TABLE OF CONTENTS

2
CHAPTER 1

The Basic Economic Problem

2
CHAPTER 2

Allocation of Resources

6
CHAPTER 3

The Individual as a Producer, Consumer & Borrower

8 The Private Firm as Producer & Employer

CHAPTER 4

12
CHAPTER 5

Role of Government in an Economy

14
CHAPTER 6

Economic Indicators

16
CHAPTER 7

Developed & Less Developed Economies

18
CHAPTER 8

International Aspects
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1.4 Production Possibility Curves & Choice
1. THE BASIC ECONOMIC PROBLEM  Opportunity cost can be shown using a production
possibility frontier (PPF)
1.1 Economic Problem
 It shows the maximum combinations of goods and
 There are too few productive resources to make all the
services that can be produced by an economy in each
goods and services that consumers need and want.
 Finite resources and unlimited wants period of time with its limited resources
 Scarcity of resources is the basic economic problem  A PPF shows all the combinations of possibilities,
involving two goods or options
1.2 Factors of Production  Each combination is a choice
 Consumers are people or firms who need and want  Society can use all its scarce resources to produce this
goods and services
combination
 Resources or factors of production are used to make
goods and services
LLCE
 Land: natural resources used in production (e.g. land)
 Labour: human effort used in production of
goods/services (e.g. workers)
 Capital: the man-made resources that are used to
produce goods/services (e.g. tractor)
 Enterprise: the skills and willingness to take the risks
required to organize productive activities
 Entrepreneurs organize and combine resources in firms
to produce goods and services
 Durable consumer goods last long while (e.g. furniture) 2. ALLOCATION OF RESOURCES
non-durable consumer goods (e.g. food) do not
 Capital goods and semi-finished goods or components 2.1 Market & Mixed Economic Systems
are used up in production  Producers use market price to determine what is
profitable
1.3 Opportunity Cost  Rising consumer demand for a product will tend to
 Opportunity cost is the cost of choosing between increase its price
alternative uses of resources  Producing more could earn producers more profit
 Choosing one use will always mean giving up the
opportunity to use resources in another way, & the loss Market Economic System
of goods & services they might have produced instead  Has a private sector only
 Problem of resource allocation is choosing how best to  They produce a wide variety of goods and services if it is
use limited resources to satisfy as many needs and wants profitable to do so but only for those consumers that are
as possible and maximize economic welfare willing and able to pay for them
 Economics aims to find most efficient resource allocation  Market failures can cause scarce resources to be
 Example 1: A person invests $10,000 in a stock allocated to uses that are wasteful, inefficient or even
o Could have earned interest by leaving $10,000 dollars harmful to people and the environment
in bank account instead Mixed Economic System
o Opportunity cost of decision to invest in stock is the  Has a private sector & a public sector
value of the potential interest
 A government can try to correct market failures in a
 Example 2: A city decides to build a hospital on vacant mixed economic system
land it owns
 It can allocate scarce resources to provide goods and
o Could have built school or sports centre
services that people need
o Opportunity cost is the value of the benefits forgone
 Can introduce laws and regulations to control harmful
of the next best thing which could have been done
activities
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MARKET MIXED EXCESS SUPPLY EXCESS DEMAND
ECONOMY ECONOMY
Who decides Producer Producer
what & how to Consumer Consumer
produce? Government
Who controls Private sector Private sector
most scarce Public sector
resources?
How are Market demand Market demand
resources Government If the price is set too high, Excess demand when
allocated excess supply will be price is set below the
Who are Consumers with Consumers with created within the equilibrium price. Since
goods/services best ability to pay best ability to pay economy and there will be price is so low, too many
produced for? Government allocative inefficiency consumers want the
Main  Wide variety of Same as market good while producers are
advantages goods/services plus: not making enough of it
 Competition  Government
encourages can intervene 2.4 Demand & Supply
development of to correct  Demand refers to how much of a product or service is
new and more serious market desired by buyers
efficient failures  Supply represents how much the market can offer
products &
DEMAND CURVE FACTORS THAT AFFECT
processes
DEMAND
Main  Serious market Same as market
disadvantages failure plus:  Price
 Worthwhile but  Taxes can be  Consumer
unprofitable high tastes/preferences
goods not  Public sector  Consumer Income
provided provision may  Prices of substitute/
 Harmful goods be inefficient complementary goods
may be available  Interest rates (price of
to buy readily Higher price of good = less borrowing money)
people demand that good  Consumer population
2.2 Economic Sectors 1 (population increase =
 Primary: produces natural resources e.g. mining 𝑃𝑟𝑖𝑐𝑒 ∝
𝐷𝑒𝑚𝑎𝑛𝑑
demand increase)
 Secondary: manufacturing industries and construction FACTORS THAT AFFECT
 Tertiary: produce and supply services SUPPLY CURVE
SUPPLY
2.3 Equilibrium Price  Cost of factors of
production
 When supply &
demand are equal the  Prices of other
economy is said to be goods/services
at equilibrium  Global Factors
 At this point, the  Technology Advance
allocation of goods is at  Business Optimism/
its most efficient Expectations
Higher price of good =
because amount of
higher quantity supplied
goods being supplied is the same as amount of goods
being demanded & everyone is satisfied 𝑃𝑟𝑖𝑐𝑒 ∝ 𝑆𝑢𝑝𝑝𝑙𝑦

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2.5 Effects of Change in Demand & Supply Special Demand Curves
 Forces of demand and supply establish the market price Perfectly price
of a product
inelastic: demand
 Changes in demand and supply will cause changes in
remains constant
price
whatever the price
 Increase in demand will raise market price
o This will signal producers to use more resources to
supply more Infinitely price
 Increase in supply of product lowers market price inelastic: there is
o Enables more people to share increased supply due to unlimited demand
lower costs but at only one price

2.6 Price Elasticity of Demand Unitary elasticity:

 Definition: The responsiveness of demand to a change in revenue remains
price constant at every
INELASTIC DEMAND ELASTIC DEMAND possible price
 It has a PEd lower than  It has a PEd greater than
1 1
 The necessity of the  The necessity of the
product is high – it is product is relatively low 2.7 Price Elasticity of Supply
either essential or  Demand would respond  Definition: The responsiveness of quantity supplied to a
habitual quickly and more change in price
 A change in price has drastically INELASTIC SUPPLY ELASTIC SUPPLY
little effect on the  It has a PEs less than 1  It has a PEs more than 1
change in demand  A large price change will  A large price change will
have little effect on the have a large effect on
amount supplied the amount supplied

% 𝑐ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑞𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑑𝑒𝑚𝑎𝑛𝑑𝑒𝑑

𝑃𝐸𝑑 =
% 𝑐ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑝𝑟𝑖𝑐𝑒

 When demand is price inelastic: % 𝑐ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑞𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑠𝑢𝑝𝑝𝑙𝑖𝑒𝑑

𝑃𝐸𝑠 =
o An increase in price would raise revenue % 𝑐ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑝𝑟𝑖𝑐𝑒
 When demand is price elastic:
o A decrease in price would raise revenue  Factors that affect PEs:
 Factors that affect PEd: o Time
o The number of substitutes o Availability of resources
o The period of time o Supply available to meet demand
o The proportion of income spent on the commodity o Spare production capacity available
o The necessity of the product o Factor substitution available

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HOW A GOVERNMENT
HOW MARKETS CAN FAIL
INTERVENES
Special Supply Curves
 Only goods and services  Produce merit goods such
Perfectly price that are profitable to as education for the
inelastic: supply make will be produced needy
remains constant  Services such as street  It can provide public
whatever the price lighting won’t be goods such as street
provided as you are lighting
unable to separate it  Public sector can employ
 Resources only employed people and welfare
Infinitely price if profitable – people may benefits can be given to
inelastic: there is be left unemployed the needy
unlimited supply without an income  Laws to make goods
but at only one  Harmful goods may be illegal or high taxes to
price produced and sold freely reduce consumption
Unitary elasticity:  Producers may ignore  Laws and regulations
environmental impacts would protect natural
A percentage
 Monopolies dominate environment
change in price will
supply of products and  Monopolies can be
cause an equal
charge high prices broken up or regulated to
percentage change keep prices low
in quantity
supplied 2.10 Merits of the Market System
ADVANTAGES DISADVANTAGES
2.8 Usefulness of Price Elasticity  Gives producers incentive  May be unstable
Tax: to produce goods that (unemployment,
 Charge placed on production of good/service by the consumers want inflation)
government.  Provides an incentive to  Prices may give
 A tax will increase the cost of production to the producer acquire useful skills false/inadequate signals
 Makes it more expensive to produce  Encourages producers to producers
 It is likely that the producer will produce less and consumers to  Markets do not work in
 Therefore, the supply curve shifts to the left conserve scarce resources some areas (public and
 If people are really keen to buy the product (price  Competition pushes merit goods)
inelastic) demand will stay fairly high (e.g. cigarette) businesses to be efficient  Monopolistic industries
 So, if most people still buy the taxed good government  High degree of economic may restrict output and
can make more revenue freedom raise prices
 Large gap between rich
Subsidy:
and poor
 A subsidy is a payment made to producers to help
reduce their costs of production 2.11 Private & Social Costs & Benefits
 It is made by the government to encourage producers to  Private Benefit/Cost: costs/benefits the business or
produce or supply a certain good or service consumer receives from consuming/producing the good
 It is likely that the producer will be encouraged to  External Benefit/Cost: advantages/disadvantages
produce more society receives due to us of a certain good/service
 Therefore, the supply curve will shift to the right  Social costs = Private costs + External costs
 Social benefits = Private benefits + External benefits
2.9 Market Failure
 Social costs > Social benefits, product is uneconomic
 Market failure occurs when the market mechanism fails
 Social costs < Social benefits, product is economic
to allocate scarce resources efficiently, so social costs
are greater than social benefits
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2.12 Conflicts of Interest  Banker for commercial banks & the government:
Conserving Resources Using Resources o Government accounts & spending are carried out
 Conservationists argue  Businesses and firms try with central bank
that this generation to maximize profits and o Helps government to borrow money
should pass on to future therefore want use as o Total amount government owes is national debt
generations at least as many resources they can  Manage international financial system: governments of
many resources as our get their hands on to do different nations lending each other money
own generation has so
inherited and not exploit 3.4 Stock Exchanges
everything  Institutions in which shares of stock are bought & sold
Public Expenditure Private Expenditure  A shareholder in a company is a part-owner of that
 Government can provide  Government can only company
public goods and merit guess how we would like  Shareholders receive a payment known as a dividend,
goods that the market to spend the money which is their reward & share of company profits
would not produce.  When the government  Shareholders are protected by limited liability
 Public sector workers spends money, it can be  Stock exchanges also protect shareholders
may be more likely to wasteful.  Functions:
spend money in a way o Helps companies sell their stocks or equities
that is fair to all o Helps them to raise finance
o Helps the public buy such stocks
o Produce a market price for buying & selling of stocks
3. THE INDIVIDUAL AS PRODUCER, CONSUMER &
o Indicator of how an economy is generally doing
BORROWER
3.5 Commercial Banks
3.1 Functions of Money  Keeping money safe: bank’s vaults more secure than a
 Medium of exchange: accepted as means of payment safe box in a private house
 Unit of account: for placing a value on goods/services o Individuals and businesses can open bank account
 Store of value: can save money since it keeps its value o Banks also keep other valuables in safe deposit boxes
 Standard for deferred payment: borrowers are able to  Lending:
borrow money and pay back later o Loans: borrowing fixed sum for set period of time but
borrower must pay back interest
3.2 Need for Exchange o Overdraft: taking more than in account, but with
 Ancestor relied on direct swapping of goods and services interest
 Early form of exchange known as barter o Credit cards: offered for users to buy goods and pay
 Bartering is the most inconvenient way to do business for them later; if payed back by a given date, no
 Main problems of bartering: interest set, but if not, they are charged with a high
o Fixing a rate of exchange rate of interest
o Finding someone to swap with o Mortgages: banks lend firms and households big
o Trying to save a good for long period of time amounts of money, usually paid back over long
periods of time
3.3 Central Bank  Means of Making Payment – cheques so bank then
 Printing notes & minting coins that are legal tender transfers money to recipients that a person needs to pay
 Destroying torn notes & worn-out coins  Providing Foreign Currency
 Setting interest rates
 Lender of last resort: if a bank needs cash in a hurry, 3.6 Changes in Earnings
they can borrow from central bank  Entry: young employee will receive low earnings due to
 Supervising monetary policy: heads of the central bank lack of work skills and experience; can become an
hold meetings with officials from other banks to apprentice or join a management training scheme to
determine interest rate and quantity of money in become more skilled
economy
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 Skilled workers: the more skilled a worker is, the more
opportunities he has for increasing his earnings; bonuses Types of Trade Unions
will be given and higher rate of overtime paid  General Unions: represent workers across many
 End-of-career employees: if workers keep updating different occupations
skills, they will continue to have opportunities to  Industrial Unions: represent workers of the same
increase wages however when they stop this, their industry
demand would fall & income would diminish, finally  Craft Unions: represent workers with the same skill
reaching a stop when retired across different industries
 Non-manual unions/Professional Unions: represent
3.7 Difference in Earnings workers in non-industrial and professional occupations
WAGE WHO EARNS
WHY? Collective Bargaining
DIFFERENTIAL MORE?
 Process of negotiating wages and other working
Public/Private Private  Public sector workers
better job security & conditions between trade unions and employers
sector sector
more holidays  A trade union will be in a strong bargaining position to
workers
negotiate higher wages and better conditions if:
Male/Female Male  Women may take o It represents most or all of the workers in a firm
employees breaks to raise children o Union members provide goods/services that
earn more  Most female work part consumers need which have few alternatives
time or choose low-pay
Un/Skilled Skilled  Skilled workers are Industrial Action
workers paid more productive  Industrial action is taken when collective bargaining fails
more  Some specialist skills to result in an agreement
are in short supply  Taking industrial action can help a union force employers
Employees in Agricultural  Agriculture has become to agree to their demands
different workers paid more capital intensive;  Industrial actions:
industries less demand has declined o Overtime ban: workers refuse to work more than
 Manufacturing/service their normal hours
industry expanded o Work to rule: workers deliberately slow down
production by complying with every rule & regulation
 Shortage of labour with
o Go slow: workers deliberately work slowly
specialist skills o Strike: workers protest outside their workplace to
stop deliveries/non-unionized workers from entering
3.8 Trade Unions
 An organization of workers formed to promote & protect Impact of Trade Unions
the interest of its members concerning wages, benefits POSSIBLE POSSIBLE
& working conditions ADVANTAGES DISADVANTAGES
 Could help to bring  Might cause lack of
Functions about minimum working flexibility in working
 Negotiating wages & benefits with employers standards practices
 Defending employee rights and jobs  Could help keep pay  Could be major problem
 Improving working conditions higher as fashions change very
 Improving pay and other benefits, including holiday  Could help maintain quickly
entitlement, sick pay and pensions Employment/enhanced  Could lead to some firms
 Encouraging firms to increase worker participation in job security going out of business
business decision-making  Could lead to  Workers made
 Developing skills of union members, by providing improvement in health redundant
training and education courses and safety  Workers will need to pay
 Supporting members taking industrial action union membership fees

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3.9 Specialization 3.11 Expenditure Patterns
 Division of labour: workers concentrate on a few tasks INCREASE
SPENDING SAVING BORROWING
then exchange their product for other goods/services IN…
 Specialization: production process broken up into a Real ↑ ↑ ↑
series of different tasks income
ADVANTAGES FOR DISADVANTAGES FOR Direct tax ↓ ↓ ↕
INDIVIDUAL INDIVIDUAL Wealth ↑ ↓ ↑
Interest ↓ ↑ ↓
 Employees can make  Doing same job or
best use of their repetitive tasks is boring rates
particular talents/skills and stressful Availability ↓ ↑ ↓
and can increase them  Individuals must rely on of saving
by repeating tasks others to produce goods scheme
 Employees can produce and services they want Availability ↑ ↓ ↑
more output and reduce but cannot produce of credit
business costs themselves Consumer ↑ ↓ ↑
 More productive  Many repetitive tasks confidence
employees can earn can now be done by
higher wages machines, leading to 4. THE PRIVATE FIRM AS PRODUCER &
unemployment of low-
skilled workers EMPLOYER

3.10 Spending, Saving and Borrowing 4.1 Types of Business Organisations

 Disposable income: amount of income left to spend or Sole Trader
save after direct taxes have been deducted  Owned and controlled by one person
 Spending: enables a person to buy goods/services to ADVANTAGES DISADVANTAGES
satisfy their needs/wants  Sole trader is own boss  Full responsibility
 Saving: involves delaying consumption  Chooses hours of work  Unlimited liability
o As interest rates rise, people may save more  Receives all profits  Lacks capital for business
 Borrowing: allows a person to increase their spending;  Easy to set up growth
enabling them to buy goods they cannot afford now
 People with low disposable incomes may spend less in Partnership
total than people with high incomes  Legal agreement between two or more people to
 But will tend to spend all or most of their income own/finance/run a business
meeting their basic needs  Unlimited liability unless it’s a silent/sleeping partner
 Amount of income we earn tends to rise as we get older,  Sleeping/silent partner:
until we retire, because: o Partner that provides money to be in partnership in
o Employees earn more in wages as they learn more return for a share of profits
skills and become more productive o Uninvolved in management of organization & has
o Tend to save more as they get older and earn interest limited liability
in saving ADVANTAGES DISADVANTAGES
o Entrepreneurs may become more experienced in  Easy to set up  Disagreements
business and can earn more profit  More capital  Can lack capital to
 Young single people tend to spend more on music and  Partners bring new finance growth
fashion skills, ideas
 People with families will spend more on their children &  Shared responsibility
homes
 Elderly people may spend more on health care Joint Stock Companies
 Controlling Interest: a shareholder with more than 50%
of shares holds; they can out-vote all other shareholders
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 Board of Directors: elected by the many thousands of Multinationals
shareholders who manage business  Operates in more than one country
 Two types:  Some of the largest companies in the world
 Governments often compete to attract multinationals
PRIVATE LIMITED PUBLIC LIMITED
o Can provide jobs, incomes, business knowledge, skills
COMPANIES COMPANIES and technologies which can help other firms
 Only sells shares to  Shares advertised & sold o Pay taxes on their profits to boost government
people known to publicly on stock market revenue
existing shareholders through stock exchange  Headquarters are based in one country
 Managed by Board of to many investors ADVANTAGES DISADVANTAGES
Directors  Managed by a BoD  Can reach many more  Can switch profits to
ADVANTAGES DISADVANTAGES consumers globally & other countries to avoid
 Shareholders have  Companies must publish sell far more than other paying taxes on profits
limited liability annual accounts types of businesses  Can force smaller local
 Receive dividends  Original business owners  Can minimize transport firms out of business
 Companies have a can lose control costs by locating plants  May exploit workers in
separate legal identity  Directors may run the in different countries to low wage economies
 Share sales can raise business for their own be near raw materials or  May use their power to
significant capital interests rather than for big markets get generous subsidies &
 PLCs can sell shares to shareholders  Minimize wage costs by tax advantages from the
many more investors on locating in countries government
stock market with low wages
 Can enjoy low average
Cooperatives production costs
 Owned & controlled by its members
 Each member has an equal share of ownership 4.2 Privatization
 Worker co-ops are owned & controlled by their workers  In the past, governments nationalized industries:
 Consumer co-ops are owned by their consumers o To control monopolies
ADVANTAGES DISADVANTAGES o For safety (e.g. nuclear industry)
 Limited liability  Many consumer co-ops o To protect employment
 Workers in worker co- have been forced out of o To maintain a public service
ops take business business by larger  Privatization involves private sector firms taking over
decisions & share profits companies public sector activities in the following ways:
 Members of consumer  Worker co-ops may be o The sale of public sector assets
co-ops enjoy profit badly run o Joint ventures with private firms
dividends/lower prices o Contracting out (giving private firms contracts)
o Removing competition barriers
Public Corporations FOR PRIVATIZATION AGAINST PRIVATIZATION
 Owned and controlled by the government
 If industries are forced  Private sector
 Some aim to make a profit while others will deliver to compete, prices will organizations will not
public services be lower & quality will protect public services
 Board of directors runs corporation improve & may cut services &
Ownership  Wider variety of goods raise costs in long run
 Committee monitors & investigates
& Control  Sale of shares raises  Privatized industries still
irregularities or complaints
 Has a legal identity separate from its government revenue & dominate markets they
Legal status can be used to lower supply; able to raise
directors and the government
taxes prices & cut services
 From taxes & government revenues
Finance  From profits invested into corporation
 Profits may be used by government
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4.3 Demand for “Factors of Production” 4.5 Principle Goal
 Demand for goods & services by consumers: higher  Aim of production for most private sector firms is to
demand = more labour/capital firms will need make as much profit as possible
 Price of labour & capital: higher cost = less labour &  Some productive organizations may have other motives:
capital demanded o Public service: aim to provide services people need
o Firms may also decide to substitute labour for more but cannot pay for; costs funded by government
capital and vice versa o Charity: aim to aid people/animals in need or help
 Productivity of labour & capital: more output/revenue protect environment; costs covered by donations
labour & capital help to produce, more profit they will o Not for profit: aim to make enough revenue to cover
generate over & above cost of employing them their cost; any surplus is re-invested
 Capital-intensive Production: requires heavy capital
investment to buy assets relative to sales or profits that 4.6 Competition
assets can generate  Competition between firms is good for consumer as
 Labour-intensive Production: main cost is labour; cost is profit-seeking firms will compete to attract consumers
high compared to sales or value added by additional  Price competition involves using pricing strategies to
manpower attract consumers from rival producers
 Non-price competition includes offering better quality
4.3 Productivity & Production products than rival firms, improving customer services or
 Productivity: the ratio of output to input by using persuasive advertising
 Labour Productivity:
𝑇𝑜𝑡𝑎𝑙 𝑂𝑢𝑡𝑝𝑢𝑡 Perfect Competition
𝑂𝑢𝑡𝑝𝑢𝑡 𝑝𝑒𝑟 𝐿𝑎𝑏𝑜𝑢𝑟 =  Businesses will charge same price, a minimum price they
𝑁𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝐿𝑎𝑏𝑜𝑢𝑟
can charge without going out of business
 Capital Productivity:
𝑇𝑜𝑡𝑎𝑙 𝑂𝑢𝑡𝑝𝑢𝑡 𝑉𝑎𝑙𝑢𝑒  Price will be equivalent to the lowest average cost of
𝑉𝑎𝑙𝑢𝑒 𝑝𝑒𝑟 𝐶𝑎𝑝𝑖𝑡𝑎𝑙 = producing goods
𝑉𝑎𝑙𝑢𝑒 𝑜𝑓 𝐶𝑎𝑝𝑖𝑡𝑎𝑙
 Average cost of production would be same as average
 Productivity refers to the efficiency of a business
revenue for selling
whereas production refers to output only
 No firm would risk charging more than market price
 A business would be a price taker; the market price
4.4 Costs, Revenues and Profits
 Fixed costs: don’t vary with level of output e.g. interest 4.7 Monopolies
on loans
 Firms with monopolistic powers control at least 25% of
 Variable cost: vary directly with level of output e.g. the market share
electricity  Able to influence price; price makers
 Breakeven: where total revenue = total cost  Can restrict competition with artificial barriers to entry &
𝑇𝑜𝑡𝑎𝑙 𝑉𝑎𝑟𝑖𝑎𝑏𝑙𝑒 𝐶𝑜𝑠𝑡 = 𝑉𝑎𝑟𝑖𝑎𝑏𝑙𝑒 𝐶𝑜𝑠𝑡𝑠 × 𝑂𝑢𝑡𝑝𝑢𝑡 other pricing strategies
𝑻𝒐𝒕𝒂𝒍 𝑪𝒐𝒔𝒕 = 𝑇𝑜𝑡𝑎𝑙 𝑉𝑎𝑟𝑖𝑎𝑏𝑙𝑒 𝐶𝑜𝑠𝑡 + 𝑇𝑜𝑡𝑎𝑙 𝐹𝑖𝑥𝑒𝑑 𝐶𝑜𝑠𝑡 OLIGOPOLY PURE MONOPOLY
𝑨𝒗𝒆𝒓𝒂𝒈𝒆 𝒄𝒐𝒔𝒕 = (𝑇𝑜𝑡𝑎𝑙 𝐶𝑜𝑠𝑡)/𝑂𝑢𝑡𝑝𝑢𝑡  Handful of firms  One firm controls entire
𝑇𝑜𝑡𝑎𝑙 𝑅𝑒𝑣𝑒𝑛𝑢𝑒 = 𝑃𝑟𝑖𝑐𝑒 𝑃𝑒𝑟 𝑈𝑛𝑖𝑡 × 𝑄𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑆𝑜𝑙𝑑 dominate market supply market supply
𝑃𝑟𝑜𝑓𝑖𝑡 𝑜𝑟 𝐿𝑜𝑠𝑠 = 𝑇𝑜𝑡𝑎𝑙 𝑅𝑒𝑣𝑒𝑛𝑢𝑒 − 𝑇𝑜𝑡𝑎𝑙 𝐶𝑜𝑠𝑡  To avoid price wars,  May use predatory
firms act together to pricing to force
maximize their profits competing firms out
 Set market price high by  Other firms deterred
restricting combined from competing due to
market supply lack of capital
 A cartel is a formal
agreement between
firms to control market
supply & price

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Advantages of Monopolies Small Firms
 Avoids duplication & wastage of resources ADVANTAGES DISADVANTAGES
 Economics of scale; benefits can be passed to consumers  Size of market is small  Markets cannot raise
 High profits can be used for research & development  Consumers like tailored enough capital to expand
 Monopolies may use price discrimination which benefits goods/services their business
the economically weaker sections of the society  Governments provide help
 Monopolies can afford to invest in latest technology &
machinery to be efficient & avoid competition 4.9 Integration
 Growth often involves integration with other firms
Disadvantages of Monopolies
 Takeover: a company acquires ownership & control of
 May supply less & charge higher prices another company by purchasing its shares
 May offer less consumer choice and lower quality  Merger: two or more firms agree to form an entirely
products than if they had to compete with other firms new company & issue new shares
 May have higher production costs because they are Types of Integration
poorly managed  Horizontal integration: occurs between firms at the
 Restrict competition using barriers to entry same stage of production producing similar products
Barriers to Entry  Vertical integration: occurs between firms at different
NATURAL ARTIFICIAL stages of production
o Forward: taking over firm at later stage of production
 Cost savings from large  Predatory pricing
o Backward: integration is the opposite
scale production strategies to force
 Lateral integration or conglomerate merger: occurs with
 Lots of capital smaller firms out
firms at same stage of production but different products
equipment that other  Preventing suppliers
firms can’t afford from selling materials &
4.10 Economies and Diseconomies of Scale
 Large customer base components to other
Economy of Scale Diseconomy of Scale
built up over years firms by threatening to
Cost savings due to Rising costs because a firm
 Developed advanced switch to rival suppliers
products or processes  Forcing retailers to stock increased scale of has become too large
that are protected by & sell only their product production  Management: larger
patents  Financial: larger firms firms must manage so
often have access to many different
4.8 Sizes of Firms cheaper sources of departments in different
 Number of employees: less than 50 are classed as small finance locations, making
 Amount of capital employed: large firms invest a lot in  Marketing: larger firms communication/ decision-
fixed assets such as machinery & equipment employ specialists to making difficult
 Market share: relative size of firms compared by buy best quality  Labour: demotivated
percentage share of total market supply/revenue materials in bulk at workers lead to decrease
 Organization: large firms may be divided into many discounted prices & in productivity due to
departments & be spread over many locations spread advertising costs boring, repetitive tasks
 Technical: larger firms  Agglomeration: company
Large Firms invest in specialized takes over or merges with
ADVANTAGES DISADVANTAGES production equipment, too many other firms
 Can enjoy significant  If it gets too big, firm highly skilled workers; producing different
economies of scale may experience develop new products products, making it hard
 Increase notoriety, sell on diseconomies of scale  Risk-bearing: ability to for business owners and
larger markets  Going public may spread risk over many managers to co-ordinate
 Can draw talent from around make the company investors & reduce all activities
the world to work for them become subject to a market risks by selling
hostile takeover range of products in
different locations
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5. ROLE OF GOVERNMENT IN AN ECONOMY 5.3 Supply-Side Policies
AS A PRODUCER AS AN EMPLOYER  Supply-side policies aim to increase economic growth by
 Produce essential goods  People work directly for raising productive potential of economy
& services e.g. health the government as civil  An increase in the total supply of goods & services will
care & education servants, e.g. tax require more labour & other resources to be employed
 Supply merit goods collectors  It will reduce market prices & provide more goods &
 Supply public goods e.g.  Employees in public services to export
road repairs/lights sector:
INSTRUMENT EFFECT
 Control natural o Secure employment
Tax Reducing taxes on profits and small
monopolies; they may o State pension
Incentives firms can encourage enterprise. It can
take over companies  Money earned by
providing necessities government employees also encourage investments in new
e.g. electricity or water is mainly spent in equipment.
national economy Subsidies/ To reduce production costs and help
Grants firms fund research and development
5.1 Government Aims of new technologies.
 Main objectives: Education Teaching new/existing workers new
o Achieve low and stable rate of inflation in general and Training skills to make them more productive.
levels of price Labour Include minimum wage laws to
o Achieve high and stable level of employment; low Market encourage more people into work, and
unemployment Regulations legislation to restrict the power of
o Encourage economic growth in national output and
trade unions.
income
Competition Regulations that outlaw unfair trading
o Encourage trade & secure favourable balance of
international transactions Policy practices by monopolies and other
 Additional objectives: large, powerful firms.
o Reduce poverty & inequalities in income & wealth Free Trade Removing barriers to international
o Reduce pollution & waste; sustainable growth Agreements trade allow countries to trade their
goods and services more freely and
5.2 Demand-Side Policies cheaply
POLICY ABOUT Deregulation Removing old, unnecessary and costly
Expansionary Reducing taxes to boost demand, so rules and regulations on business
Fiscal Policy employment and output rises. May activities
be used to reduce recession.
Contractionary Increasing taxes to reduce demand, 5.4 Conflicting Aims
Fiscal Policy so employment and output rises.  Spending more money to stimulate growth can lead to
May be used to reduce price rising prices because of increased demand
inflation.  If spending is reduced to stop inflation, this will lead to a
Contractionary May be used to reduce price fall in growth
Monetary inflation by increasing interest rates  If government tries to create full employment, labour
becomes increasingly scarce
Policy charged by the central bank. This
 Employers must compete more strongly to attract labour
means commercial banks will also
 They raise wages, which leads to wage inflation
raise interest to encourage more
 If the government tries to redistribute income, richer
savings.
workers may feel that they are unfairly penalized for
Expansionary May be used during a recession to & working hard & may decide to migrate
Monetary employment by cutting interest  This may slow down economic growth
Policy rates

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5.5 Taxes ADVANTAGES DISADVANTAGES
Reasons to Tax  They are cheap for a  Cost of collecting taxes
 To finance public expenditure; building schools and government to collect falls to businesses
infrastructure  Wide tax base  They are regressive
 To discourage certain activities; e.g. taxes on cigarette  Can be used to  Tax revenues are less
 To discourage import of goods; tariffs are import taxes discourage certain
and can be levied as a % of value of imports or a set tax consumption/production  They add to price
on each item inflation
 To redistribute income from the rich to the poor
 To achieve other macro-economic objectives 5.6 Government Influence
TYPES OF DESCRIPTION EXAMPLES Regulations
TAXATION  Rules imposed by a government backed up by penalties
Tax rate rises with Income tax  Can be laws governing actions of private firms &
Progressive individuals
income; higher
Tax
income = higher tax  Inspections by qualified inspectors make sure that the
businesses are complying with regulations
Tax rate falls with Indirect taxes
Regressive  Failure to do so can mean fines/loss of the license
income; higher
Tax  Examples of Regulations:
income = lower tax
Methods of Management of waste/pollution.
Proportional Everyone pays same Corporate
production Rules protecting health/safety of
Tax effective tax rate income tax
workers.
Direct Taxes Setting Up A New Paperwork for filling in such as
 Levied on income or wealth of an individual/company Business rules protecting shareholders and
o Personal income tax: levied on income including on paying tax.
interest payments on saving Product Standards Quality of food products, labelling
o Payroll tax: including personal income taxes & social of contents of a product.
security contributions Disclosure of Companies must produce reports
o Corporation tax: levied on company profits, smaller Information to shareholders.
companies have lower tax to encourage enterprise Supply of Harmful Health warnings on cigarettes.
o Capital gains tax: tax on any gain in value from sale of Products
assets held by individuals/companies
 Governments may introduce laws and regulations known
o Transfer taxes: applied to transfer of assets from one
as competition policy and can involve:
person to another
o Imposing fines on firms who abuse market power
ADVANTAGES DISADVANTAGES
o Forcing oligopolies & monopolies to break up into
 Major source of tax  Income taxes can smaller competing firms
revenue reduce work incentive o Setting maximum prices firms can charge customers
 Many are progressive;  Taxes on profits reduce o Taking monopolies into public ownership
help reduce inequalities profit available for
 Take in to account reinvestment ADVANTAGES DISADVANTAGES
people’s ability to pay  Can cause tax evasion  Improve efficiency &  Over-regulated: spend
redistribute income too much time & money
Indirect Taxes  Regulate firms where complying with
 Added to prices of goods/services there are monopolies regulations & cannot
o Ad valorem taxes: levied as percentage of price of  Limit effect of concentrate on running
good/service; necessities (food) may be exempt externalities business
o Tariffs: custom duties applied to price of imported  Possible to strike  Loss of competitiveness
goods; protects local firms from oversea competition balance between because of cost of
o Excise duties: applied to specific goods e.g. cigarette interest of private firms complying with rules &
o User charges: such as tolls for a bridge/motorway & consumers regulations
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 CIE IGCSE ECONOMICS//0455
Subsidies
 Incentives provided by the government to individuals &
households to carry out desired activities
 Other reasons for subsidies include:
o To encourage the production of goods of natural
importance
o To encourage development of new products and
industries
o To provide support for industries that are in decline
and that are major employers of labour
o To protect domestic industries against foreign
competition
 When a supplier receives a subsidy, it will be encouraged
to produce more for the market
 Leads to a shift to the right of the supply curve
Taxation
 Taxes discourage certain activities & raise revenue
 Is a cost to business & causes supply curve to shift left
 Incidence of tax refers to who pays the majority of a tax
o Elastic good: incidence of tax mainly falls on seller
o Inelastic good: incidence of tax mainly falls on buyer
6. ECONOMIC INDICATORS
6.1 Consumer Price Index
 An index of prices of goods & services typically
purchased by urban consumers
o Compiled & published monthly by the government
o Provides a relatively accurate indication of average
price level of products in an economy
 Weightings are based upon the importance of the item
in average expenditure
o The greater the proportion spent on an item, the
higher the weighting
 Base year: first year with which the prices of subsequent
years are compared
 Inflation rate: percentage change in annual CPI
𝑊𝑒𝑖𝑔ℎ𝑡𝑒𝑑 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑃𝑟𝑖𝑐𝑒 𝑖𝑛 𝑌𝑒𝑎𝑟 𝑥
𝐶𝑃𝐼 𝑖𝑛 𝑌𝑒𝑎𝑟 𝑥 = × 100
𝑊𝑒𝑖𝑔ℎ𝑡𝑒𝑑 𝐴𝑣𝑒𝑟𝑒𝑎𝑔𝑒 𝑃𝑟𝑖𝑐𝑒 𝑖𝑛 𝐵𝑎𝑠𝑒 𝑌𝑒𝑎𝑟
Page 14 of 19
 Main uses of CPI:
o A macro-economic indicator of price inflation in an
economy
o A price deflator to ‘deflate’ value of wages and
incomes by impact of price inflation
o To index-link income payments so their purchasing
power increases at the same rate as inflation
6.2 Inflation
 General & sustained increase in the level of prices of
goods/services in an economy over a period of time
Causes
 Demand-pull Inflation: caused by total demand rising
faster than total output, causing market prices to rise
 Cost-push Inflation: cost of production increases, so
firms try to pass cost to consumers through higher prices
 Imported Inflation: results from rising prices of goods
and services imported overseas, can occur due to:
o Increase in costs of overseas production
o Fall in exchange rate of currency of importing country
 Hyperinflation: extremely high rates of inflation result in
money failing to be a good store of value
 Personal & economic consequences:
o Inflation reduces the purchasing power of money
o Inflation reduces the real value of savings
o Inflation reduces the real value of loans
o Inflation boosts tax revenues as they are a % of price
o Inflation increases government spending as it will
also have to pay more for goods/services it buys
o Inflation reduces company profits; especially if it is
caused by rising costs or a reduction in demand
o Inflation causes unemployment; as prices rise,
demand will fall, firms sell less, make less profit, cut
production & size of labour to reduce costs
6.3 Deflation
 A decrease in general price level of goods and services
and occurs when the inflation rate falls below 0%
 As things become cheaper:
o Spending stops to wait until prices to fall further
o Firms start making less revenue
o Firms start to produce less as less is demanded
o Employers begin to hire fewer workers; redundant
o Causes economy to eventually go bust
Consequences
 Economy falls into recession
 Firms sell fewer goods/services & lose profits
 Firms reduce workforce, leading to unemployment
 Household incomes fall; debts rise causing bankruptcy
 Demand, output and demand for labour continue to fall
 CIE IGCSE ECONOMICS//0455
6.4 Employment & Unemployment Consequences of Unemployment
INDICATOR RECENT TRENDS PERSONAL ECONOMICAL
Labour force  Risen as world population has  Loss of income and  Unemployment is a
grown reduced ability to buy waste of human
Participation  Risen in many countries goods & services resources
Rate: labour especially among females as it is  Unemployed people de-  Fewer goods & services
force as a now socially acceptable skill if long out of work produced
 Poverty and rising living costs in  Unemployed people  Total output & income
proportion of
developing countries has forced may become depressed in economy is lower
total population
many women to work & ill  Government tax
of working age
 Strain on family revenues also lower
Employment by  Employment in services has been relationships & health  People in work may
Industry: growing while employment in services have to pay more taxes
Number of agriculture and other primary  Government spending
people employed sector industries has fallen on welfare may rise
in different
industrial sectors 6.5 Output
Employment  Most employees work full-time  Gross Domestic Product (GDP) is the main measure of
Status: Number  Part-time employees have grown total value of all the goods and services produced in a
of full-timers, rapidly, especially among female given period of time
part-timers or employees  An increase in prices will increase nominal GDP but this
with temporary is measured in current dollars thus includes inflations
contracts 𝑁𝑜𝑚𝑖𝑛𝑎𝑙
𝑅𝑒𝑎𝑙 𝐺𝐷𝑃 = × 100
Unemployment:  Tends to rise during economic 𝐶𝑃𝐼
𝑅𝑒𝑎𝑙 𝐺𝐷𝑃
Number of recessions 𝑅𝑒𝑎𝑙 𝐺𝐷𝑃 𝑃𝑒𝑟 𝐶𝑎𝑝𝑖𝑡𝑎 =
𝑁𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑃𝑜𝑝𝑢𝑙𝑎𝑡𝑖𝑜𝑛
people  Almost half the unemployed are
 If economy has an extremely rich person & everyone
registered as young unskilled workers
else is poor, it brings up the Real GDP per capita
being without
work 6.6 Economic Growth
Unemployment  Relatively stable in the recent  Economic growth is when there is an increase in real
Rate: years but did increase in 2008 output over time, i.e. increased GDP & national income
Unemployment during a global financial crisis  Important as it increases the standard of living
as a proportion  Economic Recession: a significant decline in economic
of labour force activity spread across the economy, lasting more than a
few months, normally visible in real GDP growth, real
Types of Unemployment personal income, employment, industrial production, &
 Cyclical Unemployment: occurs during recession due to wholesale-retail sales
falling consumer demand & incomes
o Firms reduce output & lay off workers 6.7 Human Development Index (HDI)
 Structural Unemployment: caused by changes in  Used by the United Nations to make comparisons of
industrial structure of an economy human & economic development in different countries
o Entire industries close due to a permanent fall in  Combines three different measures for each country
demand for their goods/services o Standard of living, measured by average incomes
 Frictional Unemployment: refers to short-lived o Being educated, measured by adult literacy rate
unemployment; e.g. moving to different job o Living a long healthy life, measured by life expectancy
 Seasonal Unemployment: occurs because consumer  Single index with a value between 0 and 1
demand for goods/services changes with seasons; e.g.  Greater than 0.8 = high human development
no job for ski instructor when/where there is no ice  Less than 0.5 = low human development

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7. DEVELOPED & LESS DEVELOPED ECONOMIES LEDCs lack access Most people lack
to modern skill to use modern
7.1 Classifications machinery, technology; instead
 Developed Economy: advanced/industrialized economy; Tech aid equipment and of using machinery,
has a relatively high average income per person, a well- knowledge of more jobs are
developed road & rail network, modern communication modern production needed to employ
systems, produces a wide variety of goods & services, methods people
has a stable government & legal system; a healthy and Relieving LEDCs of May encourage
educated population debt will allow LEDCs to borrow
Examples: Norway, England, France, Japan Debt them to use money more money or
 Less Developed/Developing Economy: low level of relief for economic money may be
economic development, low average income per person,
development misused by corrupt
under-developed transport and communications
instead governments
systems, relies on agriculture for many jobs and
incomes; low levels of healthcare & education provision Removing LEDCs may have MEDCs will force
Examples: Africa, Central American, the Caribbean overseas natural supplies, down their price
 Rapidly Developing/Emerging Economies: countries trade can be exported for
that are quickly developing their industries, workforce barriers money
skills & living standards, but are not yet fully developed Governments in Advice not enough;
Examples: China, India, Brazil Economic LEDCs lack LEDCs need more
Advice economic capital & stability
7.2 Poverty knowledge
ABSOLUTE RELATIVE
 Number of people living  Measures extent to 7.4 Population Growth
below a certain income which a household’s  The natural rate of increase in population is the
threshold or number of financial resources falls difference between birth and death rates
households unable to below an average LEDCS MEDCS
afford certain basic income level. Birth rate High Low
goods & services  Occurs when people are Death High but falling Low
 Occurs when people do poor relative to other rate
not have access to basic people in the country; Natural High and rising Low or negative
food, clothing and unable to participate rate of
shelter fully in normal activities
increases
of society they live in
Varying Birth Rates
7.3 Alleviating Poverty  LEDCs have:
o Large families to help produce food & work for money
 Governments will use policies to help alleviate poverty in
o High infant mortality rate
their country, or in another country:
o Low supply of contraceptives/forbidden to use them
WHY IS IT WHAT ARE THE
POLICY  In MEDCs, people marry later in life so birth rates fall
NEEDED? PROBLEMS? Varying Death Rates
Poor farming Free food supplies  MEDCs have:
Food aid methods produce can force farmers o Better food, housing, hygiene & high life expectancy
insufficient food out of business o Fatty foods, smoking and lack of exercise has
LEDCs lack capital Loans have to be increased rates of diabetes, cancer & heart disease
to invest in an repaid sometimes o Improved medicine & healthcare; prevents many
Financial
industrial base, with interest diseases & increased life expectancy
aid  LEDCS have:
modern machinery
and infrastructure o Widespread diseases which lower life expectancy
o Natural disasters, famines, wars
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7.5 Population Structure 7.6 Dependency
 The Demographic Transition Model:  Dependency ratio: number of economically dependent
people relative to the economically active population in
an economy
 Dependent: people who are too young, too old or too ill
to work, school and college
𝑇𝑜𝑡𝑎𝑙 𝑃𝑜𝑢𝑙𝑎𝑡𝑖𝑜𝑛
𝐷𝑒𝑝𝑒𝑛𝑑𝑒𝑛𝑐𝑦 𝑟𝑎𝑡𝑖𝑜 =
𝑊𝑜𝑟𝑘𝑖𝑛𝑔 𝑃𝑜𝑝𝑢𝑙𝑎𝑡𝑖𝑜𝑛
Dependency Ratio
LEDCS MEDCS
 High and rising  Low but rising
 High BR; more children  Low BR & DR; more old
and young people & retired people
 Low life expectancy,  Life expectancy is high
 This shows that population growth occurs in stages poor skills & education  Net inward migration
 Population Pyramid: a type of graph that shows the age  Lack of industrial base increases pressure on
and sex structure of the country  Migration to MEDCs housing, education,
 Reduced workers healthcare & welfare
 Ageing Population: when proportion of old dependents
is increasing
o Occurs because life expectancy increases, but also
because birth rates start to fall
o This happens in stage 5 of the DTM; in very developed
 Stage 1: high birth rate; high death rates; short life
countries
expectancy; less dependency (since there are few old
 Implications of Ageing Population:
people and children must work anyway)
o May be a shortage of workers
 Stage 2: high birth rate; fall in death rate; slightly longer
o Less tax payers so government receives less money
life expectancy; more dependency due to more elderly
o Old people get sick easier
 Stage 3: declining birth rate; declining g death rate;
o Pressure on hospitals and medical care
longer life expectancy; more dependency
o Pensions can get expensive
 Stage 4: low birth rate; low death rate; highest
o More care homes needed
dependency ratio; longest life expectancy
 Young Population: Refers to young dependents mostly
STRUCTURAL o Occurs because infant mortality rates increase, and
LEDCS MEDCS birth rates are already high
FEATURE
o Typically occurs in stage 2/3 of DTM, in countries that
Age Distribution Children <15 are High average
are beginning to develop more
40-50%, people age & up to 25%
 Implications of Young Populations:
>60 are less >60
TOO FEW TOO MANY
than 5%
Geographic Many live in Most live in  Closure of child related  Child care needed so
services; fewer jobs parents can work
Distribution rural areas but cities; increased
 Less consumers and  Taxes for public schools
now more are pollution &
taxpayers in the future from government
moving to urban congestion
 An increase in the age of  Increased dependency
Occupational Most work in Most work in the population ratio
Distribution primary, up to tertiary, few in  Birth rates fall below  Creation of teaching and
90% primary minimum nursing jobs

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8. INTERNATIONAL ASPECTS  Invisible trade account: measures the difference
between export revenue from and import spending on
8.1 Specialisation services, e.g. banking, insurance and tourism
 Countries specialize in production of those goods and  Income flows: e.g. interest, profit and dividends flowing
services in which they have an absolute advantage or in and out of the country
comparative advantage over other regions or countries  Current transfers: e.g. grants for overseas aid.
 A country has an absolute advantage if it can produce a Balance of Payments Balance of Payments
given amount of a good or service with far less resources
Deficit Surplus
and therefore at an absolute cost advantage over any
country  Money flowing out  Money flowing in
greater than in. greater than out.
 A country has a comparative advantage in the
production of a good or service if it can produce it at a  Current + Capital +  Current + Capital +
lower opportunity cost relative to other countries Financial is negative. Financial is positive.

8.2 Visible and Invisible Trade 8.5 Trade Deficit

 Visible trade is the selling and buying of natural of
natural resources, parts and components of goods in
production, and finished products.
𝐵𝑎𝑙𝑎𝑛𝑐𝑒 𝑜𝑓 𝑉𝑖𝑠𝑖𝑏𝑙𝑒 𝑇𝑟𝑎𝑑𝑒
= 𝑉𝑎𝑙𝑢𝑒 𝑜𝑓 𝑉𝑖𝑠𝑖𝑏𝑙𝑒 𝐸𝑥𝑝𝑜𝑟𝑡𝑠 – 𝑉𝑎𝑙𝑢𝑒 𝑜𝑓 𝑉𝑖𝑠𝑖𝑏𝑙𝑒 𝐼𝑚𝑝𝑜𝑟𝑡𝑠
 Invisible trade is the selling and buying of services.
𝐵𝑎𝑙𝑎𝑛𝑐𝑒 𝑜𝑓 𝐼𝑛𝑣𝑖𝑠𝑖𝑏𝑙𝑒 𝑇𝑟𝑎𝑑𝑒
= 𝑉𝑎𝑙𝑢𝑒 𝑜𝑓 𝐼𝑛𝑣𝑖𝑠𝑖𝑏𝑙𝑒 𝐸𝑥𝑝𝑜𝑟𝑡𝑠 – 𝑉𝑎𝑙𝑢𝑒 𝑜𝑓 𝐼𝑛𝑣𝑖𝑠𝑖𝑏𝑙𝑒 𝐼𝑚𝑝𝑜𝑟𝑡𝑠
 Imports: money flows out of the country – negative
impact
 Exports: money flows into the country – positive impact
 𝐸𝑥𝑝𝑜𝑟𝑡𝑠 > 𝐼𝑚𝑝𝑜𝑟𝑡𝑠 ⟹ 𝐴𝑔𝑔𝑟𝑒𝑔𝑎𝑡𝑒 𝐷𝑒𝑚𝑎𝑛𝑑 𝐼𝑛𝑐𝑟𝑒𝑎𝑠𝑒𝑠
 𝐸𝑥𝑝𝑜𝑟𝑡𝑠 < 𝐼𝑚𝑝𝑜𝑟𝑡𝑠 ⟹ 𝐴𝑔𝑔𝑟𝑒𝑔𝑎𝑡𝑒 𝐷𝑒𝑚𝑎𝑛𝑑 𝐷𝑒𝑐𝑟𝑒𝑎𝑠𝑒𝑠
8.3 Balance of Payments
 The balance of payments of a country records all
financial transactions between the country and all others
 It consists of three main accounts:
 Means people are buying more imports and may be
spending less on products made by domestic firms
 Deficit may be a symptom of a declining industrial base
 Foreign exchange for the national currency is likely to fall
 Increases prices of imports and cause imported inflation
Reducing Trade Deficit
 Contractionary fiscal policy, by reducing taxes and
cutting government expenditure can reduce total
demand for imports
 Raising interest rates can attract an inflow of savings
from overseas, and reduce borrowing by consumers
which they might otherwise spend on imports
 Trade barriers can be used to restrict imported goods
 Allow the exchange rate to depreciate
 A large deficit will cause foreign exchange rate of
national currency to fall
 Imports will become more expensive but exports will be
cheaper for overseas consumers to buy
 As consumer demand for imports falls and overseas
demand for export rise, the trade deficit will disappear

Current Account Capital Account Financial 8.6 Exchange Rate

Payment for Payments Account  Exchange rate is the price of a country’s currency in
visible and involving the Investments terms of another country’s currency
invisible imports sale for capital flows including  Most countries have a floating exchange rate, which
and exports, goods or fixed loans and loan means no set value for their currency compared with any
plus net income assets such as repayments, other currency
flows and buildings and and the sale of  Currency is a commodity thus the value of a currency is
totally dependent on demand and supply of that
transfers machinery shares
currency in the foreign exchange market.
 An appreciation in the value of currency means its
8.4 Structure of the Current Account
exchange rate against other countries has risen
 Visible trade account: the difference between the
 A depreciation in the value of currency means its
export revenue and import spending on physical goods,
exchange rate against other countries has fallen
e.g. cars, washing machines
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 CIE IGCSE ECONOMICS//0455
8.7 Exchange Rate Fluctuations 8.9 Merits of Free Trade
 Demand for a currency comes from foreign money FOR TO
TO PRODUCERS
flowing into the country. If demand rises, the currency’s CONSUMERS GOVERNMENTS
value will rise in relation to the other currency  Cheaper  Larger markets  Exports
 Supply of the currency comes from domestic money products  Economies of increase jobs,
flowing out of the country. If supply rises, the currency’s  Better scale GDP, incomes
value will fall products  More  But imports
A currency might A currency might  Workers more produced, take them
productive lower average away
depreciate because: appreciate because:
 International per unit cost
 There is a balance of  There is a balance of
Trade  International
payments deficit payments surplus
 Increased trade
 Demand for other  Demand for the increases
competition
currencies rises as currency rises as number of
from
domestic consumers overseas consumers buy products you
international
buy more imports more exports
companies make
 Interest rates fall  Interest rates rise
 Lower Prices –
relative to other relative to other
Better
countries countries
Qualities
 People move their  This attracts savings
savings to bank from overseas residents 8.10 Protection
accounts overseas  Inflation is lower than in ARGUMENTS FOR ARGUMENTS AGAINST
 Inflation rises relative to other countries so
 Protection of a young  Other countries will
other countries. This exports will be cheaper
industry retaliate with trade
makes exports more and overseas demand
 To prevent barriers
expensive and demand for them, and the
unemployment  It protects inefficient
for them, and the currency required to
 To prevent dumping domestic firms
currency needed to buy pay for them, will rise
 Because other countries  The loss of domestic
them, falls  People speculate that
use barriers to trade jobs from overseas
 People speculate that the currency will rise in
the currency will fall in value and they buy  To prevent over- competitions will only
specialization be temporary
value and they sell their more of the currency
 Trade barriers have
holdings of the currency
increased the gap
8.8 Trade Protection between rich and poor
countries
 Tariffs: tax on imports to raise its price and make them
more expensive than local goods to stop people buying
them
 Subsidies: grant given to an industry by government so
industry will lower its prices encouraging consumers to
stop buying foreign imports by making home-produced
goods cheaper
 Quota: limit on number of imports allowed into country
per year, reducing quantity of imports without changing
their prices
 Embargo: complete ban on imports of certain goods. An
embargo may be used to stop imports of drugs

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