Sunday, May 27, 2012

Highly Possible Questions for Section B of Unit 3: Business Economics and Economics Efficiency (Edexcel) (coming soon)

There you go:

1) Identify the market structure of a business model
It will most likely appear as question (a) and it carries 4 marks. 1 mark for identifying the underlying business model as monopoly/ oligopoly, 1 mark for definition/ explanation of its characteristics and remaining 2 marks for reference from the Extracts. Watch out for key words like heavy advertisement, existence of patents, control over 25% of market share, large market capitalisation, large R&D expenditure etc

2) Identify the type of integration
Again this will appear as question (a) and it will carry 4 marks. 1 mark for identifying the type of mergerexplanation/ definition of the merger and remaining 2 marks for making reference to support the claim that the merger is e.g. horizontal e.g. horizontal, backward or forward vertical and conglomerate, 1 mark for

3) Game theory/ pricing and non pricing/ how does the threat of competition will change the behaviour of firms
Usually appear as question (c) (12 marks) or question d (16 marks). Typical answer using price competition will be revenue maximisation, sales maximisation, predatory pricing, limit pricing, BOGOF (buy one get one free). Profit maximisation and cost-plus pricing are not applicable as they will result in higher price and this will turn the tide of competition in favour of competitors. As for non-price competition, some typical standard answers will be advertisement, marketing, improvement in customer service, loyalty schemes/ cards (careful not to use in all situations), merger to avoid direct competition or suing competitor for infringement of patent e.g. Apple suing HTC for the sliding button function and the latest Apple seeking legal permission from US court to ban Samsung from selling its S3 model from the market

By drawing a Game Theory diagram, candidates are entitled to 2 marks. Further explanations will vary. It can be as minimal as 2 marks or up to 4 marks. Please relate the diagram to situation e.g. EON vs. RWE or Samsung vs. Apple rather than typical textbook answers like Firm A vs. Firm B

4) Contestability
We usually mention that the market is not contestable since existing large firms can practice predatory pricing, limit pricing, enjoy significant EOS and hence cheaper price, large budget for advertisement, R&D, brand loyalty etc. As in evaluation, we contradict by saying that the market to certain extent is contestable and provide reasons for saying so

5) Why price is cheaper in one market and more expensive in another market?
Usually appear as question (b) where it carries 8 marks. Standard answers will be lower cost in one market e.g. lower renovation costs, no need to incur high rental etc, to price discriminate, to maximise profits, demand inelastic in one segment etc

6) Benefits of integration
Easiest of the lot. Can appear as question (c) or (d). Large variation of answers and evaluations can be obtained from the web. Just type e.g. benefit of horizontal merger + source (tutor2u, economicshelp, economicsonline etc)

7) Economic efficiency
Again, this may appear as question (c) or (d). Look out for all the evidence of efficiency which is also known as cost-saving/ reduction from the Extract. Otherwise look for something else to say e.g. productive efficiency, allocative efficiency, dynamic efficiency, technical efficiency and static efficiency. Careful when elaborating these efficiencies. They all are related to costs reduction but in different forms

8) Role and power of OFT
Look out for examples or cases from the Extracts indicating the actions taken e.g. fined company X, forced BAA to put up Gatwick and Stansted for sale outside merger etc

As for MCQs, watch out for topics like natural monopoly, profit and price capping, productive and allocative efficiency for monopoly and perfect market both in short run and long run, distinguishing the nature of curves between perfect market (price taker, TR curve that increases proportionately with output and horizontal MR and AR) and imperfect market (price maker, upside-down quadratic TR curve, downward sloping MR and AR) and concept of satisficing

Wednesday, May 23, 2012

Quick Tips for Unit 2: Managing the Economy (Edexcel)

1. Once the examination started, please ignore the Extracts and Figures. Jump to the page with questions. Quickly run through all those questions and try to get a 'feel' which one you are more comfortable with. Comfortable is highly subjective and of course this technique will not work for those candidates who sit for the paper with very minimal preparations. Logic is, both question 1 and 2 will appear equally tough. As for me, I define comfortable as being able to more or less answer those questions without taking too much time to think/ draft the answers and evaluations/ can be answered without even the need to refer Extracts

2. In case if both questions appear to be equally hard even if you are well-prepared, then watch out for 3 things. First, is whether the Figures presented are easily understood ? Second is look out for the heavyweight questions which are no other than the 30 marks essay. Are they somewhat familiar? Are they about policies to resolve macroeconomic objectives? Finally, look out for shorter questions. Do you think you are more comfortable with the first 50 marks or the last 30 marks question? Again, this is highly subjective and you need to have some good judging skills here and please make it fast since time is scarce here

3. Please make a wise decision. The choice that you make this Friday will either make you or break you!! One of the early indicators that you are heading into trouble is making a U-turn after first 10 minutes. If that were to happen, chances are you will not be able to finish the paper on time and hence I would like to remind you once again, MAKE A WISE CHOICE

4. Stick to my REDD (Refer, Evaluate, Define, Diagram) principle all the time. How well you score highly depends on this 4 fundamental instructions. Believe me. Every question that you encounter will definitely be made up of either 1 or more of the REDD combinations, unless a simple EXPLAIN question

5. JEDATE (Justify, Evaluate, Discuss, Assess, To What Extent and Examine) is the acronym for evaluative questions. Somehow I realise that in the recent, very few evaluative questions use JUSTIFY

6. Analyse, Outline, Explain and Contrast will not be requiring evaluations from you. Providing evaluations for these instructions are a waste of time. I notice that candidates always confuse between Analyse and Assess

7. Short evaluation questions will always have 4 marks as evaluation. It can be single 4 marks or 2 evaluations with 2 marks each

8. Practice your AD-AS question. Confirm there will be one. Anything that influence spending such as interest rate, consumer confidence, government spending and slash in income tax (unless stated otherwise), fall in sterling etc will affect movement of AD. Anything that got to do with EPIC (Efficiency, Productivity, Incentive and Costs) affect AS such as oil prices, wages, deregulation onto businesses etc

9. It is said that demand side essays shouldn't contain EPIC words at all since it will place the examiner in a position to think that you are actually confuse between the transmission mechanism of fiscal/ monetary policy with supply side policies. On the other hand, supply side essays shouldn't have words like consumer confidence, consumer spending etc or else you will be labelled as confused between the transmission mechanisms of supply side with demand side

10. The pillar for the 30 marks essay will be 6+12+12 where 6 marks are for definition of policies, explain phrases in "..", reference to Extract or Figure, any macroeconomic objectives and AD/AS diagram

11. Please fully label the diagram or else you are just doing charity by giving away free 2/3 marks

12. READ all my transmission mechansims towards the bottom of the page

13. Typical 'surefire' evaluations for policies are time lag, depending on which part of the economy UK is operating at (elastic/ inelastic AS), conflicts with macro objectives e.g. growth achieved but at the expense of higher inflation etc and fiscal/monetary policy vs. supply side and you say supply side policies are better because growth achieved without inflationary pressure

14. How to elaborate? Master all the definitions and bring them out at the right time and your writing can be evolving around that key word. If not, bring out an example, or real life situations in UK economy e.g. coal mine workers strike, passive resistance during the World War, Greece is the 'black-sheep' of EU economy, the collapse of Icelandic economy? This are what I called as 'writing lubricant'. They allow you to find more stuffs to write about. To spice up, use power and attractive adjectives like BOE has entered into unchartered territory, peripheral areas of the Eurozone, China is flexing its economic muscle etc

15. Suggested time is 35 minutes for the essay. Please learn how to rephrase. There is no such thing as having insufficient time in the exam. Why write long winded and unnecessary statements/ points when you can actually write it in a much simpler way?

16. Watch out for real GDP/ growth vs. HDI. They haven't been out in a while and can send another shockwave in the exam hall. I won't be surprise if they carry as much as 16 marks

17. Ask simple and yet powerful questions like HOW, WHY and WHAT as you write

18. Watch out for 'tsunami' in the 30 marks essays. I have been observing the trend closely in the past 5 papers. Expect it to be rough this time but nonetheless, it will be evolving around solving any of the 6 macroeconomic objectives

Cheers and may the force be with you!! It is 10pm Malaysian time now. Will be catching a flight in hours time, so don't expect me to reply that soon. This will be the last posting for Unit 2

All da best 

Thursday, May 17, 2012

Additional Examination Tips for GCE Edexcel Economics Unit 1: Competitive Markets-How They Work and Why They Fail

Some interesting findings:

1.   1. Any candidates sitting for GCE Edexcel Economics Unit 1 can easily PASS the paper by just providing accurate/ sensible definitions, making references and drawing the right diagrams. Let me provide the evidence here:

Each MCQ has one definition for sure. As many as four MCQs may have two definitions within the same question and so that is about 12 marks from Section A. In section B, typically all the five questions (a-e) will have one definition each and some especially the (d) and (e) may have two and so that brings us to about 7/8 marks of definitions from Section B. In total this is 20 marks

In section B, candidates can easily gain 1/2 marks for each of the five questions simply by making references from the Extracts or Figures provided. On a conservative tone, let just say that this is about 8 marks

In Section A, almost every question can be supported by a diagram which can come in the form of PPF, PED, XED, YED, PES, minimum price, minimum wage, cost-benefit etc. Well assume that this contributes to about 8 marks from four questions. In Section B, in case if you choose the COMMODITY question, it is almost certain that question (a) is about demand-supply analysis, which means 3/4 marks. Question (d) and (e) are usually diagram-based and typically the diagrams weigh as much as 4 marks each. So, in total candidates may gain 12 marks from Section B alone. Both sections can easily contribute 20 marks

Do the maths: 20 marks (definition) + 8 marks (references) + 20 marks (diagrams) = 48/ 80 and this is MORE THAN JUST A PASS!!

2.   2. Another interesting development in Unit 1 is that since January 2011, there will only be 5 questions, (a) until (e). The last two questions will always be 14 marks. The interesting fact is that, those two questions are always seemed to be predictable. It will be any 2 of the 5 topics like minimum price, buffer stock, taxation, subsidy and cost-benefit analysis. The instruction is nothing but economic effects, economic effects, economic effects and it goes on and on and the beauty is the evaluations seem to be stereotype too. You can get all the answers in the Unit 1 Guide which is also written by the Edexcel examiners. So candidates, what are you waiting for? Go and buff up these 5 topics. There will be no regret
1.       3. In case if candidates have insufficient time, as always the case, please jump to question (d) and (e). By providing definitions (market failure, external cost, external benefits etc) and diagrams for both, you can easily gain 13/14 marks out of the 28 marks. Better than nothing right?

2.     4. PLEASE DO NOT USE ELIMINATION METHOD as the core strategy in Section A. Edexcel has become increasingly stringent in dishing out marks and more often than not, to eliminate the wrong options, it is INSUFFICIENT by just changing a word or two. It must be backed by SOLID EXPLANATIONS and ELABORATIONS as why those options are wrong rather than changing the wrong economics term say from, consumers surplus to producer surplus, PED to XED, XYZ to XYW etc. Eliminations based on ‘no’ and ‘not’ will not be entertained. They are considered ‘dirt cheap’. For instance:
     Option A is wrong since it is NOT producer surplus
     Option B is incorrect since it is NOT inelastic
     Option C is wrong since this is NOT about PPF

My advice is, do not use elimination method unless you have a strong theoretical grounding

3  5.  No additional marks will be awarded for duplications. For instance, in the answer candidates mention area of consumer surplus is XYZ and again you shade the XYZ area in diagram, then only 1 mark will be available rather than two

Monday, May 7, 2012

Highly Possible Data Response Questions for Unit 1: Competitive Markets: How They Work and Why They Fail

I am quite delighted once again to re-write/ improvise the examination techniques on data response for Unit 1. As mentioned in earlier posts, of all the four papers in GCE Edexcel Economics, this paper is the most predictable, having the most structured/ fixed answers before-hand and hence should be the easiest to score. Being an educator myself, I always believe that knowing ‘what is coming out’ before hand is utmost important as the saying goes:

“Secret operations are essential in war; upon them the army relies to make its every move”-Sun Tzu Art of War

Here you go:

Commodities (rice, barley, sugar cane, soy, beef and veal, timber, oil, aluminium, bauxite, gold, diamonds, palladium, nickel etc)

1. Demand and supply diagram (6-8 marks)
If the question carries as little as 6m, MOST LIKELY, either the demand or supply curve will shift rather than both. This has become a popular trend in the recent exams. Please take note of this. In case if the information provided by the Extracts is ‘hinting both’ and yet the question is as little as 5m/6m, then you have to use your instinct to decide which ‘information is stronger’? Demand or supply? To illustrate:

There was a long period of underinvestment by oil companies
The rapid economic growth of Brazil, Russia, India and China (BRIC) has led to a rise in the consumption of oil

Conclusion: DEMAND increases, SUPPLY constant

In case if the question carries 7m/ 8m, chances are, both curves will shift and usually demand will increase (due to China etc) and supply will fall (due to natural disaster, restriction on exports by major producers etc). Diagram alone is about 3m (1 curve shift) and 4m (both curve shift)

2. Price elasticity of demand (PED) (5m/6m)
The standard procedures are define/ provide formula, explain the nature of the commodity discussed (usually inelastic in demand) with sound reasoning and an evaluation

3. Cross elasticity of demand (XED) (7m/8m)
Standard procedures are define/ formula, mention the relationship (substitute with positive XED), how the price of B affects A and an evaluation

4. Income elasticity of demand (YED) (7m/8m)
Define/ provide formula, define or explain normal good and inferior good if these two keywords appear, mention that a normal good must have YED > 0 by quoting reference and usually one evaluation

5. Price elasticity of supply (PES) (9m)
Define/ formula, mention that short run is inelastic and why, explain why in long run it becomes elastic and may need to provide two evaluations

6. Taxation/ subsidy (12m or 14m)
Define, draw a diagram (up to 4m depending on details shown), explain how it works/ economic effects and evaluations

7. Minimum guaranteed price (MGP) (12m)
Define, diagram (up to 4m), explain how it works/ economic effects and evaluations

8. Buffer stock scheme (12m or 14m)
Define, draw a diagram (up to 4m), explain how it works and evaluations

9. Cost-benefit due to the consumption/ production of commodity (12m or 14m)
Define words like external costs/ benefits/ market failure, provide a cost-benefit diagram (up to 4m), explain the costs or benefits and evaluation

10. Government failure (10m)
Define government failure, explain in what way government failure has taken place and evaluations

As for the Market Failure (education, healthcare, congestion, air pollution, tobacco consumption, overfishing etc) I will segregate them into two parts:

      Confirmed Questions

1. Define private benefits (PB)/ external benefits (EB)/ private costs (PC)/ external costs (EC) (2m/ 4m)

2. Provide examples for each PB/ EB/ PC/ EC (2m or 4m with some elaborations)

3. Cost-benefit diagram (up to 4m depending on the details shown)

For review, these are the issues that had appeared in the previous examinations:
  1.  Education and tobacco consumption (January 2009)
  2. Housing market and rice (June 2009) 
  3. Oil prices and congestion (January 2010) 
  4. Rising food prices and motor vehicle market (June 2010) 
  5. Sugar and national minimum wage (January 2011) 
  6. National Health Service and copper (June 2011) 
  7. Beef prices and housing market (January 2012)
     B. Possible issues for June 2012

Congestion (typical standard questions)

1. Calculate the percentage of increase in number of cars/ license issued (2m)

2. Reasons for increase in the number of cars (6m for two reasons)

3. XED between private car and public transport (7m)
Define/ formula for XED, relationship and sign, how costs of travelling by rail may affect demand for cars and evaluation

4. YED for car/ bus/ rail (7m)
Define or formula for YED, status and sign, evidence from extract/ calculation and evaluation

5. Methods to reduce congestion (10m/ 12m)
Suggest 2/3 depending on marks e.g. building more roads, motorway tolls, congestion charge, workplace parking tax, car sharing lanes, fuel tax etc and evaluations

6. Is road pricing justified (10m)
Define/ explain road pricing, mention that it is justified and evaluations

Education (typical standard questions)

1. Production possibility frontier (PPF) (7m/8m)
Define PPF, provide a diagram, how more spending on education can expand PPF and evaluations

2. Methods to increase enrolment of students into public universities (10m)
Provide any two solutions e.g. avoid an increase in tuition fees, more flexible payment scheme, no upfront fees, low interest rate on loans taken, scholarship and grants to poor students, not required to pay back unless earn certain amount of incomes upon working etc and evaluations

3. Methods to improve finances for public universities (10m)
More research grants, allow for some market force within public universities so they can raise more finances etc and evaluations

Air pollution (typical standard questions)

1. Calculate percentage of change in number of airliners/ passengers/ number of cars (2m)

2. Reasons for air pollution (6m for any two reasons)

3. Methods to reduce air pollution (10m/ 12m)
Tradable emission permits, green tax etc and evaluations

Overfishing (typical standard questions)

1. Reasons for overfishing (6m for two reasons)

2. Methods to overcome overfishing (10m/ 12m)
Smaller vessels, using fishing nets with larger holes, enforcement of property rights etc and evaluations 

London Olympics 2012 (possible questions)

1. Definition of private benefits/ external benefits/ private costs/ external costs (2/4 m)

2. Example for each of the above (2/4 m)

3. Cost-benefit diagram (3/4 m)

4. YED related to tourism (define YED, explain whether it is normal good or inferior good, make reference and evaluate) (8m)

In data response for Unit 1, USUALLY:
6m (2m - evaluation)
8m (2m /4m - evaluations where 4m = 2+2. It all depends on the instruction. Best to follow my REDD pillar)
10m (4m - evaluations where 4m = 2+2/ 3+1)
12m (5m - evaluations where 5m = 2+3/ 2+2+1)
14m (6m -evaluations where 6m = 2+2+2/ 3+3)

Thursday, May 3, 2012

How To Study Unit 2: Managing the Economy (Edexcel) Effectively?

After many years of critical coaching, thorough observation and some analysis, I managed to arrive at a conclusion of why many candidates fail to perform in Unit 2: Managing the Economy and perhaps also in Unit 4: The Global Economy. As all of you are aware, these two units are classified as macroeconomics and they have a distinct feature that separates them from the other two which are Unit 1: Competitive Markets-How They Work and Why They Fail and Unit 3: Business Economics and Economics Efficiency

My experience tells me that generally students do either very well in Microeconomics or excel in Macroeconomics. Frankly, I seldom come across candidates that are good in all the units. It is either they are good in Unit 1 and 3 or Unit 2 and 4. HOWEVER, students that exhibit sharp understanding of Macroeconomics (Unit 2 and 4) usually do not have much problems coping with Microeconomics (Unit 1 and 3). It is always those who seem to have a promising start in Unit 1 that end up struggling along the way up to Unit 4

Why is that so? These are the following reasons:

Unit 1 and 3 tend to have ‘more memorising’ elements. It works wonder if you rot-memorise. You may even get away with distinction by memorising terms/ definitions despite not having any proper understanding/ appreciation of the terminologies. As a matter of fact, many of these keywords do repeat themselves in the exam e.g. production possibility frontier, opportunity cost, PED, XED, YED, PES, taxation, subsidy, market failure, government failure, productive efficiency, allocative efficiency, profit maximisation, revenue maximisation, sales maximisation and many more. In Unit 1, almost every question carries definition mark. We have about 15 questions (8 MCQs and 7 in data response) and that may be a whooping 12/13 marks just for definitions. While I don’t deny that Unit 2 and 4 do test candidates on definitions, they somehow carry lesser marks/ weightage/ appear with lesser frequency. Even if they do, they may appear in many bewildering forms that often require candidates to do some critical thinking. Consider real GDP per capita, real GDP growth, annual real GDP growth, nominal GDP, GDP at current prices, real GDP, GDP at constant prices etc. Sometimes, they may appear in the form of phrase such as ‘sterling’s trade-weighted index’ or ‘government spending increasing only 0.5% in real term’ and students have to use their understanding to gauge the meaning of the phrase. Conclusion is, memorising does not work that well in Macroeconomics

In Unit 1 and 3, candidates do not have to explain how things work/ transmission mechanism and that is why answers are so much shorter. The beauty is, the type of questions that can be asked seem to be ‘limited’. Do more past year papers and you will undeniably agree with me. They are repetitive and the questions just manipulate themselves in different phrasings. In Macroeconomics, situations may not go that smooth. There are ‘endless’ possibilities of how macroeconomic variables affect one another. For instance, house prices can affect price level, economic growth, global trade, employment level, public finances and many more. Using LOGIC combined with some economic theories, you will have to explain how those variables are affected and perhaps argue why they may not be affected too at the same time. The combinations are just too great. Here, memorising will not work and not at all. However, I don’t imply that macroeconomics is necessarily harder. It just functions differently. It is equivalent to telling directions. There are just too many ways for you to move from point A to point B and you must be a good direction-informer

Besides, do take note that ALL Economics textbooks of all level are organised in such a way where candidates are exposed to the concept of GDP, inflation, balance of payments, unemployment, fiscal policy, monetary policy, supply side policies etc when it is crystal clear that examinations test us far beyond that. They want us to know the TRANSMISSION MECHANISMS but they never taught that to us, at least not in a direct way

Here, I will organise your revision for Unit 2: Managing the Economy in the most systematic way which will definitely enhance your understanding in the shortest time. How fast you improve and much of information you can grab will have to depend on you yourself. Please bear another thing in mind. It will not be sufficient reading what I’m about to post. Use it. Practice the newly earned-skills

Basic transmission mechanisms:

1. Economic growth leads to lower unemployment
Growth --> rising income per capita --> greater spending into the economy --> AD for goods and services increase --> more manpower needed à lower unemployment

2. Economic growth leads to higher inflation
Growth --> increase in wages/ bonuses --> greater spending into the economy --> increase in AD --> price level increases --> demand-pull inflation

3. Economic growth leads to the worsening of current account deficit
Growth --> increase in wages/ bonuses --> UK people have high marginal propensity to import --> rise in imports and assume exports unchanged --> worsening of the current account deficit

4. Economic growth leads to income inequality
Growth --> wages for low/ middle class earners will usually increase but at a slower rate --> probably worse off after adjustment for inflation, student loan repayments, income tax and NICs (National Insurance Contributions) --> rich people may be subjected to higher income tax BUT there are other non-income gains that are taxed at much lower rate e.g. capital gain and share dividends --> widening income inequality

5. Growth leads to deterioration of environment
Growth --> increase in wages --> greater AD for goods and services --> more lands cleared to give way for residential homes, business parks and factories/ more cars on the road --> deforestation and rise in global warming

 6. Lower unemployment leads higher growth
Low unemployment --> AD for goods and services will increase --> higher real output --> growth

7. Lower unemployment leads to higher inflation
Low joblessness --> greater spending into the economy --> AD shifts rightward --> price level increases --> demand-pull inflation

8. Lower unemployment leads to worsening of current account deficit
Low joblessness --> unemployed people now have income to spend --> UK people have high marginal propensity to import --> rise in imports and assuming exports unchanged --> current account deficit widens

9. Lower unemployment leads to deteriorating environment
Fewer jobless people --> greater spending into the economy --> more lands to be cleared to construct houses, leisure areas and factories/ more cars and busses on the roads --> deforestation and emission of CO2

10. Lower unemployment reduces income inequality
Fewer unemployed people --> jobless people now have income and assume that their income is more than their previous benefits and UK government implements progressive taxation --> narrowing the gap between the rich and poor

11. Lower unemployment leads to higher inflation 
Fewer jobless people --> total expenditure into the economy increases --> AD shifts rightward --> increase in price level --> higher demand-pull inflation 

12. High inflation leads to lower growth
Supposed that the inflation creeps beyond the targeted level of CPI 2% +/- 1% --> Bank of England may consider an increase in base rate --> if this happens, cost of borrowing will increase --> lower consumption and investment --> fall in AD à lower growth

13. High inflation leads to increase in unemployment
Increase in inflation à falling real income --> limiting the spending ability of households --> AD for goods and services will fall --> fewer workers needed

14. High inflation leads to the worsening of current account deficit
Increase in production costs --> less competitive pricing --> export prices increase and assuming import prices unchanged --> fall in demand for British manufactured goods --> widening current account deficit

15. High inflation leads to widening income inequality
Rise in price level --> wages growth rate is usually lower than the rate of inflation --> falling real income --> consumers/ households are priced-out --> every pound purchases lesser goods and services

17. High inflation leads to less deterioration of environment
Increase in price level --> falling real income --> limiting the ability of households to spend elsewhere --> fall in AD for goods and services --> factories operate shorter hours and economic activities come to a slowdown --> less severe congestion, deforestation and flights --> improve the conditions of the environment

18. Large current account deficit leads to lower economic growth

Huge current account deficit --> imports of goods outweigh exports of goods --> net withdrawal from the UK’s circular flow of income --> falling net exports/ resulting in net imports --> AD shifts leftward -- lower real output --> faltering growth

19. Large current account deficit leads to lower inflation

Rising current account deficit à imports of goods are greater than exports of goods à net withdrawal from the circular flow of income à falling (X-M) --> AD shifts leftward --> price level falls --> lower inflation for the UK economy

20. Large current account deficit leads to rising unemployment

Huge current account deficit --> indicator that British people have high marginal propensity to import (M increases) and at the same time UK manufactured goods are losing its price competitiveness (X falling) --> decline in factory orders both from domestic and international market --> factories no longer need so many manpower as before --> retrenchment --> rising unemployment

21. Large BOP deficit leads to improvement in the environmental condition

Large BOP deficit is due to the ongoing current account deficit --> imports of goods far outweigh exports of goods --> demand from both domestic and international market falling --> greater spare capacity e.g. heavy equipments are not in used and factories dispose lesser waste, thrash and smog --> cleaner environment within UK

22. Large BOP deficit leads to increase in income inequality

Huge current account deficit --> imports greater than exports --> falling factory orders both from domestic and international market --> factories will need to get rid of surplus of workers --> those retrenched will fall into greater poverty

More to come, stay tune!! Remember, you don't have to study textbooks. It is incredibly sufficient if you're able to understand transmission mechanisms alone. LOGIC is the word. Please don't rot memorise

Now, let's roll for demand management policies

Fiscal policy

1.  Increase in government spending leads to economic growth
Larger budget e.g. building of new schools and hospitals --> direct injection into the circular flow of income --> increase in AD --> rise in real output -->economic growth

2. Increase in government spending leads to falling unemployment
The UK government spends more money onto public sector e.g. enlargement of existing departments and build more roads and bridges --> create jobs e.g. teachers, surgeons and nurses in NHS, road builder etc --> lower unemployment within UK

3. Increase in public sector expenditure leads to rising inflation
Direct injection into the circular flow of income --> government spending is a component of AD --> AD shifts to the right à price level increases --> demand-pull inflation

4. Increase in budget deficit leads to larger current account deficit
Greater budget deficit is an indicator that the UK government has increased its spending --> AD shifts rightward --> economic growth --> rise in income --> UK people have high marginal propensity to import --> import of foreign goods increases --> assuming exports unchanged --> widening of current account deficit

5. Increase in public sector spending leads to deterioration of environment
Larger budget to construct schools, hospitals, roads and bridges, sports complex etc à clearing up of lands/ deforestation à worsening the environmental condition

6. Increase in public sector spending leads to falling income inequality
Larger budget e.g. financial support to help key workers to climb onto the property ladder, Minimum Income Guarantee for pensioners, New Deal programmes for long term unemployed, Jobseekers Allowance etc --> people who are unemployed have some incomes to sustain themselves while some are moved into labour market --> narrowing income inequality/ reducing cases of relative poverty

7. Reduction in income tax leads to economic growth
Lower income tax --> higher take-home pay à more money to spend into the economy --> rise in consumption --> AD shifts rightward --> rise in real GDP --> growth

8. Lower income tax leads to falling unemployment rate
Lower income tax --> higher disposable income --> more money to spend into the economy --> AD for goods and services will increase --> more manpower needed --> lower unemployment

9. Lower business tax leads to higher inflation
Slash in corporation tax --> higher retained profits --> firms are more likely to increase investment e.g. purchase of capital equipments, build new factories etc --> injection into the circular flow of income --> AD increases --> increase in price level --> inflation

10. Lower business tax and income tax leads to worsening of current account deficit
Lower business tax --> higher retained profits --> more likely to invest/ enlarge operations --> purchase of more raw materials, intermediate goods and capital equipments from abroad --> assuming exports constant --> worsening the current account deficit

11. Slash in income tax leads to deterioration of environment
Lower income tax --> higher take-home pay --> households have more money to splash into the economy --> AD for goods and services increase --> More supermarkets, banks, pubs, housing areas, parks etc will be built --> worsening the environmental condition

12. Cut in income tax leads to falling income inequality
Reduction in income tax for lower/ middle income people --> allow for higher disposable income --> reducing the gap between the rich and poor

Next comes the monetary policy


1. Lower interest rate leads to higher growth
Slash in base rate --> cheaper cost of borrowing --> more households will borrow and spend (cars, properties, flat screen TVs etc) while companies seize opportunity to invest due to higher rate of return on capital --> increase in AD --> rise in real output à growth

2. Lower interest rate leads to lower unemployment
Fall in repo rate --> fall in cost of borrowing --> people will spend more money (cars, furniture, foods and drinks etc) and companies will increase their investment (new factories, outlet, operation centre etc) --> more manpower needed to produce goods and services --> falling unemployment

3. Lower interest rate leads to rising price level
Cut in overnight rate --> cheaper borrowing --> more people and firms spend into the economy à AD shifts rightward --> price level increases --> inflation

4. Lower interest rate leads to narrowing of the current account deficit
Falling interest rates --> less attractive to save money in UK due to lower return on savings --> outflow of hot money e.g. short term funds --> supply of pound increases in exchange for other currencies --> value of pound falls --> exports artificially cheap while imports artificially expensive --> reduction in the balance of trade --> cutting down size of current account deficit

5. Lower interest rate leads to worsening of environmental condition
Cheap borrowing --> households splash more money into the economy e.g. buying properties, cars, dine more often outside while companies invest by building new factories --> clearing up of lands to give ways to development and growth à greater air, water, and noise pollution

6. Lower interest rate leads to reduction in income inequality
Households increase spending into the economy --> AD for goods and services increases --> more manpower needed to produce output --> job creations --> people on long term unemployment may return to job markets


1. Lower income tax leads to higher economic growth
Workers get to keep higher portion of their income --> create an incentive to work harder/ longer hours/ taking up second piece of job --> more potential output produced --> higher economic growth

2. Reform to income tax leads to lower unemployment
Unemployed people realise that take-home-pay has increased --> larger gap between disposable income and benefits from staying unemployed --> creates incentive to enter into labour market --> lower unemployment

3. Lower income tax leads to lower inflation
Higher take-home-pay --> creates an incentive to be more productive at work place --> increase in output --> high overhead costs are spread over greater output --> lower unit costs --> pass on to economy --> falling price level --> lower inflation

4. Fall in income tax leads to narrowing of BOP deficit
Higher disposable income --> creates an incentive to be more productive --> rise in output --> lower unit costs --> competitive pricing --> assuming other factors constant, exports will increase --> narrowing the balance of trade/ current account deficit

5. Trade union reform leads to higher economic growth
Weaker trade union --> lesser industrial disputes --> more productive working days in a month/ year --> more potential output produced --> higher growth

6. Labour union reform leads to lower inflation
Unions have lesser power to bargain for high wages that are not met by equivalent rise in productivity --> wages cost kept low --> prices of goods and services do not increase --> lower cost-push inflation

7. Weaker trade union leads to fall in unemployment
Trade unions have less power to bargain for absurd wages --> wage costs are kept low --> companies will have greater tendency to demand for more workers --> job creations --> lower unemployment

8. Weaker labour union leads to falling BOP deficit
Lesser strikes and more productive working days and wage costs are kept low --> costs are spread over more output --> lower unit costs --> competitive pricing --> assuming other factors constant, exports will rise --> narrowing BOP deficit

9. Better education and training leads to higher growth
UK government increases spending onto education and training --> professors are financially rewarded, more research grants for universities, improvement in education system, more schools, greater range of vocational programmes introduced like carpentry, IT skills, tailoring and cooking class --> more productive and skilled workforce --> increase in potential output --> growth

10. Better education and training leads to lower inflation
UK will have more productive and skilled manpower --> efficiency at workplace increases --> increase in potential output --> costs are spread wider --> lower unit costs --> pass on to the economy --> lower inflation

11. Better education and training leads to lower unemployment
UK will have more knowledgeable workers and those that undergone training will have better skills --> value for money if firms recruit them --> reduce frictional (time taken to land on new job) and structural unemployment (due to change in structure of economy)

12. Better education and training leads to shrinking BOP deficit
UK will have more educated and skilled workers \--> productivity at workplace increases --> more output produced --> lower unit costs --> rise in competitiveness --> higher exports, assuming imports constant --> BOP deficit narrows

13. Privatisation leads to economic growth
More new private firms are established --> the spirit of competition has led to more innovation e.g. methods to increase output and employees are more likely to be productive to keep their jobs --> higher potential output à growth

14. Privatisation leads to fall in inflation
More new private firms are created --> fierce competition and assuming other factors constant --> prices will be kept low and also there will be an incentive to reduce costs so that price reduction will not affect their profit margin --> lower inflation

15. Privatisation leads to narrowing of current account deficit
More private firms are created and assuming other factors constant --> more competitive environment --> have the incentive to keep prices low and at the same time pursue efficiency measures to preserve margins of profit/ incentive to produce quality goods --> export prices become competitive and assuming imports unchanged --> BOP deficit shrinks

16. Deregulation leads higher growth
Reduction in the barriers to entry --> more private enterprise set up --> more potential goods and service produced --> growth

17. Deregulation leads to lower inflation
Government efforts to create a more competitive environment --> lower barriers to entry --> more firms competing to enlarge their market share --> prices of goods and services are kept low --> falling inflation

18. Deregulation leads to shrinking deficit in the balance of trade
Greater competition --> firms try to hold down prices --> competitive pricing for exports of goods and services --> reduction in current account deficit

19. Reducing state welfare benefits lead to higher growth
The opportunity cost of staying unemployed has increased --> greater incentive for jobless people to enter the labour market and assuming other factors constant --> more output à growth is achieved

20. Reducing welfare benefits lead to lower inflation
More jobless people will have the incentive to enter the labour market --> supply of labour increases --> wages will be suppressed à wages cost fall --> lower prices --> inflation is reduced

21. Cut in welfare benefits leading lower unemployment
Long term unemployed finds that it is more financially rewarding to be in labour market than at home --> more of them try to look for jobs and assuming other factors constant --> fall in the number of jobless people

22. Lower benefits lead to falling current account deficit
Gap between new benefits and disposable income increases --> creates an incentive to look for work --> increase in labour supply into certain industries will keep market wages low --> low unit costs --> improve competitiveness --> exports of goods and services increase --> reduction in BOP deficit

23. Employment subsidies leading to higher growth
Government provide grants e.g. wages and training are paid by the state --> private firms in theory are encouraged to provide more regular training for their workers --> rise in productive potential --> growth

24. Employment subsidies leading to lower unemployment
Companies are given financial subsidies --> creates the incentive/ provided with more budget to enlarge their base of employees --> new vacancies are created -->  more people are absorbed into labour market --> lower joblessness

25. Employment subsidies leading to lower inflation
Wages are subsidised by government --> keep operating costs low and assuming other factors constant --> companies may pass on some of the cost savings in the form of lower price --> falling inflation

26. Subsidies leading to reduction in size of current account deficit
Operations are partially subsidised by government e.g. training, wages, purchase of raw materials etc --> able to operate in a larger scale leading to various economies of scale --> cheaper unit costs --> greater competitiveness --> falling current account deficit


1. Increase in government spending may lead to lower growth (possible? YES, 2 ways)
A. Rise in public expenditure --> greater budget deficit --> more borrowing from the private sector by selling gilts --> due to the attractive returns and since they are government-backed --> bought by private companies --> lesser money to invest --> possibility of lower growth and is known as crowing out effect

B. Surge in public spending --> the increasing need to borrow for more money --> creates competition with the private sectors for money --> interest rate is bid up --> higher cost of borrowing --> falling in private investment --> economic growth may be muted and is known as crowding out effect

2. Rise in exports which may lead to widening current account deficit (What?? YES, 4 ways)
A. Surge in exports --> demand for sterling increases to facilitate transactions --> pound appreciates --> British-made goods become less price competitive --> demand for exports fall --> current account deficit widens

B. Rise in exports --> revival in the manufacturing sector --> increasing the need to sustain/ enlarge the operations --> purchase of more capital equipments usually from Germany and Japan --> may worsen current account deficit

C. Rise in exports --> revival of the beleaguered manufacturing sector --> more people are absorbed into employment --> total spending onto imported goods may increase since UK people have high marginal propensity to import --> worsening the balance of trade

D. A rise in exports, assuming imports are constant --> (X-M) will increase --> AD shifts rightward --> price level increases --> demand-pull inflation --> UK goods less price competitive --> falling demand from major trading partners like USA, France, Germany and Italy --> widening of the current account deficit

3. Collapse in house prices will lead to rising unemployment

A Falling house prices --> negative wealth effect/ falling equity --> people reduce their spending into the economy/ build up their savings --> falling AD for goods and services --> less manpower is needed --> rising unemployment --> through negative multiplier effect, unemployment may increase much more

B. Tumbling property market --> housing firms have less incentive to increase their portfolio --> reduction in the number of bricklayers needed and workers from construction related industries e.g. machinery, raw materials etc will be retrenched too --> rising unemployment

Well candidates, as you can see the list of transmission mechanisms may go on and on and on and that is why I strongly recommend you all to comprehend how the flows work rather than memorising them as there could be easily hundreds of them. Study SMART pays!! :) Cheers