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Unit 3 Part 2

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13 views

Unit 3 Part 2

Vhhi

Uploaded by

billionairemaker14
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
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Economics for

Managers
SHUCHIVRAT DESHMUKH
Syllabus

Unit 3:
 Phillip's curve: inflation-unemployment trade-off, sacrifice ratio: GDP loss
for unit inflation reduction.
 Keynesian overview of macro economy, multiplier, accelerator,
leverage effect
 Trade cycles, stagflation, counter-cyclical measures
Outcomes:
 To understand concepts of multiplier and its impact on economic
variables.
 The dilemma between inflation and unemployment with the help of
Philip’s Curve.
 The understanding of trade cycle and its Impact
Stagflation

 Stagflation is an economic cycle economic period where there's a


combination of high inflation, a stagnant economy, and high
unemployment. The term is a combination of the words "stagnation"
and "inflation".
Trade cycles,

 A trade cycle, also known as a business cycle or economic cycle, is the


cyclical expansion and contraction of economic activity over time.
These fluctuations can affect employment, output, income, prices, and
profits.

The trade cycle has four phases:


 Expansion (boom): A period of high income, high output, and high
employment
 Contraction (recession): A period of low income, poor production, and
low employment
 Depression: A period of low income, poor production, and low
employment
 Recovery: The period when the economy's GDP falls to its lowest point
and then begins to reverse negative trends
Counter-cyclical measures

 Increasing government spending


During a recession or slowdown, the government can increase spending
to help stimulate economic recovery.
 Cutting taxes
During a recession or slowdown, the government can cut taxes to help
stimulate economic recovery.
 Progressive taxation
When the economy expands, a progressive tax taxes a larger proportion
of income, which can decrease demand and rein in the boom.
 Tightening credit
During inflationary periods, the government can tighten credit.
Keynesian overview of macro
economy,
 John Maynard Keynes: An influential British economist who
developed a theory to explain how aggregate demand (the total
demand for goods and services within an economy) influences
overall economic activity, particularly during periods of recession.

 His key work, "The General Theory of Employment, Interest, and


Money" (1936), revolutionized macroeconomic thought by
challenging classical economics, which emphasized that markets
are always clear (supply equals demand) through price
adjustments.
Core Concepts of Keynesian Macroeconomics
 Aggregate Demand (AD): The total spending on goods and services
in an economy. According to Keynes, aggregate demand is the
driving force of economic activity and is made up of four
components:
 Consumption (C)
 Investment (I)
 Government spending (G)
 Net exports (X-M)
 Aggregate Supply (AS): Refers to the total supply of goods and
services produced by an economy over a specific period. Keynes
argued that during recessions, economies tend to experience
unused resources (such as labor) and aggregate supply cannot
adjust to match the decrease in demand.
Multiplier,
 The multiplier effect refers to the phenomenon where an initial change
in spending leads to a larger overall increase in national income or
output. The idea is that one person's spending becomes another
person's income, which in turn leads to further spending and income
generation throughout the economy.

 The multiplier effect highlights the interconnectedness of economic


activities. When there is an increase in one of the components of
aggregate demand (AD)—such as consumption, investment, or
government spending—it can lead to an amplified effect on the overall
economy.

 This amplification occurs because: When households or businesses


receive income, they spend a portion of it. This spending becomes
someone else’s income, leading to further consumption, and the cycle
continues.
 The formula for the multiplier is:

 MPC (Marginal Propensity to Consume) is the proportion of


additional income that individuals spend on consumption. If MPC is
high, a larger proportion of additional income is spent, leading to a
larger multiplier effect.
Accelerator

 The accelerator effect refers to the relationship between the rate of


change in national income (or output) and investment spending.
Specifically, it suggests that when an economy's output grows,
businesses increase their investment in capital goods (e.g., machinery,
equipment, factories) to meet the rising demand. Conversely, when
output growth slows or declines, investment tends to decrease sharply.

 The accelerator theory is based on the idea that businesses need to


adjust their capital stock in response to changes in demand for their
products. If demand is rising, businesses may invest in new machinery or
expand production capacity. If demand is falling, businesses reduce or
halt investment. Investment is thus "accelerated" when there is an
increase in economic activity and decelerated when growth slows.
Leverage effect

 Leverage refers to the use of borrowed capital (debt) in order to


increase the potential return on investment. In both corporate
finance and economics, leverage can amplify profits, but it also
increases risk. The leverage effect describes the impact of leverage
on the return of an investment or the balance sheet of a company
or economy.
 When businesses, households, or governments borrow to invest, they
use leverage. The goal is to enhance their ability to grow or earn
higher returns by utilizing borrowed funds rather than just relying on
their own equity (or capital).

 Positive Leverage Effect: Occurs when the return on investment


(ROI) is higher than the cost of borrowing. This amplifies profits since
borrowing enables greater investment than would be possible with
only internal funds.

 Negative Leverage Effect: Occurs when the ROI is lower than the
cost of borrowing. This amplifies losses, as businesses or households
are now burdened by debt repayments without the anticipated
returns to cover them.

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