Cambridge Syllabus Notes

Cambridge IGCSE/A‑Level Economics – Syllabus Notes

Learning objectives

Explain the basic economic problem and the role of the main decision‑makers.
Describe the key macro‑economic concepts (GDP, AD/AS, inflation, unemployment, balance of payments).
Distinguish between economic growth and economic development.
Identify the range of policies that can be used to promote economic growth, evaluate their effectiveness and recognise the limits of each policy.

1. The basic economic problem (Syllabus 1‑2)

Scarcity – limited resources vs unlimited wants.
Choice & opportunity cost – the next‑best alternative foregone when a decision is made.
Factors of production – land, labour, capital and entrepreneurship.
Production Possibility Curve (PPC)
- Shows maximum output combinations of two goods when resources are fully and efficiently employed.
- Points inside the curve = under‑utilisation; points outside = unattainable with current resources.
- Movement of the PPC outward = economic growth (more resources or better technology).
Demand‑supply basics
- Law of demand: price ↑ → quantity demanded ↓ (ceteris paribus).
- Law of supply: price ↑ → quantity supplied ↑.
- Equilibrium price & quantity where the two curves intersect.
Price elasticity of demand (PED) & supply (PES) – measures responsiveness; important when evaluating tax or price‑change policies.

2. Micro‑economic decision‑makers (Syllabus 3)

Households – decide how much to work, save and spend; supply labour; demand goods & services.
Firms – decide how much to produce, what technology to use and at what price to sell.
Government – collects taxes, provides public goods, regulates markets.
Banks & financial institutions – intermediate savings, provide credit, influence interest rates.

Diagram suggestion: Labour‑market diagram (wage rate on vertical axis, labour quantity on horizontal) to illustrate equilibrium wage, unemployment and the effect of labour‑market reforms.

3. The macro‑economy (Syllabus 4)

3.1 Measuring economic activity

Nominal GDP – value of final goods & services at current prices.
Real GDP – nominal GDP adjusted for inflation (using a base‑year price index).
GDP per head (real GDP per capita) – real GDP ÷ population; a better indicator of average living standards.
Other aggregates – Gross National Income (GNI), Net National Income (NNI).

3.2 Aggregate demand and aggregate supply

Aggregate demand (AD) = C + I + G + (X‑M). Downward‑sloping because a lower price level raises real wealth, reduces interest rates and improves net exports.
Short‑run aggregate supply (SRAS) – upward‑sloping; firms increase output when the price level rises (higher profit margins).
Long‑run aggregate supply (LRAS) – vertical at potential output, determined by the quantity and quality of resources, not by the price level.

3.3 Inflation

Consumer Price Index (CPI) – measures average price change of a basket of goods & services.
Demand‑pull inflation – AD shifts right when the economy is near or at full capacity.
Cost‑push inflation – SRAS shifts left due to higher production costs (e.g., wages, oil price).
Consequences: erodes purchasing power, can affect interest rates and exchange rates.

3.4 Unemployment

Types
- Frictional – short‑term job search.
- Structural – mismatch of skills/locations.
- Cyclical – caused by insufficient aggregate demand.
Natural rate of unemployment – sum of frictional and structural unemployment; the economy can operate at this level without generating inflation.

3.5 Balance of payments (BoP)

Current account = Trade balance (X‑M) + net income from abroad + net current transfers.
Capital & financial account – records inflows/outflows of investment.
Surplus → net lender to the world; deficit → net borrower.
Policies affecting the BoP: exchange‑rate adjustments, import tariffs, export subsidies, capital controls.

4. Economic growth vs. economic development (Syllabus 5)

Economic growth – sustained increase in real GDP (or real GDP per head) over time.
Economic development – broader improvement in living standards, health, education and environmental quality.
Key development indicators:
- Human Development Index (HDI) – combines life expectancy, education and income.
- Poverty rates (absolute & relative).
- Gini coefficient – measures income inequality.
- Infant mortality, literacy rates, access to clean water.
Growth is a necessary but not sufficient condition for development; quality of growth matters.

5. International trade & globalisation (Syllabus 6)

Benefits of trade
- Specialisation according to comparative advantage.
- Access to a larger variety of goods at lower prices.
- Technology transfer and economies of scale.
Costs of trade
- Domestic industries may shrink (structural unemployment).
- Dependence on external demand and exposure to global shocks.
Trade barriers – tariffs, quotas, import licences, subsidies; usually introduced to protect “infant” industries or for political reasons.
Terms of trade (ToT) – ratio of export prices to import prices; an improvement means a country can buy more imports for a given amount of exports.
Foreign direct investment (FDI) – brings capital, technology and managerial expertise; can raise both the quantity and quality of resources.
Exchange‑rate regimes
- Fixed (pegged) – stabilises import prices but limits monetary policy autonomy.
- Floating – market‑determined; can act as an automatic stabiliser for the current account.

6. Policies to promote economic growth

6.1 Supply‑side policies (shift LRAS right)

Policy (syllabus wording)	How it works (mechanism)	Typical effectiveness	Possible drawbacks / limits
Improving education and training	Raises human capital → higher labour productivity and capacity for innovation.	High (long‑term) – durable gains in productivity.	Time lag of several years; costly; quality depends on curriculum relevance.
Investment in research & development (R&D)	Stimulates technological progress and creation of new products/processes.	High – can generate breakthrough innovations that lift growth rates.	Uncertain outcomes; private sector may capture most profit; requires strong intellectual‑property protection.
Infrastructure development (roads, ports, broadband, energy)	Reduces transaction costs and improves efficiency of production and distribution.	Medium‑high – benefits many sectors simultaneously.	Large upfront public spending; risk of “white‑elephant” projects; maintenance costs.
Tax incentives for investment (e.g., lower corporate tax, accelerated depreciation)	Lowers the cost of capital, encouraging firms to expand plant & equipment.	Medium – effective when business confidence is strong.	Reduces government revenue; may crowd‑out private investment if it raises interest rates.
Labour‑market reforms (flexible wages, reduced employment protection, active labour‑market policies)	Increases labour‑market efficiency, reduces structural unemployment.	Medium – can lower the natural rate of unemployment.	Potential social costs (income inequality, job insecurity); political resistance.
Encouraging private investment (public‑private partnerships, investment‑friendly regulations)	Creates a favourable environment for domestic and foreign capital to flow into productive projects.	Medium – mobilises resources beyond public finance.	Requires strong institutions and transparent contracts; risk of profit‑seeking behaviour outweighing public interest.
Openness and globalisation (removing trade barriers, attracting FDI)	Provides access to larger markets, advanced technology and cheaper inputs.	Medium‑high – can raise both the quantity and quality of resources.	Exposure to external shocks; benefits may be unevenly distributed; possible loss of strategic industries.

6.2 Demand‑side policies (shift AD right in the short‑run)

Policy	Mechanism (how it works)	Short‑run effectiveness	Long‑run implications / side‑effects
Expansionary fiscal policy (higher government spending or tax cuts)	Increases disposable income and/or directly raises aggregate demand.	High – can quickly raise output and employment.	Higher public debt; possible crowding‑out of private investment; demand‑pull inflation if the economy approaches full capacity.
Monetary‑policy easing (lower policy interest rates, quantitative easing)	Reduces borrowing costs, encouraging consumption and investment; may also depreciate the exchange rate.	High – effective while rates are above the zero‑lower bound.	Limited impact if confidence is low; risk of asset‑price bubbles; eventual rise in inflation expectations.
Exchange‑rate depreciation (via monetary easing or direct intervention)	Makes exports cheaper and imports more expensive, improving net exports.	Medium – helps export‑oriented sectors.	May raise import‑price inflation; effectiveness depends on price‑elasticity of trade; can worsen external‑debt servicing.

6.3 Evaluating policy effectiveness (Cambridge criteria)

Time lag – how quickly the policy influences output (e.g., fiscal stimulus is immediate; education reforms take years).
Cost – fiscal burden, opportunity cost, impact on other macro variables (inflation, balance of payments, debt sustainability).
Distributional effects – which groups benefit or are disadvantaged (e.g., tax cuts may favour higher‑income households).
Sustainability – can the growth be maintained without creating new problems (environmental damage, unsustainable debt)?
External constraints – EU fiscal rules, WTO commitments, global economic conditions, exchange‑rate regime.

7. Illustrative example – the multiplier effect of a tax cut

Assume a marginal propensity to consume (MPC) of 0.75. The government reduces income tax by $10 billion.

Step 1 – Immediate increase in disposable income: $10 bn

Step 2 – Induced increase in consumption:

$$\Delta C = MPC \times \Delta Y_D = 0.75 \times 10\text{ bn}=7.5\text{ bn}$$

Step 3 – Simple multiplier (no crowding‑out):

$$k = \frac{1}{1-MPC}= \frac{1}{1-0.75}=4$$

Step 4 – Total change in aggregate demand:

$$\Delta AD = k \times \Delta C = 4 \times 7.5\text{ bn}=30\text{ bn}$$

The calculation shows how a fiscal stimulus can be multiplied through the economy, but it ignores possible crowding‑out of private investment, the time lag before the full effect materialises, and any inflationary pressure if the economy is near potential output.

8. Suggested diagrams for exam answers

LRAS shift right – show an economy at point A (below potential), a demand‑side stimulus moving AD from AD₁ to AD₂ (point B, higher price level), then a supply‑side reform shifting LRAS from LRAS₁ to LRAS₂ (point C, higher output at the original price level).
Phillips curve – illustrate the trade‑off between unemployment and inflation in the short run and the vertical long‑run curve at the natural rate of unemployment.
Balance‑of‑payments diagram – show current‑account surplus/deficit and the effect of a depreciation on the trade balance.
Production‑possibility curve – outward shift to represent growth from increased resources or better technology.
Labour‑market diagram – effect of a reduction in employment protection on wage rates and unemployment.

9. Checklist for answering exam questions (AO1‑AO3)

Identify the policy type (supply‑side vs. demand‑side) and the relevant macro‑economic diagram.
Explain the mechanism by which the policy influences growth (e.g., raises LRAS, shifts AD).
Distinguish short‑run and long‑run effects.
Evaluate using the five Cambridge criteria: time lag, cost, distributional impact, sustainability, external constraints.
Consider any trade‑offs with inflation, unemployment, debt or the environment.
Use appropriate terminology and, where possible, illustrate with a labelled diagram.

The range of policies available to promote economic growth and their effectiveness