notes up till the bank of england

The national economics

National income

Calculating national income:

- Expenditure method
o C+I+G+X-I
- Output method
o Self-employed people
o Trading profits
o Rent
o Interest
o = total domestic income – stock appreciation
o = GPD
- If the spending of all groups is added it does not reflect the actual income of the nation but the spending at the current prices – including the indirect taxes
o It does not takes into account the indirect taxes
o It does not takes into account subsidies – which would decrease the market price
- Income method

- OUTPUT = INCOME = EXPENDITURE
-
- GNP – the value of final goods and services produced by factors owned by the citizens of the state
- GNP – Depreciation = NNP (Net National Products)

- Problems in comparinf the national incomes
o The currency – often change
o Accounting techniques
o It is important to take the price level into account
o Take climate into account
o The distribution of income may vary
o Do not takes into account the black markets and barter
o D

Aggregate Demand

- Injections
o Investment
o Government spending
o Exports
- Withdrawals
o Savings
o Taxes
o Imports
-
- Keynesian consumption function: DO NOT UNDARSTAND IT
- Savings are influenced by:
o The interest rates
o The income level
o The expectations
o The inflations
- Marginal propensity to consume depends on:
o Level of income, the more you earn the more you are likely to save
o Interest rates
o Expectations
o Taxations
o
- MPC – the Marginal Propensity to Consume – additional amount of money spend for every additional pound earned
- APC = C/Y -
o It shows the amount of consumed on average out of each pound
- According to Keynes consumption is the function of national income
o When the income level is low the consumers are dissaving, when it is higher they are saving. It is because autonomous consumption
- Other factors influencing consumption
o Relative income – how others spend money, or how we are used to live
o Expectations
o Interest rates
o Wealth
o The distribution income. If the income is redistributed from high income families, then the MPC is higher
- Friedman theory of consumption
o People base their consumption on expectations of future income. IE if somebody expects to inherit money of his father he will take a loan and spend money
o You will dissave when your young, you will save when your are old (the consumption depends on the stage in life)
- Investment
o Increase in the stock levels and capital
o Gross and NET
 Gross total level of investment
 NET Gross minus depreciation
o Planned vs. actual
o Autonomous vs. induced
 Autonomous – unrelated to the level of national income
 Induced – it is related to the changes in the level of national investment
o Real and money investment
 Real – investment in capital goods
 Money investment – investment in shares, bonds etc.
o Factors influencing investment
 The rate of return – if its greater than the cost of borrowing the
• Marginal Efficiency of Capital – shows the rate of return on each unit of capital
 The expectations – very important
 Taxation
 Fall in price of capital goods
o Investment increases the capacity of the economy
o Movements along the investment schedule
 Are caused by the rate of interest
o Accelerator
 Shows the relationship between the investment and the rate of change in national output
 It assumes that the increase in investment will be greater than one in output
o The interest rates are determined by \
 Suuply
• People’s willingness to save
• The ability of banks to lend
 Demand
• From households, companies, from the government to finance deficit


Government policy and objectives

- Privatisation – transferring assets from the public sector to the private sector
o Contracting out – When activities undertaken by public sector are sold off to the private sector
o Deregulation
o Sale of assets
o Examples: 1981 British Aerospace, 1986 British Gas, 1989 British Steel
o Each industry that has been privatised is controlled – OFTEL – telecommunication, ORR – Rail
-

Fiscal policies

- Revenues
o Taxes
o Profit from privatisation
o Rents from government building and land
o Profits from nationalised industries
o Dividend from any private enterprise in which the government share

- Tax

o Direct tax
 Income tax
 Corporation tax
 National Insurance contribution
 Petroleum revenue
o Property taxes
 Inheritance tax
 Capital gains tax – paid when an asset increases in value and is sold of with gain
 Council tax – local tax paid by a member of a council
o Indirect tax
 VAT
 Tax on tobacco
 Excise duties on alcohol
o A good tax system
 Horizontal equity should be paid in similar circumstances
 Cheap to administer
 Have vertical equity
 Be difficult to evade
 Be easily understand by the taxpayer
 Have a limited disincentive effect
o Unemployment trap
 When people are worse off when working
 Because they lose benefits when they start to work
o Poverty trap
 When people are worse off when they earn more, also because of benefits
o Fiscal stance
 Refers to whether the government is pursuing an expansionist or contractionary policy, whether is increasing or decreasing the aggregate demand
• Deflationary policies – increase in the AD
• Deflationary policies – decrease in the AD
o Automatic stabilisers
 Progressive taxation is an automatic stabiliser, the more people earn the more taxes they pay, therefore the multiplier effect is reduced
o Ways of financing the deficit:
 Treasury bills
 Bonds
 National Savings certificates
 The Bank of England can lend to the government
o Discretionary stabilizers
 Actions deliberately undertaken by the government to regulate the economy

 You can increase the taxes or increase the government spending
o The impact of Fiscal policy on money supply
 The existence of increased national debt leads to an increase of the money in the market
 However, if the government is sells the debts to the non-bank public and encourages people to use the National Savings this will take excess money out of the market
 If the government sells its long run debt to the banks it reduces banks’ liquidity, there reduces the supply of the money
 If the government sells Treasury bills to the banks they are so liquid that it will most likely increase the amount of money on the market
o The national debt
 If the national debt is domestically financed it is just taking money from one group of people to another
 If the government finances it from oversees than it can become a burden
o Problems of the fiscal policy
 The time lag
 The imperfect information
 Fiscal drag
 Crowding out – Increase in expansionist fiscal policy, leads to increase in the demand for money. Given the money supply that increases the interest rates, therefore leads to a situation in which the private sector is investing much more!!!
• The monetarists argue that money is interest elastic, and shift in money demand will have a relatively large impact on interest rates. They also argue that investment and aggregate demand is interest elastic, therefore it is decreased if the interest rates are high
o Fiscal policy is likely to be more effective if:
 Money demand is interst elastic – so changes in the money supply will have bigger impact on the interest ratesx
 The marginal efficiency of capital is interest inelastic
o Keynesian fiscal policy
 The economy is not necessairy at the full employment in the equilibrium – the government has to boost the demand/intervene to increase the employment
 Fiscal policy is effectice
 BY having a deficit the government can increase AD to achieve full employment
 Fiscal policy can be used to fine tuning of the economy.
o Balanced Budget multiplier
 If the government takes from the AD Ł100 and gives it to a DO NOT SEE LOGINC IN THIS NEED HELP\


Money and banking

- The functions of money:
o The medium of exchange
o A store of value
o Unit of account
o Standart of deferred payment – people are willing to accept money as payment as payment in the future
- Financial institutions
o Discount houses: Intermediaries between the bank of England and the commercial banks. Specialise in very short-term borrowing. Borrow money for the short term from the commercial banks and for the short-term from the Bank of England
o Commercial Banks: Owned by the shareholders. They specialise in providing banking services to the individuals
o Merchant Banks: Ie. Rothschild’s; These banks specialise in advising large companies on raising money and are involved in issuing shares for them
o Finance houses. Help to buy to stuff like TV, or a computer. They borrow you money for that
o Building societies: Firstly just to lend money for houses, but now increasingly competing with banks
- Functions of the bank of England:
o Control the country’s currency: sole power to issue banknotes
o Agent for the government exchange rate policy (buy and sell currency reserves)
o Oversees the financial system
o Banker to the retail banks – holds deposits of retail banks and will lend funds for them
o Supports financial institutions – lender of last resort
o The banker of the government: issues government bonds
- Credit creation and credit multiplier:
o Some of the money is stored in the Banks
o Rest is lent out, and increases the supply of money, this known as ‘credit creation’
- From narrow to broad money
o M0 – notes and coins and the operational balances held in the banks
o M1 – notes and coins in circulation, and private sector sight deposits measure dropped in 1989
o NIMB – Non interest Bearing M1 – excludes all sight deposits which pay the rate of interest
o M2 – NIMB + all other retail deposits held in banks and building societies
o M3 – M1 plus all private sector time deposits in banks plus private sector holdings of bank certificates of deposit
o DO I REALLY HAVE TO KNOW ALL THIS STUFF??? I WONT BE ABLE TOREMEMBER THIS ANY WAY.
- From the mid 1980s the Government is trying to control demand for money rather than the supply for money
- Controlling the money supply:
o Open market operations – the Bank of England sells Government debt (short term treasury bills; long term – bonds). The bank honours the check by paying the Bank of England and this reduces the their reserves and so reduces their liability to lend
o Liquidity: (or reserve) ratios: By forcing the bank of England to keep more funds in reserve, you can force the commercial banks, to do the same. However, the Goodhart’s Law states that if Bank of England tries to control one type of lending than, banks will find other ways of increasing other types of cash.
o Funding: this involves changing a short term debt into a long term one. B y selling longer term debts to the banks the bank of England reduces their liquidity and ability to lent
o Cut the amount the Government borrows: the PSBR increases the money supply if it is financed by selling treasury bills or borrowing from the Bank of England
o Special directives and special deposits: banks can be forced to deposit a certain percentage of their liabilities
o Moral suasion