s

defense.

Therefore, these industries and their inputs should be protected from foreign competitors so that a domestic supply of essential materials would be available in case of an international conflict

i. Protectionism may raise prices to consumers & producers of imports

ii. Lead to lesser choices for consumers iii. Domestic firms being protected may become inefficient without incentive to drive

cost efficiency, less motivated to work iv. Less innovation due to complacency v. Distorts comparative advantage, leading to inefficient use of resources,

Specialization is reduces, decreasing world output level. ALL THESE HINDER ECONOMIC GROWTH

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09 EXCHANGE RATE (%) Price $$ at which 1 currency exchanges for

another The amount of foreign currency that can be

obtained from 1 unit of domestic currency Determined when supply meets demand

(equilibrium exchange rate)

EXCHANGE RATE (%) REGIME: 1) FIXED aka Pegged exchange rate

*Government Intervene* Exchanged rate is maintained at a fixed exchange rate (e.g. HK, Brunei & Myanmar)

2) FLOATING aka Flexible exchange rate

Market dictates movements of exchange rate (e.g. Canada Dollar, USD, Japan Yen)

3) MANAGED FLOAT aka Managed exchange rate Central Bank keeps the rate from deviating too far from a target band/value (e.g. SGD, Thai Bhat) determined by MAS

VALUE OF CURRENCY

APPRECIATION DEPRECIATION REVALUATION DEVALUATION (Increases) (Decreases) (Increases) (Decreases)

FLOATING & MANAGED FLOAT

rate regime

FIXED EXCHANGE

rate regime

FACTORS CAUSING APPRECIATION/DEPRECIATION OF A CURRENCY

1a. Relative Prices of Exports Domestic price of exports INCREASE Demand for domestic exports DECREASE Demand for SGD DECREASE Thus, SGD DEPRECIATES.

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1b. Relative Price of Imports Price of Imports DECREASE Demand for Imports INCREASE Demand for foreign currency INCREASE Supply for SGD INCREASE Thus, SGD DEPRECIATES.

2. Level of Domestic Interest Rates (%) Domestic Interest Rate INCREASE INFLOW of “HOT” money $$ Demand for SGD INCREASE Thus, SGD APPRECIATES.

3. Level of Domestic Income $ Domestic Income INCREASE (aka ceteris paribus)

Capacity to consume INCREASE Demand for Imports INCREASE Supply for SGD INCREASE Thus, SGD DEPRECIATES.

4. Level of Income of Foreign Countries Level of income/GDP of foreign countries INCREASE Exports INCREASE Demand for SGD INCREASE Thus, SGD APPRECIATES.

“Based on your pre-readings, your understanding of GDP and the concepts learnt in MA06, describe the effects of Singapore’s currency appreciation on its national income, price level and employment level using the AD-AS model.” AD = C + I + G + (X-M) Consumption Will not change, not affected Investment Decrease, lesser foreign investments due to Strong SGD Government Will not change, not affected Net Exports Decrease Thus, AD decreases and AD shifts LEFT. When AD shifts left, GPL decrease, real GDP decrease lesser goods to produce employment decreases lesser jobs available

Therefore this is Ease Demand Pull Inflation – because AD curve has shifted. Import cheaper - raw materials cheaper - cost of production cheaper SRAS shift RIGHT GPL decreases, but Real GDP INCREASES Ease Cost Push Inflation, AS curve shift

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10 BALANCE OF PAYMENTS (BOP) A record of economic transactions between domestic residents (households,

firms and government) and foreigners. A summary statement of all trades to determine how much money is flowing in

and out of the country.

Balance of Payment Components: INFLOW = GREEN OUTFLOW= RED

a) CURRENT ACCOUNT $

Exports of Goods

Exports of Services

Dividends/interest/Earnings from abroad

Import of Goods

Import of Services

Dividends/interest/Earnings to abroad

Net Transfer (Foreign Aid) e.g. Tsunami Aid

b) CAPITAL & FINANCIAL ACCOUNT

Investment from abroad

Investment to abroad

c) NET ERRORS & OMISSIONS Mistakes & failures to record all items often due to time delay & discrepancy

d) OVERALL BALANCE (a+b+c)

e) NET OFFICIAL RESERVES = country assets

Gold

Foreign Currencies

Special Drawing Rights (SDR) IMF

(+) Balance = SURPLUS (-) Balance= DEFICIT

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If Current Account (DEFICIT) It means that there are more imports than exports. Outflow bigger than inflow - Strong Currency (exports is expensive) - Cost of Production is Higher - Experiencing Inflation - Our products is of Low Quality (e.g. China , never buy milk from China) If Capital & Financial Account (SURPLUS) High investments from abroad than investment abroad Inflow bigger than outflow - Stable non-corrupted government - Economy doing well - High interest rates % If Overall Balance (SURPLUS) Surplus of Capital & Financial account covers the Current Account deficit. C&F surplus is more than Current Account deficit

How Government Intervention helps in: 1) Current Account (DEFICIT)

Increase exports, decrease imports Set quotas for numbers of imports into the country e.g. US facing CA deficit - Depreciate/weaken currency - Import restrictions (tariffs, taxes, quotas) - subsidized price of Rice)

2) Capital & Financial Account (DEFICIT)

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Attract foreign investments from abroad - Increase interest Rate - Strong & Stable Government - Favorable Tax Structure set-up company with government Tax: HK 10% tax on profits SG 5% tax on profits Thus, you will go SG, more favorable!

11 BUDGET AND TAXES Purpose:

To raise revenue* Promote economic and social goals* To redistribute income To combat inflation To reduce consumption of goods which are considered undesirable To protect infant industries To reallocate resources

Revenue is collected through Personal Income Tax, Goods and Services Tax (GST) and Others (Excise duty, Stamp Duty and etc.)

Tax Rate = (tax you have to pay/income)*100% = (chargeable income/income)*100%

Tax Payable = Chargeable Income = income – tax reliefs

CLASSIFICATION OF TAXES

Progressive Income Tax Proportional Income Tax Regressive Income Tax

Higher the income, Higher the tax rate

Constant tax rate regardless of income level

Higher the income, Lower the tax rate

TYPES OF TAXES: 1) Direct taxes

Burden of tax falls on taxpayer & cannot be shifted to someone else Paid directly to the government and compulsory to PAY. MUST PAY! E.g. corporate income tax, personal income tax

2) Indirect taxes Burden of tax can be shifted to someone else Paid indirectly to government E.g., you buy a drink from MAMA shop. You can choose not to buy and

do not have to pay for the tax. E.g. GST = value added taxes, Custom Duties

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LAFFER CURVE

Tax rate of Government will cause an increase in the tax revenue earned. As the tax rate increases, Government will collect higher tax revenue. However, there is a limit to the amount of tax rate to be imposed. If tax rate is too high, lesser people will buy goods & services, would not want to work, and this will cause the tax revenue to decrease. Thus, the Laffer Curve with a point T shows the maximum amount of tax revenue government should impose.

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12 FISCAL POLICY FISCAL TOOLS:

GOVERNMENT SPENDING (changes in government spending directly affects AD& GDP)

TAXATION (changes in taxes affects

Consumption) Changes in Fiscal Tools influences the economy It affects both Aggregate Demand (AD) and Aggregate Supply (AS) It is used to stabilize the economy

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• Non-discretionary Fiscal Policy also known as “automatic stabilizers”.

• A built-in stabilizer increases government deficit during a recession and increases government surplus during inflation without explicit actions by policy makers.

• Examples: Corporate and personal

income taxes Goods and services tax Property taxes Stamp duties Motor vehicle taxes Transfer payments

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13 $$$ MONEY $$$ Money Serves As:

Medium of exchange - an object that is generally accepted in exchange for goods and services.

Unit of account - agreed measure for stating the prices of goods and services. Store of value - money can be held for a time and later exchanged for goods and

services.

Components of Money Supply: i. Currencies

- (Coins & Paper Notes) - Official declaration by government “this is a legal tender”

ii. Deposits - (individuals & firms which owns deposits in banks & other

depository institutions - Deposits are considered a form of money as owners make payment

using deposits

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13 MONETARY POLICY Monetary policy is the macroeconomic policy laid down by the central bank,

which involves the management of money supply and interest rates.

The policy is used by the government of a country to achieve macroeconomic goals and/or objectives such as maximum employment, stable prices and moderate long-term interest rates.

Expansionary Tools: Purchase of bonds Reduction in discount rate Reduction in reserve requirement ratio

Contractionary Tools: Sales of Bonds Increase in discount rate Increase in reserve requirement ratio

Roles of a Central Bank: Responsible for the monetary policy of its country

How much money circulates in the economy i.e. a nation’s money supply

Regulation of financial markets Ensures that banks and other financial institutions do not behave recklessly or fraudulently

Acts as a "bailout" lender of last resort to the banking sector during times of financial crisis

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Money Multiplier = 1/ Required Reserve Ratio

change in money supply = money multiplier * in reserves

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