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Business Cycle, Short Run Growth, The Multiplier & Accelerator Effects

Business Cycle, Short Run Growth, The Multiplier & Accelerator Effects. Draw & Label this diagram with what you recall from AS Economics. Objectives. Understand the concept of the ‘output gap’

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Business Cycle, Short Run Growth, The Multiplier & Accelerator Effects

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  1. Business Cycle, Short Run Growth,The Multiplier & Accelerator Effects

  2. Draw & Label this diagram with what you recall from AS Economics

  3. Objectives • Understand the concept of the ‘output gap’ • Be able to explain how the relationship between the ‘output gap’ and short term and long term economic growth • Be able to explain the economic theory behind multiplier and accelerator effects • To be confident in calculating multiplier effect

  4. The Output Gap • The difference between actual GDP and it’s trend value • In other words the actual level of output minus the potential level • Negative = trough • Positive = peak

  5. Growth and the Output Gap

  6. New normal growth rate likely to be slow .............

  7. A permanent loss of output UK GDP still well below the peak before the last recession..............

  8. Trend growth is falling – why? Recession may have inflicted damage on trend growth

  9. AD/AS & Short Run Growth

  10. AD & AS through a business cycle

  11. Multiplier Effect : “the ratio of a change in equilibrium real income to the autonomous change that brought it about ; it is calculated as 1/mpw (marginal propensity to withdraw)” • In other words when workers see their income increase, it is the proportion of the increase that is spent and therefore benefits the economy • Marginal Propensity withdraw : “the sum of marginal propensities to save, tax, import – the proportion of additional income that is withdrawn from the circular flow”

  12. Worked example of multiplier • Households save 5% • Households spend 10% of imports • Households are taxed 25% • MPW = s+m+t = ? • Multiplier effect = 1/mpw = ? The larger the multiplier, the bigger the AD shift

  13. Work out this example • Households save 10% • Households import 15% • Households tax 30% • What is the marginal propensity to withdraw? • What is the multiplier effect?

  14. The accelerator effect • “a theory by which the level of investment depends upon the change in real output” • As economic growth increases in recovery, firms invest more. As the cyclical growth slows, firms reduce investment • Works in tandem with multiplier. • Firms invest, increases income of workers who spend some in the economy, leads to growth, leads to further investment

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