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TOPIC 1 - INTRODUCTION TO ECONOMICS

What Economic Outcomes do we aim to achieve in this topic?

You will demonstrate understanding of economic terms, concepts and relationships.

You will be able to explain the economic role of individuals, firms and government

in an economy.

You will identify the nature and causes of economic problems and issues for

individuals, firms and governments.

What Economics Issues will be examined?

You will identify the opportunity costs involved in economic decisions made by

individuals, businesses and governments at local, state and national levels.

You will examine the ways that the economic problem affects individuals at

different income levels.

You will examine the implications of unemployment and technological change using

production possibility frontiers.

You will compare and contrast the ways that different economies deal with specific

problems or issues.

What Economic Skills will you develop in this topic?

You will construct and interpret graphs including production possibility frontiers.

You will distinguish between equilibrium and disequilibrium situations in the

circular flow of income model and understand the implications of this.

You will identify key features of an economy through analysis of a variety of

information types and sources.

You will communicate in groups to investigate aspects of economics and economies.

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Preliminary Topic 1 - An Introduction to Economics

Glossary of Terms

TERM DEFINITION

Business Cycle The name given to the sequence of business fluctuations which

occur over a period years in a regular cyclical pattern. The

phases of the cycle may be referred to as expansion (recovery),

boom, recession, and contraction (downswing or slump).

Capital goods The produced means of production used in the production of

other goods and services, such as factories and machinery.

Circular Flow of

Income

A theoretical model, based on certain assumptions, that

describes the transfer of money, goods, and services between

the major sectors of an economy.

Consumer goods These are goods used by consumers to satisfy their wants.

Consumer

sovereignty

Occurs when it is the consumer who decides the production in

the economy through casting dollar votes for goods and

services in the market.

Demand The quantity a consumer is willing to buy at a certain price.

Economic Growth A sustained increase in a nation's output over time, generally

measured as real Gross Domestic Product per annum.

Enterprise The factor of production that an entrepreneur contributes to

production. It consists of innovation, organisation, and risk

taking.

Exports Goods sold to other countries. It is also an injection into the

circular flow and has an economic symbol of X.

Factors of

production

See Resources.

Fair Work

Commission

Fair Work Commission is the national workplace relations

tribunal that manages Australia’s industrial relations.

Financial sector Intermediaries (or go betweens) who get funds in the form of

savings and lend it out to businesses for investment.

Firms sector Businesses who employ resources, carry out production and sell

goods and services.

Government

Expenditure

Money spent by the government. It is also an injection into the

circular flow and has an economic symbol of G.

Government

sector

The government who raise money through taxation and spend

money to provide basic services and redistribute income.

Gross Domestic

Product

Gross domestic product (GDP) refers to the market value of all

final goods and services produced within a country in a given

period of time. Y= C+I+G+(X-M).

Gross National

Income

Gross National Income (GNI) equals GDP plus income receipts

from the rest of the world minus income payments to the rest of

the world.

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TERM DEFINITION

Household sector Consumers and households who supply labour and other

resources and purchase goods and services.

Imports Goods produced overseas and bought for use in the Australian

Economy. It is a withdrawal from the circular flow and has an

economic symbol of M.

Industrial

Relations

The relationship between employers and employees and how

they deal with each other.

Injections Expenditure (such as government expenditure, business

investment or exports) that is not a direct function of income,

but is ' injected ' into the circular flow of income. It increases

the level of aggregate demand and expenditure in the economy.

Investment Investment is expenditure on goods not for current

consumption. It is used to make additions to the stock of capital

in the economy. It is also an injection into the circular flow and

has an economic symbol of I.

Labour A factor of production, which is rewarded for mental or manual

effort, by wages, salaries, and professional payments.

Labour force Those people who are working or seeking work.

Land The factor of production that consists of natural resources,

including mineral deposits, timber, and water.

Opportunity Cost The cost of the best alternative forgone or sacrificed.

Overseas sector Other economies who buy our exports or from where we import

goods and services.

Production

Possibilities

Frontier

A curve showing the maximum production that can be achieved

at a particular time given the existing resources and technology.

Productivity The quantity of output per worker. This is measured by

dividing the output produced by the number of workers or, for

an hourly rate, by the number of hours workers worked.

Public goods These are goods and services that are provided by the

government for everyone’s use and no one can be excluded,

such as parks, libraries and defence.

Quality of Life The overall standard of living and wellbeing of the people.

Recession A period of negative economic growth (negative GDP) of at

least six months duration.

Resources Anything that can be used to produce goods and services.

Economic resources are made up of land (natural resources),

labour, capital and enterprise

Savings The part of personal disposable income that is not used for the

current purchase of consumption goods and services. It is a

withdrawal from the circular flow and has an economic symbol

of S.

Scarcity A shortage of something in relation to what is wanted.

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TERM DEFINITION

Taxation The main source of government revenue and an instrument of

economic policy. The main functions of taxation are to release

resources from the private sector and make these available to

the public sector. It is a withdrawal from the circular flow and

has an economic symbol of T.

Technological

Change

The introduction of new or improved products, new or modified

production processes or improvements in the productivity of

resources.

Underemployed

workers

Employed persons who express the desire to have additional

hours of work in their present job or to have an additional job,

or to have a new job with longer working hours are considered

underemployed.

Wants Peoples' desires for those goods and services which give them

satisfaction.

Welfare A government payment to the needy or worthy without them

providing anything in return, such as pensions, Austudy.

Withdrawals Deductions or leakages from the circular flow. They include

savings, net taxes, and imports.

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THE NATURE OF ECONOMICS

1. What is economics all about?

Here is an introductory powerpoint discussing the nature of economics and what

economics is all about. So let’s start our study of economics here.

N.B. Press on the control (ctrl) key and click on the link to see the powerpoint:

What is Economics?

1.1 What is the economic problem?

The economic problem is about the need to make choices. In any economy there is a

limited supply of goods and services. This limited supply is a result of the scarce

availability of resources. There is only a certain amount of natural resources, human

resources, machinery and people who are willing and able to start businesses in any

economy. On the other hand there are many more things that we would like to have i.e.

wants. As a result of many and in some cases unlimited wants and scarce resources the

individual, businesses and the government have to make decisions to solve this

economic problem.

Economics is really about solving problems. The basic economic problem is due to

scarcity. If we had an infinite supply of resources, there would be reason to charge

people to purchase goods and services. We would not have to pay tax to the government

and we could have all that we wanted. Well let’s stop dreaming and return to the real

world now! There are four basic economic questions that have to be answered in any

economy. Different economies answer them in different ways but they all still have to

decide:

What goods and services are to be produced?

How many of these goods and services will be produced?

How will these goods and services be produced?

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How will these limited quantities of goods and services be allocated among the

members of the economy?

(1) What goods and services are to be produced?

In Australia’s case, the decision of what goods and services are to be produced is

determined by:

Consumers – The more demand consumers have for a product the more likely that

product will be produced. In market based economies the consumer is the dominant

force in determining what goods and services will be produced. This is known as

consumer sovereignty. The more demand there is for products then, generally, the more

products that will be produced.

Business - The profit motive drives business decisions. Businesses seek to maximize

profit, i.e. where revenue minus expenses is greatest.

Government – All economies have at least some government intervention in the

market. In Australia the government is a consumer, an employer, a business and a

regulator. The government can prohibit or limit the production of certain goods and

services, if they are not in the best interests of society, such as drugs and under age

drinking and smoking. The government also creates a demand for goods and services

that they consider society should have, such as defense and art galleries.

(2) How many goods and services will be produced?

This involves deciding the quantity of goods and services to be produced. Over-supply

means wasted scarce resources. More use of finite resources now means less availability

of both resources and output in the future. Again the consumer is the main factor in this

decision. Greater demand usually means more production by businesses. Again the

government may decide to regulate the quantity that will be supplied. This may involve

a quota, a limit on production, or limiting suppliers, such as Telstra’s control of the

telephone lines that provide communication for homes in Australia.

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(3) How will these goods and services be produced?

The decision process of how goods and services will be produced is really one for

businesses to consider. While there may be some government regulation of hours of

work or zoning of land for industrial and other purposes, businesses will base production

decisions on the cost and production possibilities of the resources they will use. For

example, relatively higher costs of labour will lead to greater use of capital in the

production process.

(4) How will these limited quantities of goods and services be allocated among the

members of the economy?

In a market economy the value of the resources that you contribute to the market largely

determines the income that you have and as a result your share of goods and services.

For example, if you earn a high wage then you can purchase goods and services with

that. If you have no income or low income, then you will rely on the government to

redistribute income through social security and welfare to allow you to purchase goods

and services. The government also decides certain goods and services should be

produced in the interests of society. As a result taxes are used to redistribute income and

resources to these areas, such as defence, public housing, libraries and parks.

APPLY YOUR LEARNING 1.1

Group Work - Stranded on a deserted island

You are to break into groups of 3-4 students. You are to assume that you are stranded on

a deserted tropical island, 500 kms off the coast of Queensland. You have the task of

setting up an economic system on that island. You need to decide the basic economic

questions of:

What and how much to produce?

How to produce it?

Who will get it?

What will be done to increase efficiency and economic growth?

It is important to develop a system that will sustain economic development. The role of

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each person in the group should be clearly explained. The group will have 20 minutes to

plan their economic system and each group will give a 3-5 minute report.

REVIEWING AND APPLYING YOUR LEARNING 1.2

Now that you have an idea of what Economics is about, watch the following video and

write your own definition incorporating the terms: resources, scarce, needs and wants.

http://www.youtube.com/watch?v=yoVc_S_gd_0

1.2 The need for choice by individuals and society

As we have already seen consumers, businesses and the government have to make

choices due to the limited supply of resources available to any economy. You, as a

student, have made choices about whether to go on to Year 11 or choose to go to TAFE

or to go to work. You can not do all of these at the same time as time is also a scarce

resource.

1.3 Opportunity cost and its application through production possibility

frontiers

In making this decision you have considered an economic principle that of opportunity

cost. The decision to produce or consume a product involves giving up another product.

The real cost of an action is the next best alternative forgone.

Opportunity cost is the main alternative that you have given up. You can not be in

school, at TAFE, at work and at the beach at the same time. You have to make a choice.

The best alternative that you have given up is your opportunity cost. If you weren’t at

school now, where would you be? That is your opportunity cost. If you would be at

TAFE then that is your opportunity cost.

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Just as individuals make choices, businesses and society also have to consider

opportunity cost. The business can not produce an unlimited quantity of output as

resources are scarce. The business has to decide the goods and services that they will

produce and the quantities with their limited resources. The business considers its

production possibilities. With the resources it has a business has a number of alternative

levels and types of output that it can produce.

Let’s consider a farmer in Australia. They have a certain size farm which limits the

amount that they can produce. The farmer has to decide between producing a number of

products. Finally the farmer decided to produce wheat and sheep. This is not the end of

the problem the farmer needs to consider how much land will be allocated between the

wheat and sheep production. This is shown in the production possibilities schedule

below.

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Table 1.1: Wheat V Wool Production

Wheat (tonnes) 1000 800 600 400 200 0

Wool (bales) 0 200 300 350 380 400

If the farm only produces wheat, then 1000 tonnes can be produced. If the farmer wants

to produce 200 bales of wool, land will have to be diverted from wheat production. This

reduces the output of wheat to 800 tonnes. The opportunity cost is 200 tonnes of wheat

to produce 200 bales of wool. Similarly if the farmer only has sheep to produce wool on

the farm then 400 bales of wool can be produced. To produce 200 tonnes of wheat, the

transfer of resources leads to a loss of wool production of 20 bales. The opportunity cost

of producing 200 tonnes of wheat is 20 bales of wool.

These production possibilities for the farmer can be plotted on a graph as a production

possibilities frontier. This is shown in the figure below.

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APPLYING YOUR LEARNING 1.3

Assume that you are the manager of a clothing factory. You have a limited quantity of

workers and a set number of machines. With these resources and a certain quantity of

cloth you can produce a certain quantity of full length pants or shorts. You calculate the

following production possibilities schedule for your factory.

Table 1.2 Pants or Shorts

Pants 500 400 300 200 100 0

Shorts 0 250 450 600 720 800

Q1. What is the opportunity cost of making 500 pairs of pants?

Q2. What is the opportunity cost of making 250 pairs of shorts?

Q3. What happens to the opportunity cost, if you increase the production of shorts from

250 to 450?

Q4. What is the opportunity cost of 200 pairs of pants?

Q5. What factors would influence your decision about which combination of shorts and

pants to produce?

1000 Wheat

800

600

400

200

0

100 200 300 400 Wool

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Plot your production schedule on a graph showing a production possibilities frontier.

Remember to draw you graph to scale and label your axis.

REVIEW YOUR ANSWERS

Did you get the right answers? Click here to see the correct answers. There is a

powerpoint of the instructor showing you how to work out the correct answers and

showing you how to draw a production possibilities frontier.

The choices we make have future implications for the individual, businesses and society.

By deciding to pursue further study in Years 11 and 12 you are giving up the

opportunity to earn income in the present. However, you are increasing your chances of

earning a higher income over your lifetime. The business that applies good

environmental policies, such as adopting solar energy in production, may have increased

costs in the present period, but this may ensure long term efficient resource use by the

firm and higher profits over the long run for the firm. The government may decide to

increase university fees to reduce their spending and increase the budget surplus. In the

long run, though, this may lead to a less qualified workforce, leading to lower

productivity and lower economic growth. This could lead to the government getting less

revenue and paying more out in social welfare for those out of work.

An important consideration for any economy is the proportion of scarce resources

allocated between consumer goods and capital goods. Consumer goods are the goods

and services that we consume that give us present satisfaction such as food and clothes.

Capital goods are goods that are used in future production that may increase the quantity

of goods and services we have in the future. As resources are scarce we need to limit our

consumption of consumer goods in the present to allow for the production of capital

goods that will supply the consumer goods and other capital goods in the future.

In the case of Australia and many western economies we tend to have a high level of

spending on consumer goods which leave few resources for producing capital. In turn

many Asian economies have lower levels of consumer spending and as a result more

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savings that are diverted to investing in capital goods production. The effect of this has

been that economies that divert a higher proportion of resources to capital goods

production have higher rates of economic growth compared to those who do not.

Let us look at the case of Australia and Singapore. In 1965, Singapore became an

independent state. It was faced with a lack of physical resources, a small domestic

market and a low standard of living compared to Australia. In response, the Singapore

Government adopted a pro-business, pro-foreign investment, export-oriented economic

policy framework, combined with state-directed investments in strategic government-

owned corporations. Singapore's economic strategy proved a success, producing real

growth that averaged 8% from 1965 to 2015. In the same period Australia had lower

levels of capital goods production and grew at a much slower rate so that by 2015 the

value of Singapore’s production per person had overtaken that of Australia’s. This

relationship is shown in Figure 1.1.

REVIEW YOUR LEARNING 1.4

Click on the powerpoint link of the instructor showing you the relationship

between capital goods production and consumer goods production and economic

growth in an economy. Capital Goods V Consumer Goods.

APPLYING YOUR LEARNING 1.5

(a) Which country do you think will have the highest level of economic growth per

person in 2025?

(b) Would you reduce your spending on consumer goods in the present to increase

Australia’s living standards in the future?

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Figure 1.1: Economic Growth in Australia and Singapore

There are a number of ways to shift the production possibilities frontier outwards. This

is shown in Figure 1.2 below by a movement in the frontier from the full line to the

broken line. Apart from an increased use of capital, any increase in the quality or

quantity of resources will increase the production possibilities frontier. For example this

may occur as a result of finding new natural resources (land) by exploration or

improving the quality of land such as soil by irrigation or fertiliser. Labour can be

improved by increasing its supply or its quality, such as by having a more skilled and

qualified workforce. Capital can increase production possibilities not only through an

increase in the quantity but also its quality, such as through developing more efficient

machinery. Even entrepreneurs, the people who decide to take a risk and set up a

business, can improve their quality by having better training. Many Australian

businesses, especially small businesses, fail in their first five years because of the lack of

managerial ability of their owners.

Capital

Goods

per

person Singapore

1965 Australia

1965

Australia

2015

Consumer Goods per person

Singapore

2015

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A firm or a nation will only be producing on the production possibilities frontier when

all their resources are being used efficiently. If there is excess capacity or wasted

resources, the firm or nation will operate inside their production possibilities frontier,

point X in Figure 1.2. They are not being efficient and have unemployed resources. If

there are unemployed workers in a nation, this is a sign of inefficiency. The nation is

operating inside its production possibilities frontier. Reducing unemployment is a

positive goal for an economy as it increases efficiency and not only increases the living

standards of the unemployed but for the economy as a whole.

Figure 1.2: Capital Goods or Consumer Goods

1.4 What are some of the economic factors underlying decision

making?

There are many economic factors that underlying decision making every day in

Australia and all economies. These factors vary depending on whether you are an

individual, a business or a government.

(i) Decision making by individuals: The decisions of the individual are influenced

by many factors. These include:

Capital

Goods

Consumer Goods

X

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i. Spending v saving: The individual is limited in their ability to spend or

save by their level of disposable income (income after tax). A high income

earner has greater choices than a low income earner. The individual can

choose to spend or save their income. However, the low income earner

needs to spend a higher proportion of their income for basic needs and

survival. In many cases low income earners will have no savings and may

even be in debt. The high income earner will generally save some of their

income for the future and this accumulates as wealth.

ii. Work, education and retirement: Once a person turns 15 years old in

Australia they have to make decisions about work and school. By returning

to school to start year 11 you have given up current income as a worker to

pursue higher income as a result of greater qualifications. At the end of

year 12 you will have to make the work v education decision again. Will

you go to work or go to TAFE or university? Each of these factors affects

your income level and purchasing ability in the present compared to your

lifetime earnings. Eventually you will go to work as this will maximise

your income and allow you to purchase goods and services. You still will

have to make the decision of when you are going to give up work and

retire. The longer you work the more income you receive and as a result the

more wealth you accumulate to spend during your retirement. You may

make the decision to retire yourself or it may be made for you by an

employer or employers who decide that you are no longer required as a

worker. Family and health factors also influence the work v retirement

relationship. Many women quit work to have children and do not return to

paid employment or only work part-time. In some cases, early retirement

may occur due to ill health. All these decisions affect your lifetime income

and spending capacity. People will make different decisions over their

lifetime because they are individuals and have different wants, interests,

capabilities and opportunities.

iii. Voting and participation in the political process: Australian citizens and

residents over the age of 18 are required to vote. This gives you the right to

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influence the selection of the politicians who will make many important

decisions that will influence not only your life but also businesses, the

nation and the economy. Decisions on areas such as health care, education,

and taxation will all influence your quality of life and the choices you are

able to make. For example increases in the cost of university fees have led

to a decline in the proportion of students from low income areas going to

university and as a result affects their work v education decision. This may

also reduce their lifetime earnings potential, as university graduates on

average have higher lifetime earnings than students who only study till the

end of Year 12. A government decision for a tax cut in the present has to

be weighed up against a possible loss of services such as roads, hospitals,

welfare and education in the future. Many short term decisions have much

larger long term implications that may not always be considered but it is

the job of an economist to consider these implications.

(ii) Decision making by business: The decisions of business are influenced by such

economic factors as:

i. Pricing: Businesses seek to maximise profits. This is generally achieved by

maximising revenue compared to costs. Profits are maximised where the

gap between the business’ total revenue and total costs are greatest. If the

market price for a product rises, such as oil or wheat, then this generally

increases total revenue and as a result profits. Rising prices for a good or

service in the market is an incentive for a firm to produce more of that

product.

ii. Production and resource use: Businesses have to decide their method of

production. The aim will be to produce efficiently, that is at minimum cost.

The firm considers the various methods of production and the various

combinations of resources such as capital, land and labour to achieve their

production target. The firm then considers the cost of those resources and

finds the cheapest and most efficient way to achieve that production target.

As technology and methods of production change so will the ways to

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produce. Changes in the costs of the resources such as wages and

machinery will also change the most efficient combination of resources in

production.

iii. Industrial Relations: Industrial relations is the relationship between

employers and employees. This relationship not only involves the

determination of wages and conditions of work but also the way each deal

with the other and their level of co-operation. A positive working

environment leads to increased productivity but an unhappy workplace

leads to lower productivity, absenteeism and staff turnover.

(iii) Decision making by the government: The government also has limited

resources and great demands on those resources. People ask for increased

spending on schools, roads, health, social welfare and many other areas, while

also demanding cuts to tax and government charges. The governments of

Australia therefore have to make decisions about revenue and expenditure that

influence the decisions of consumers and business. A change in the rate of

personal income tax affects the spending behaviour of individuals. This change

in spending will influence the production decisions of businesses. Greater

spending by the government on child care will divert resources to that area and

businesses will produce goods and services to meet that demand. The

government also regulates the operation of the market and influences consumer

and business decisions in that manner. For example, to limit environmental

damage the government may have charges for cleaning up the environment or

have requirements in place to prevent possible damage, such as pollution control

devices on cars and phasing out leaded petrol.

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THE OPERATION OF THE ECONOMY

1.5 Production of goods and services from resources

The first stage of production is to decide what resources are required to produce the

goods and services the firm aims to produce. These resources, or factors of production,

can be grouped into four main areas:

Land: The factor of production that consists of natural resources, including

mineral deposits, timber, and water.

Labour: The factor of production, which is rewarded for mental or manual

effort, by wages, salaries, and professional payments. It includes the skill and

effort of cleaners, carpenters and nurses.

Capital: The produced means of production used in the production of other

goods and services, such as factories and machinery. It is important to note that

money is not capital in economics but money used by a business to purchase

machinery is known as investment.

Enterprise: The factor of production where an entrepreneur (the person who

starts the business) organises production. It consists of innovation, organisation,

and risk taking. The entrepreneur is responsible for coordinating the other three

factors of production in the production process. In modern business practice, the

entrepreneur may employ a manager (labour) to supervise the day to day

operation of the business.

To be a factor of production in economics the resource must be usable in the production

process. As a result reserves of oil and other natural resources that have been discovered

and are usable are considered land. However, areas of property, for example, that have

no use in production (at least at some point in time) such as desert would not be

considered land in economics.

Let us look at the production process for steel manufacturing. The inputs are land, labour

and capital, but there is also the need for an entrepreneur to take the risk to purchase

these factors of production in order to carry out production. The risk is that the business

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may fail and the entrepreneur will lose their money and other contributions that they

have made to the business.

Figure 1.3: The production process

REVIEWING AND APPLYING YOUR LEARNING 1.6

Complete the following Table:

FACTOR OF

PRODUCTION

EXPLANATION RETURN

Land

(Natural Resources)

Labour

The produced means of production e.g.

computers and machinery

Profit

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Group activity: Join into a group of three to four students and prepare a flow chart

similar to that above (Figure 1.3) to show the production process of another good or

service. What similarities and differences do you find between your flow chart and the

ones for steel and those of your other classmates?

1.6 Exchange of goods and services:

The exchange or purchasing of goods and services vary. When a service is produced it is

usually available directly to the consumer. When a train or a bus service is produced the

consumer uses the service as they choose. It is directly available to them for purchase.

With goods often there is another stage in the distribution process, that involving a retail

outlet. Consumers do not but steel products directly from the steel manufacturer. The

steel products may go through another stage of processing to make them into a form that

is usable by consumers such as a car or a stove. They are then sold to retailers who then

sell them to consumers. Often factories will not be near consumers so that is why a retail

sector is important. It would be difficult for us to buy a car directly from a car

manufacturer in Germany or Japan but through a retail network this is easy and also

more efficient.

1.7 Provision of income and distribution of goods and services:

A person’s or family’s income largely determines their ability to purchase goods and

services in the economy. The level of income one receives is largely determined by the

value of the resources that they possess to the market and how much of those resources

they sell to the market. For example, workers will generally be paid based on their level

of skill, qualifications, productivity and the number of hours that they work. University

graduates on average are paid 50% more than workers with no post-school

qualifications. University graduates also have less than half the unemployment rate of

those with no post-school qualifications. Apart from work, income can be gained by

owning resources and receiving rent for them, by saving money and earning interest and

by investing and earning dividends and profit. For those with limited sources of income

the government provides support through the social security and welfare system, such as

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with pensions and public housing. The government also has decided that in Australia

certain goods and services will be provided free to the community without any direct

payment. These include public goods such as parks, libraries and defence. They also

include goods and services that are provided free or at a very low cost such as public

schooling and health care, through Medicare. These are funded through taxation revenue

and the amount of tax that you pay does not affect your ability to use these goods and

services.

1.8 The business cycle and its impact on the quality of life and

employment

The business cycle is the pattern of fluctuations in the level of economic growth in the

economy. Economic growth in Australia is measured by the nation’s Gross Domestic

Product (GDP) i.e. the total value of goods and services produced in the economy in a

set period of time. The economy tends to go through a cycle of levels of growth as a

result of changes in the level of spending and as a result production over time. The

pattern of these changes in spending and growth creates the business cycle.

There are four main stages in the business cycle. They are:

the upswing (expansion);

boom (peak);

the downswing (contraction);

trough (recession).

Not all downswings and eventual troughs will lead to a recession. A recession is

classified as two consecutive quarters of negative growth. This means that production in

the economy declined over a period of six months. Sometimes economies go into

depressions. This is a sustained long period of negative growth usually leading to very

high levels of unemployment and increased poverty. The great depression of the 1930s

lasted for more than 10 years and had an unemployment rate of over 25 %.

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Figure 1.4: The business cycle

APPLYING YOUR LEARNING 1.7

Use the information in the following table to plot the business cycle for economy X. On

the graph mark in the stages of the business cycle.

Table 1.3: Business cycle

Economy X Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7

GDP $billions 130 100 90 120 150 130 110

Fluctuations in the business cycle have a major impact on the level of unemployment

and the quality of life. Economic growth increases the quantity of goods and services

produced in the economy and, as a result, make more products available for consumers.

Having more goods and services is one way of increasing living standards and the

quality of ones life.

REVIEWING AND APPLYING YOUR LEARNING 1.8

Click on the powerpoint link of the instructor showing you how the business cycle

operates and the effect of different stages of the business cycle. Business Cycle link.

GDP Upswing

Boom

Downswing

Trough

Years

24

In Australia, some economists consider that an economic growth rate of three percent is

very significant. When economic growth rises above three percent then there is

sufficient demand to lower the rate of unemployment. This view relates to Okun’s Law.

So that an increase in labour productivity together with an increase in the size of the

labour force can mean that output grows without the overall unemployment rate falling.

For example, if labour productivity is 1.5% and the labour force grows by 1.5%, as a

result of new workers entering the market, then GDP would need to increase by more

than 3.0% to reduce the unemployment rate. In a country such as China with higher

productivity and labour force growth, GDP may need to grow by as much as 7% before

the unemployment rate is lowered.

In the recession of the early 1990s in Australia, unemployment peaked at 11.4% in

1993-94. This also created a long-term unemployment rate of 36.6% in 1993. The long-

term unemployment is the percentage of the unemployed who have been out of work for

al least 12 months. The problem of the long-term unemployed has grown with each

recession Australia has had since 1980. In 1980 the number of long-term unemployed

was less than 80,000 people. Following the recession of 1982-83 the long-term

unemployment level rose to over 200,000 and during the recession of 1992-93 exceeded

350,000. This created a major problem for the structure and employability of the labour

force. Long-term unemployment was still high at 179,000 people in 2016 see Figure 1.6.

Growth in the long-term unemployment rate leads to the loss of skill, experience and

confidence for the unemployed. Many give up looking for work when they are

unemployed for lengthy periods of time. This is a loss of human capital and a loss of

potential output for the economy. Human capital is the value of a person’s education,

skills and experience. The longer a person is out of work and not using or developing

these skills the less productive they will be when they return to work. Many employers

when they have a choice of selecting from many workers will select those with the most

up-to-date skills and recent or current work experience.

25

Figure 1.6: Long-term unemployment in Australia, 1991-2016

Source: ABS, 6291.0.55.001 Labour Force, Australia

This increases the problem and the duration of long-term unemployment. Some of these

workers have been unemployed for 5 years or more and would need retraining to re-

enter the workforce. Even in 2016 when the general level of unemployment has declined

to 6.0%, the long-term unemployment rate stood at 22%, with more than 71,000

unemployed for more than two years. So as you can see recessions and unemployment

are not good for the economy or the individual. A steady growth path is desirable for all

economies but difficult to achieve. Ways of achieving this will be considered later in

this course.

1.9 The circular flow of income

The circular flow of income is like a map that shows the paths that money, income and

goods and services travel in the economy. The transfer of income takes place between

five main groups or sectors in the economy. A simple model with only two sectors

shows the transfer of income, resources and goods and services between the household

sector (or consumers) and the firms sector (or businesses). By looking at these two

sectors we can start to see the relationships that exist in the economy. The household

26

sector is comprised of all individuals, groups and families who buy goods and services

in the economy. The household sector also has another function as they also provide the

factor of production labour to the firms sector to carry out production. The firms sector

is made up of businesses that produce goods and services and employ the labour used in

production. The firms sector includes small individual producers up to large

transnational corporations, such as McDonalds and Coca-Cola.

In the two-sector model the household sector buys the goods and services that

businesses produce. In exchange the consumers pay money or income to the firms

sector. The consumers earn that money that allows them to purchase goods and services

by contributing their resources, mostly labour, to production. The household sector’s

spending becomes the firms sector’s income. This income is then used to cover the costs

of production, including labour. This relationship is shown in the simple circular flow

model Figure 1.7.

While the basic two sector model may not seem too complicated in the real world it does

not always operate smoothly. Decisions that are made by one sector can have major

effects on the other sector and lead to further consequences for itself. Let us consider a

situation where the firms sector decides that they can increase profit by sacking workers

and making all the other workers, who still have a job, work harder. The goal of greater

profits may not be achieved as workers are also consumers. Unemployed workers have

less income to spend. This leads to less demand for the firms’ production and less goods

and services are sold. Lower sales may lead to less profit. The firm may decide that due

to the fall in sales that they will sack more workers. This in turn means less consumer

expenditure, reduced sales and a further lowering of profits. So as you can see the

decisions made by these two sectors have major influences on each other.

27

Figure 1.7: A basic two-sector circular flow of income model

In the full operation of the economy there are five main sectors. Apart from the

households and firms sectors there are also the financial sector, the government sector

and the overseas sector. In the basic two sector model it is assumed that households

spend all their income. The introduction of the financial sector allows consumers to save

part of their income and to deposit those savings in the financial sector. The financial

sector in Australia is comprised of financial enterprises (such as banks) and financial

markets (for example, the bond market or share market). The financial sector enables

funds for investment to be made available from savings to other parts of the national or

international economy. The financial sector acts as an intermediary or a ‘middle man’.

They take savings (S) from the household sector and pay interest for the money and lend

the money to businesses to carry out investment (I). The return from the investment is

known as profit. Savings is a withdrawal of money from the circular flow. When the

money is lent out to business this then becomes an injection of funds. An important

issue to consider is that the level of savings does not have to equal the level of

investment in the economy. Savings (S) is carried out by consumers to earn interest, to

purchase things in the future and for security. High interest rates tend to increase the

level of savings in the economy. Investment (I) on the other hand is used to purchase

capital to increase production. Interest is a cost for the investor. It is the price they pay

Household

Sector

Labour, enterprise

Consumer expenditure

Wages, salaries and profits

Goods and services

Firms

sector

28

for borrowing money. High interest rates will tend to discourage investment. When the

level of savings is equal to the level of investment i.e. S=I, then there is equilibrium in

the financial sector (withdrawals = injections). If S>I (withdrawals > injections), then

more money is being saved than being invested. Lower investment will mean less

money in the circular flow and less production. This will lower economic growth and

may increase unemployment in the economy. If I>S (injections > withdrawals), the

extra spending on investment will increase production and economic growth. This will

also lead to increased employment and income in the economy. The differences in the

level of savings and investment are two of the factors that cause the business cycle to

occur as when S>I, the level of economic growth declines (downswing). When I>S,

spending increases and economic growth also rises in the economy (upswing).

Figure 1.8: A three-sector circular flow of income model with savings and

investment

The final two sectors of the economy are the government and the overseas sector. As

you know in the real world your income is not only used for spending and saving. The

government takes part of your income in the form of taxation. This includes income

taxes, company tax, the goods and services tax and many other types of taxes that will

be discussed in topic six, government and the economy. Taxation (T) is money taken out

Household

sector

Firms

sector

Labour, enterprise

Consumer expenditure

Wages, salaries and profits

Goods and services

Financial

sector

Savings

Interest

Investment

Profit

29

of the circular flow and like savings is a withdrawal. The government injects money into

the circular flow when they engage in government expenditure (G). The government

spends money to provide roads, education, health, defence and many other essential

requirements for a modern economy. If the level of government revenue (T) equals the

level of government expenditure (G), then the government budget is said to be balanced.

A balanced budget is only one option for a government. The government may have a

deficit budget where G>T. The excess government expenditure over taxation will

increase spending in the economy and make the economy grow. This is often referred to

as an expansionary budget. If T>G, then there will be more money withdrawn from the

economy than injected. This is a surplus budget. This reduces spending levels and

economic growth. This is also known as a contractionary budget. There are times when

all three budget outcomes will be appropriate. If the economy is growing too quickly

then a surplus budget will slow the level of spending. If there is high unemployment and

low economic growth then a deficit budget will increase spending and create jobs and

economic growth. In the early years of the 1990s the Federal government ran deficit

budgets because of the high unemployment levels. However in the period after 1998 the

government had relative high economic growth and falling unemployment so ran surplus

budgets up till 2007. As a result of the Global Financial Crisis, Australia has run budget

deficits since 2008.

If there is too much spending in the economy this may cause prices to rise (inflation) and

a boom may occur. A boom generally means the economy has reached its capacity and

prices have risen and the growth can not be sustained that is why we see a downswing

following the boom in the business cycle. When the economy is growing at a steady rate

then a balanced budget may be most appropriate. The final sector is the overseas sector.

This involves transfers of money to and from overseas in exchange for goods and

services. When we sell goods and services overseas (exports) we receive money in

return. This money comes into the economy and is seen as an injection into the circular

flow. When we buy goods and services from overseas (imports) we pay money for them

and the money is withdrawn from the circular flow. The money is not being spent in

Australia creating demand and economic growth but is being spent buying overseas

30

production and as a result reduces income in Australia. Changes in our exports and

imports also influence economic activity in Australia. If exports (X) are greater than

imports (M), then the extra income being used to buy Australian goods and services will

lead to increased demand and higher economic growth in Australia. If M>X, then more

income is withdrawn from the circular flow and this slows the economy down (Figure

1.9).

Figure 1.9: The five sector circular flow of income model

It is not easy to control the level of exports and imports. Our export income is very

dependent on the demand from countries overseas, which we have no control over. Our

import levels often depend on whether we can buy the products in Australia and whether

we are having increased incomes and want to buy more goods and services from

31

overseas. In the period 2003 to 2012 Australia’s exports increased as a result of

increased demand from Asia, especially China. Similarly exports fall whenever we have

droughts, as rural output declines. The difference between exports and imports i.e. X

minus M is known as net exports. A positive level of net exports is expansionary and a

negative value is contractionary.

Equilibrium in the five sector model

The circular flow is in equilibrium when injections equal withdrawals. The injections

into the circular flow are investment (I), government expenditure (G) and exports (X).

The withdrawals are savings (S), taxation (T) and imports (M). The economy is stable at

equilibrium, so there is no incentive to change the levels of spending and economic

growth. Equilibrium occurs when I + G + X = S + T + M. This does not mean that at

this time that I=S and T=G and X=M but rather that the total level of injections equals

the total level of withdrawals from the circular flow. This is why many economists

consider that changes to the budget (G and T) are important in bringing about

equilibrium in the economy as the other factors, S, I, X and M are largely outside the

control or influence of the government.

Equilibrium in the circular flow does not occur very often as the levels of injections and

withdrawals continually change over time and the decisions especially to save, invest,

purchase exports and imports are done for different reasons by different groups both

within and outside the Australian economy.

When injections (I+G+X) are greater than withdrawals (S+T+M) more income is going

into the circular flow and that leads to increased demand and subsequently production.

The rise in production increases the economy’s economic growth and subsequently the

demand for labour and other resources. The economy will expand until injections and

leakages are equal. Economic growth in the economy is limited by the scarcity of

resources. An economy can not expand its production past full employment of resources.

When full employment is reached any increase in injections or demand creates inflation

(a rise in the general price level) not economic growth.

32

When injections are less than withdrawals less spending is taking place in the circular

flow. This reduces demand for production. Workers and other resources are laid off. The

unemployed workers reduce their spending as their income has declined. They may need

to draw on their savings to survive. So demand falls further and production and

economic growth continue to fall. The level of growth will decline until injections and

withdrawals are again equal. This time there will be higher unemployment and a lower

level of economic growth in the economy.

REVIEW YOUR LEARNING 1.9

Click on the powerpoint link of the instructor showing you how the Circular Flow

of Income operates and the effect of different levels of injections and withdrawals

on the Circular Flow and the economy. Circular Flow link.

REVIEW YOUR LEARNING 1.10

Copy the following passages and fill in the gaps.

The five main sectors of the economy, _________________, ___________________,

___________________, ___________________________, ____________________,

transfer funds between each other in exchange for __________________ and

________________. In a simple model, firms pay money to households in the form of

____________________________________________________. These payments are

made in return for the services of the factors of production, __________________,

_______________ and _________________________. The households use this money

to purchase __________________ produced goods and services.

Not all of the income in the economy is spent on domestically produced goods and

services. Some is withdrawn from the ________________ flow. The main withdrawals

or ________________ are __________________, _________________, and

_________________. The economic symbols for these are S, T and M.

33

Demand in the economy does not only come from spending on domestically produced

goods but also through the injection of funds. The three main types of injections are

____________________, _______________________________ and ____________.

The economic symbols for these are _____, _____ and ______.

If injections are greater than withdrawals, more income will enter the circular flow and

the economy will ____________ and economic growth will occur. If injections are less

than withdrawals, the economy will _____________ and economic growth will

______________ and unemployment will _______________________. If injections

equal withdrawals, the economy will be ___________________.

APPLY YOUR LEARNING 1.11

Consider the following statistics for a hypothetical economy. All amounts are in billions

of dollars.

S = 100 T = 80 M = 40 I = 90 G = 90 X = 60

The budget result would be a __________________ of $_______________________.

Net exports would be a _________________of $____________________________.

The circular flow would _______________ as leakages are ______________ than

withdrawals by an amount of $_________________________.

If there was a slowdown in the world economy and exports fell to 30, net exports would

be a _________________of $____________________________. The circular flow

would _______________ as leakages are ______________ than withdrawals by an

amount of $__________________________.

34

ECONOMIES AND THEIR SIMILARITIES AND

DIFFERENCES

1.10 Similarities and differences between Australia and our Asian

neighbours

While all economies have the same basic five sectors, the influence each sector has over

the economy varies. Some countries have more people, some more land and some more

capital and technology. All of these factors, as well as the country’s history and

traditions impact on the type of economy that exists and the quality of life of its people.

The quality of life for the majority of Australians is quite high compared to other

economies. The 2014 Human Development Report (HDR) (based on 2013 data) ranks

Australia’s quality of life as the second highest in the world, after Norway. The main

factors that give Australia such a high ranking are our high life expectancy of 82.5 years

and the amount of education we receive, where Australia is ranked first in the world.

Australia’s economic growth as measured by Gross National Income (GNI) per capita

(PPP) is ranked only 20th in the world. These three criteria are used to measure quality of

life as it is believed that they will reflect a country’s overall standard of living.

Education is seen as a source of productivity and growth and a high quantity of

education ranking is considered as an indicator of opportunity for the people in a

country. In some countries in the world such as Niger, in Africa, less than 50 % of

children finish primary school and the rate for female completions is below 25 %. Life

expectancy also reflects your living standards. Countries with low living standards tend

to have short life expectancies. For example the life expectancy in Sierra Leone is less

than 46 years. A long life expectancy usually reflects good quantities and quality of

food, health and general living standards. The GNI per capita is measured in terms of

purchasing power parity (PPP). This tells you how much people living in a country can

buy with their money compared to someone in a different country. So a high GNI per

capita (PPP) means that the average person’s ability to buy goods and services is high

35

compared to the average person in a country with a low GNI per capita (PPP). For

example Australia’s GNI per capita (PPP) was $41,524 US in 2013 compared to only

$588 US in the Central African Republic, and $444 US in Congo. There are countries

with higher income than Australia who do not have as high a human development index.

For example the GNI of Qatar was $119,029 US and Kuwait $85,820 US. These nations

are highly reliant on income from oil exports. So the fall in world oil prices in the period

2014-16 had a considerable impact on their GNI and the overall standard of living of

their people.

1.11 Economic Growth and the Quality of Life in Asia

If we compare our quality of life with our Asian neighbours, we find that inhabitants of

East Asia and the Pacific have a life expectancy of 74.0 years and South Asia has a life

expectancy of 67.2 years. Income levels are also lower with an average GNI per capita

(PPP) of $10,499 US in East Asia and the Pacific and $5195 US in South Asia. Literacy

rates are also much lower in these regions with 95% in East Asia and the Pacific and

63% in South Asia, compared to 100% in Australia. It is important to note that a person

is measured as literate if they are over 15 years old and have completed Year 6 at school.

Let us consider what life is like in one of our closest neighbours in Asia, the Philippines.

The Philippines consists of 7107 islands. With a population of over 100 million people it

is the 7th most populated country in Asia and the 12th most populated country in the

world. The 2014 HDR ranked the Philippines 117 out of 187 nations. The life

expectancy at birth in the Philippines is 68.7 years and the GDP per capita is $2765 US.

The Philippines is considered a newly industrialised economy. It is moving from an

economy based on agricultural production to one based on manufacturing and service

industries. Since 2010, the Philippines’s Economic Growth Rate has averaged 6% per

annum.

1.12 Employment and unemployment in the Philippines

Despite rapid economic growth in the Philippines in recent years, unemployment

remains a persistent problem. Under President Benigno Aquino, in office since 2010,

36

unemployment has fallen. The latest figures show the rate at 5.6% in October 2015,

down from 6% a year earlier. But progress has been uneven and the Philippines still has

one of the highest rates of unemployment in the ASEAN region. One reason is that job

creation has struggled to keep pace with an ever-expanding population. In many years,

the number of people entering the job market has been greater than the number of jobs

created.

Table 1.4: Employment indicators in the Philippines

Indicator Oct 2015 Jul 2015 Oct 2014

Employment Rate 94.4 93.5 94.0

Underemployment

Rate 17.7 21.0 18.7

Labor Force

Participation Rate 63.3 62.9 64.3

Unemployment

Rate 5.6 6.5 6.0

In addition to the unemployment problem, there is also the issue of underemployed

workers. The total number of underemployed in October 2015 was estimated at 8

million. This corresponds to an underemployment rate of 17.7%.

1.13 Distribution of income in the Philippines

Despite the transition from agricultural production to one based on manufacturing and

service industries and a 6% annual growth rate in the last 5 years, the daily income of

45% of the population of the Philippines is less than $2 a day. For those who have a job,

the minimum wage is around 270 pesos1 a day but it varies between regions and

occupations. The gap between the country’s rich and poor is widening, with high-

earning individuals enjoying significantly faster growth in incomes compared with

people from the middle- and low-income classes.

1 There were approximately 33 pesos to an Australian dollar in 2016.

37

Figure 1.9: Poverty in the Philippines: A child collecting trash for income on a

dumpsite in the Philippines.

Source: Photo by Nigel Dickinson.

One of the main causes of income inequality in the Philippines can be traced to

educational inequality. Inequalities in income, as well as inequalities in labour and

education have provided barriers for Filipinos to participate in economic activities and

achieve higher living standards. Table demonstrated the relationship between the head of

the household’s level of educational achievement and poverty level.

Table 1.5: Poverty in 2009 by household head's educational attainment and their

level of poverty

Educational

Attainment of

Household Head

Poverty

Headcount Rate

Distribution of the

Poor

Distribution of the

Population

At Most Primary

Graduate 32.6 96.1 78.0

Some High School 7.5 3.3 11.7

Beyond High

School 1.6 0.6 10.3

Total 26.5 100.0 100.0

Source: Albert, Ramon Jose; Dumagan, Jesus; Martinez, Arturo (January 2015). "Inequalities

in Income, Labor, and Education: The Challenge of Inclusive Growth”

38

1.14 Environmental Sustainability in the Philippines

Despite the general view that the Philippines has a beautiful natural environment, it does

have considerable environmental issues. The Philippines suffers from human-caused

environmental degradation aggravated by a high annual population growth rate,

including loss of agricultural lands, deforestation, soil erosion, air and water pollution,

improper disposal of solid and toxic wastes, mismanagement and abuse of coastal

resources, and overfishing.

The neglect of a coherent environmental policy, in the past, has led to the situation,

where almost 60% of the groundwater is contaminated. The main source of pollution is

untreated domestic and industrial wastewater. Only one third of Philippine river systems

are considered suitable for public water supply. Many people rely on bottled water as

their only source of safe water. Besides severe health concerns, water pollution also

leads to problems in the fishing and tourism industries.

In addition, only 5% of the total population is connected to a sewer network. The vast

majority uses flush toilets connected to septic tanks. Since sludge treatment and disposal

facilities are rare, most effluents are discharged without treatment. While the Philippines

does have a Strategy for Sustainable Development (PSSD), the effects so far have been

limited.

Further environmental issues can be viewed at https://www.youtube.com/watch?v=2tPl-

jjLHCc

1.15 Role of the Philippines’s Government in health care, education

and social welfare.

The Philippines has limited social welfare and financial support for health and

education. The Philippine government through its Department of Social Welfare and

Development (DSWD) is mandated to protect poor households. But given limited

resources, the department has a limited scope for providing social welfare.

39

i. Unemployment Benefits: The current situation in the Philippines is that workers,

who lose their jobs, mostly (except GSIS-means public sector social insurance

members) have no unemployment insurance. However, there is a variety of laws and

benefits that give workers some kind of protection. Public employees can avail of a

regular unemployment benefit from GSIS (50% of the average monthly

compensation, maximum 6 months). To date, many public employees are on fixed

term contracts, so they are not protected by this provision.

ii Health Cover: The Philippine Health Insurance Corporation or Phil-Health, a

government agency, implements the National Health Insurance Act of 1995 through

the National Health Insurance Program (NHIP). Its mandate is to provide all citizens

with the mechanism to gain financial access to health services, in combination with

other government health programs. To date total coverage is estimated to be around

66% of the population. The biggest problem with the scheme is that it only pays part

of the cost of health care and the patients have to pay the rest. People, who are not

able to pay the part that exceeds PhilHelath reimbursement, get no treatment.

iii Age Pension: The Philippines has a retirement benefit, that is a cash benefit either in

monthly pension or lump sum paid to a member who can no longer work due to old

age. The value of that benefit is around 1200 pesos a month. That is equivalent to

less than $10 a week in Australian currency.

Education: From 1945 until 2011, the basic education system was composed of six years

of elementary education starting at the age of 6, and four years of high school education

starting at the age of 12. Further education was provided by technical or vocational

schools, or in higher education institutions such as universities. In 2011, the country

started to move from its old 10-year basic educational system to a K–12 educational

system, as mandated by the Department of Education. The new 12-year system is now

compulsory.

Higher Education in the Philippines is not available to everyone largely due to the cost.

The cost of university education varies widely, depending on the public or private nature

of the university or college. While some universities have tuition fees of around seven

40

thousand pesos per semester (P 7,000), other universities have tuition fee ranging from

P30,000 - P250,000 per semester. Many Filipinos can’t afford to send their children to

college or university because of the high tuition fee and other miscellaneous fees that

they need to pay.

The government has recognised the importance of education and good health. To

alleviate poverty and inequality, the Philippines has a conditional cash transfer (CCT)

program called Pantawid Pamilya, where over 4 million families get cash from the

government in exchange for keeping their children in school and taking them to regular

medical check-ups.

RESEARCHING AND APPLYING YOUR ECONOMIC LEARNING 1.12

Now let us consider life in the Philippines compared to that in Australia.

Using the information above, for the Philippines, and Google,

https://www.google.com.au for Australia, complete the following table comparing

economic indicators in the two nations.

Economic indicators Australia Philippines

Economic Growth Rate (GDP)

Unemployment rate

Minimum wage per day ($)

Percentage living in poverty (as measured

by income of less than $2 a day)

Weekly age pension ($)

Percentage of the population with

education above high school level

(a) What are the people in the picture doing? Why?

(b) Does this generally happen in Australia? What are some of the basic difference

between the two countries?

41

(c) How do the government’s provision of basic services like health care and education

compare in the Philippines and Australia?

(d) Do you think that you could live on the minimum wage in the Philippines? How do

you think they manage to live?

(e) How do the two countries compare in terms of environmental sustainability?

(f) How would you compare the quality of life in Australia compared to that in the

Philippines?

(g) Do you think that the people in the Philippines are benefitting from the higher

economic growth rate compared to Australia? Explain your answer.

APPLYING YOUR LEARNING 1.13

Multiple Choice Questions

1. Which of the following would apply in a world without scarcity?

(a) It would still be necessary to choose among alternatives.

(b) Opportunity costs would determine choices.

(c) All goods would be free.

(d) The market would determine all prices.

2. Which of the following is an example of capital in economics?

(a) The purchase of shares.

(b) Savings in a bank account.

(c) Stocks and bonds

(d) A factory

42

3. Refer to the production possibilities frontier in the figure. Which point indicates

that resources are not fully utilised?

(a) 1. •1

(b) 2.

(c) 3. •3

(d) 4.

•4 • 2

Consumption Goods

4. Which of the following concepts is NOT illustrated by a production possibility

frontier?

(a) Scarcity.

(b) Monetary exchange.

(c) Opportunity cost.

(d) Attainable and unattainable points.

5. What effect will a rise in real GDP have on the rate of unemployment?

(a) It is generally associated with a decline in the employment rate.

(b) It is generally associated with an increase in the unemployment rate.

(c) It is generally associated with a decline in the unemployment rate.

(d) It is not related to the unemployment rate.

6. The market for labour is

(a) a market for goods.

(b) a market for services.

(c) a factor market.

(d) a financial market.

Capital

Goods

43

7. What does the circular flow model demonstrate?

(a) It shows how nominal GDP is distinct from real GDP.

(b) It shows the effects of inflation in a simple economy.

(c) It shows the real flows and money flows between different sectors of the

economy.

(d) It shows the stocks of various sectors of the economy.

8. Which of the following is an example of an injection into the circular flow of

income?

(a) Exports.

(b) Taxation.

(c) Saving.

(d) Imports

9. Which of the following is an example of a leakage from the circular flow of

income?

(a) Exports.

(b) Investment.

(c) Saving.

(d) Subsidies.

10. The phases of the business cycle, in order, are

(a) contraction, expansion, boom, recession.

(b) expansion, boom, contraction, recession.

(c) boom, upswing, recession, downswing.

(d) recession, contraction, boom, expansion.

44

11. What does Australia's GDP measure?

(a) It is the wealth owned by Australians.

(b) It is the value of goods produced by Australian and overseas businesses.

(c) It is the value of intermediate goods and services produced in Australia.

(d) It is the value of final goods and services produced in Australia.

12. Which of the following is NOT a major economic resource?

(a) Land.

(b) Capital.

(c) Enterprise.

(d) Money.

13. What are the incomes received as payment for the four factors of production?

(a) money, profit, dividends, wages.

(b) interest, wages, salaries, commissions.

(c) wages, rent, interest, profit.

(d) rent, capital, wages, shares.

14. At which stage of the business cycle will economic growth be highest?

(a) Boom

(b) Expansion

(c) Contraction

(d) Recession

15. Which groups are directly involved in the industrial relations process?

(a) Employers and financial organisations.

(b) Employees and employers.

(c) Governments and employees.

(d) Governments and employers.

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16. What is Investment used for?

(a) To earn interest.

(b) To earn profit.

(c) To purchase capital.

(d) To increase the level of savings.

17. What is production?

(a) The transformation of inputs into outputs by firms.

(b) The resources allocated by the government to industries.

(c) The value of all goods and services produced in a country.

(d) The provision of goods and services based on peoples' incomes.

18. Refer to the production possibility frontier below. If 20 units of X are currently

being produced, what would be the opportunity cost of producing 40 more units

of X?

(a) 40 units of X.

(b) 30 units of Y

(c) 40 units of Y

(d) 60 units of Y

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The following information relates to questions 19 and 20.

S = 100, I = 80, G = 60, T = 50, X = 80, M = 80

19. In what phase would this economy be?

(a) Contracting.

(b) Expanding.

(c) In equilibrium.

(d) Highly inflationary.

20. What budget outcome would this economy have?

(a) Balanced.

(b) A surplus.

(c) A deficit.

(d) Undefined.