Wednesday, May 25, 2011

Highly Possible Questions In Unit 2:Managing the Economy (coming very very soon)

This posting is dedicated to several of my students who requested me this morning to blog about the possible questions in tomorrow’s exam. Frankly speaking, questions in Unit 2 are far more unpredictable than those in Unit 1. This is because of the nature of macroeconomics itself where every single issue or topic can be highly inter-related. To illustrate, they may provide an extract on joblessness and perhaps a figure showing the fall in house prices. Somehow, the questions can focus on so many aspects. For instance, how will government finances be affected by this, the impact falling house prices onto the positioning of current account, difference of Labour Force Survey measure of unemployment and Claimant Count etc

Unlike Unit 1, questions are far more predictable. Based on the topic, whether is commodity or merit/ demerit goods, I can more or less tell what are the questions that always follow suit. For instance, if the passage is about commodity, do expect questions like DD-SS diagram, price elasticity of demand, price elasticity of supply, buffer stock and others. If it is merit goods, maybe they can test you on definitions like private benefit, external benefit, cost-benefit diagram and others

Nevertheless I may be able to help you all by narrowing the scope of issues to concentrate on. As far as I am aware of, usually the information in the Extracts are one or two years back. So during these years, some of the significant issues that had taken place and should be fed with more attention are:

(1) Bank of England slashed interest rates to the lowest level in the history of 0.5% and has maintained it until now

(2) UK’s economy experienced the sharpest contraction since 1991-1992 housing market slump

(3) Pound deteriorating significantly against dollar and euro thus improving the position of current account

(4) House prices suffered a great fall up to 20% in some prosperous areas

(5) Rise in joblessness thus worsening government finances on top of the damage caused by bailing out failed financial institutions

Therefore you should:

Read up these issues. Google it by including BBC and years in your search. Buff up your general knowledge in all the key areas so that it will help you in evaluation. I forgot to mention in my previous posting that candidates who lack of general knowledge may find great difficulty to argue in a constructive manner

Practice the past year papers especially the more recent ones. It started as once a year examination in June 2009, then June 2010 before it is re-decided that it should be tested bi-annually. So we do have one in January 2011. Practice your evaluation by using what you have read. Consider the following examples

Examine effectiveness of reducing interest rates as a method to promote growth

Article wrote ‘Bank of England reduces interest rates to 0.5% from 5% and spending level is still weak’. So, this is how I make good use of the info:

When MPC reduces interest rates, in theory people will borrow more money since the cost of borrowing is cheap. Therefore more goods and services will be demanded in the economy. Rise in consumption will shift AD rightward leading to rise in real output. However, this is assuming that other factors are constant when it is not. Lately, the MPC has slashed the interest rates to the lowest level in the history of 0.5% and it still fails to stimulate spending. That shows that expansionary monetary policy can be a blunt tool if there is a total collapse in the consumer confidence

(2) Examine one supply side policy to increase level of output

Article wrote ‘UK government incurring huge fiscal deficit and national debt rising’. So I will include this in my writing:

The government can consider n income tax reduction. As working people get to keep a bigger portion of their income, it will create an incentive for them to work harder. A rise in productivity and efficiency will lead to greater output thus promoting growth. However, this may only sound nice in theory. In reality, the UK government is already bleeding so much money out of its coffer which explains why its fiscal deficit is expected to rise in the next few years. A further slash in income tax which is its main source of revenue is therefore not tolerable at all

Examine the impact of falling house and share prices onto the level of real output

Article quote ‘Most UK people have house ownership. Therefore a fall in house prices affect so many aspects of their living’

A decline in property and share prices would lead negative wealth effect. Feeling poorer and fuelled by pessimism, UK people will generally reduce their spending into the economy. Demand for retail goods and services will fall. Since UK is a consumption led economy, it is expected that AD will incur a large leftward shift in AD causing a decline in economic growth. Between these two factors, it is argued that house prices have more influence onto people’s decision to spend than stocks. This is because traditionally, most UK people store their wealth in housing market while only few very rich ones will store their wealth in paper assers

Watch out for these few popular questions. They can be tested again but rephrased:

(1) Define real GDP/ recession (have not been tested)/ economic growth

(2) Explain differences between Labour Force Survey and Claimant Count measure of unemployment

(3) Explain how CPI is calculated

(4) AD/AS diagram and how does it affect price level and real output/ UK economy (means mention both)

(5) Application of demand side polices and supply side policies to influence certain economic objectives like reducing unemployment, promote growth/ prevent a recession, restore consumer confidence, fix the problem of current account deficit, prevent a further fall in inflation and others

(6) Impact onto the distribution of income due to fall in interest rates, rise in income tax, recession etc

(7) Factors that MPC will consider before making interest rate changes

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