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External Economic Influences On Business Behaviour Flashcards Preview
External Economic Influences On Business Behaviour Flashcards Preview
The study of entire economy like economic output, inflation, interest rates, or
governments policies, rather than individual markets.
• Inflation
• Unemployment
• Balance of payments
Def. GDP
Gross Domestic Product is the total value of goods and services produced in a country
in one year - real GDP has been adjusted for inflation.
• Increased number of quality goods and services for consumers -> higher living
standards
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What are the factors that lead to economic growth?
• Increase in productivity
The regular swings in economic activity, measured by real GDP, that occur in most
economies, varying from boom conditions to recession when total national output
declines.
• Boom
• Recession
• Slump
• Growth/ Recovery
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• Boom - A period of very fast economic growth with rising incomes and profits.
• Inflation is then caused due to high demand for goods and services -> higher prices ->
higher wages are demanded -> higher costs. This causes the recession.
• Governments/central banks increase interests rates to reduce inflationary pressure.
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• Recession - A period of declining real GDP. Effect of failing demand and higher
interests rates makes the GDP growth slow down.
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• Slump - A prolonged recession causes a slump where real GDP falls substantially and
prices fall.
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• This may be because corrective government action takes effect, or rate of inflation falls
=> the country's products become competitive and demand starts to increase.
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Def. Inflation
An increase in the average price level of goods and services. It results from a fall in the
value of money.
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Def. Deflation
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• Cost-push causes of inflation: When business face higher costs, they raise prices to
keep profits.
• Demand-pull causes of inflation: When the demand rises, producers would raise prices
to increase profit margins.
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• High exchange rate -> makes imports cheaper for the business -> less cost push
inflation
• High interest rates -> discourage consumers from borrowing and spending.
• Higher tax rates and reduction of government spending -> Reduces consumer
demand as consumers have less disposable income.
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• Rising prices means that the value of land and fixed assets is higher -> increases the
value of business.
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• Reluctancy to sell with extended credits periods (because when repaid the value of
money is lower).
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• Consumers delay buying because they'll wait till the prices become even lower ->
lower demand -> falling profits.
• Business are less likely to borrow to invest because the amount borrowed would be of
higher value later on.
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Def. Unemployment
This exists when members of the working population are willing and able to work, but
are unable to find a job.
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All those in the population of working age who are willing and able to work.
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• Cyclical unemployment
• Structural unemployment
• Frictional unemployment
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Unemployment resulting from low demand for goods and services in the economy
during a period of slow economic growth or a recession. Businesses would need less
employees, therefor unemployment rates go up.
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• Improvement in technology -> employers look for adaptable and multi skilled workers.
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Unemployment resulting from workers losing or leaving jobs and taking a substantial
period of time to find alternative employment.
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• The government would try to keep the rate of exchange competitive so that level of
exports wouldn't fall which would cause unemployment.
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Government policies towards frictional unemployment (1)
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• Opportunity costs as the economy could be producing more goods and services.
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This account records the value of trade in goods and services between one country and
the rest of the world. A deficit means that the value of goods and services imported
exceeds the value of goods and services exported.
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Def. Imports
Study These Flashcards
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Def. Exports
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Why is it bad for economy to have a large and persistent deficit? How can the
government prevent it? (2 1)
It would cause:
The government can prevent it by: Limiting foreign exchange or putting barriers such as
tariffs or quotas.
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A fall in the external value of a currency as measure by its exchange rate against other
currencies. E.g. if a dollar depreciated, it means that a dollar would equal less pounds.
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A rise in the external value of a currency as measured by its exchange rate against
other currencies.
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Demand:
• Foreign investors
Supply:
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Benefits:
Drawbacks:
• Exports of goods and services are more expensive -> less competitive
• Imported products are cheaper, so are more competitive against the domestic
products.
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Benefits:
• Prices of exports are more competitive overseas -> higher export value -> easier to
expand overseas
• Business that sell domestically will experience less competition against imported
goods and services.
Drawbacks:
• Retailers selling imported goods would also have to raise their prices.
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Is concerned with decisions about government expenditure, tax rates and government
borrowing. These operate largely through the government's annual budget decisions.
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Scenario 1. The economy is in recession and unemployment is rising. What would the
government do?
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pg. 125
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is concerned with decisions about the rate of interest and the supply of money in the
economy.
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• Increases interest costs and reduces profits for businesses that have very high debts
• Reduces consumer borrowing and this reduces demand for goods bought on credit
• Tends to lead to an appreciation of the country's exchange rate because higher
domestic interests encourage overseas capital to flow into the country.
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Extra: Why does higher domestic interest rates lead to an appreciation of the country's
exchange rate?
Because with higher interest rates, more foreign investors (speculators) would want to
leave their capital on deposit in domestic banks. To do so, they would have to convert
into the domestic currency, hence raising the demand for it -> higher exchange rate
value.
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• 'Fixed' exchange rate: set firmly by the monetary authority with respect to a foreign
currency.
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Drawbacks of floating rates - benefits of joining the common currency ( 3 (3) (2) )
2. Hard to make plans to purchase goods from abroad because costs would fluctuate.
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Claimed advantages of floating rates - or reasons for not joining a common currency
(2)
1. Replacing the currency with a common currency will lead to common tax policies ->
reduces independence of each government to control its own taxes.
2. By joining a common currency, there would be one rate of interest across that
currency zone, but the interest rate could be too high for some economies and too low
for others.
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Examples of supply side policies?
• Low rates of income tax: With high taxes rates, employees or entrepreneurs would feel
demotivated to work hard and gain promotion because they don't get their full 'award'.
• Low rate of corporation tax: Lower tax on net profit which could be reinvested into the
business.
+ Lower rates of income tax to encourage workers to take the risk of setting up their
own businesses
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When markets fail to achieve the most efficient allocation of resources and there is
under or overproduction of certain goods and services.
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• Labour training: Many firms do not provide sufficient training for the employees ->
shortage of skilled workers.
• Monopoly producers: exploiting consumers, or preventing other business to enter the
market.
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Costs of an economic activity that are not paid for by the product or consumer, but by
the rest of society e.g. pollution from manufacturing process
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What are the policies used in order to correct the external influences? (2)
• Market based policies: Policies designed to manipulate markets, prices, and incentives
to correct market failures.
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• Normal goods: Between 0 and 1. These are essential goods, that the sales wouldn't
fluctuate a lot if the consumer incomes were to rise or drop. e.g. bread.
• Luxury goods: >1. These are expensive but preferred alternative goods, which cannot
be afforded when incomes are low. Eg. Computers.
• Inferior goods: Negative ( <0) These are products that have higher demand when
consumer income drops. E.g. second hand furniture.