Demand curve – downward sloping; shows the quantity of a good that consumers are willing to buy at each price.
Supply curve – upward sloping; shows the quantity firms are willing to produce at each price.
Market equilibrium – the point where the two curves intersect (price = Pe, quantity = Qe).
Shifts – changes in determinants (income, tastes, input prices, technology, expectations, number of buyers/sellers) move the whole curve, not just a movement along it.
Consumer surplus (CS) – the difference between what consumers are willing to pay (area under the demand curve) and what they actually pay (price).
Producer surplus (PS) – the difference between the price received and the minimum price at which firms are willing to supply (area above the supply curve).
Both are measures of welfare; a change in price or a policy shift can increase or decrease CS and PS.
1.4 Example – Coffee market
Demand: \(Q_{d}=120-2P\); Supply: \(Q_{s}=20+3P\).
Equilibrium: \(120-2P=20+3P\Rightarrow P_{e}=20\), \(Q_{e}=80\).
If the government imposes a £5 per‑cup tax on producers, supply shifts up to \(Q_{s}=20+3(P-5)\). The new equilibrium price to consumers rises to £23, reducing CS and increasing PS by the tax revenue.
2. Government micro‑intervention (AS 3.1‑3.3)
2.1 Why intervene? (Market failure)
Public goods – non‑rival and non‑excludable (e.g., street lighting).
Externalities – costs or benefits that affect third parties (e.g., pollution, education).
Merit and demerit goods – goods that are under‑ or over‑consumed relative to the socially optimal level.
Information asymmetry – one side of a transaction has better information (e.g., used‑car market).
2.2 Main policy tools
Tool
How it works
Typical welfare effect
Taxes (excise, Pigouvian)
Raise the price of a demerit good or internalise a negative externality.
Reduces over‑consumption; generates revenue.
Subsidies
Lower the price of a merit good or internalise a positive externality.
Encourages under‑consumed goods; may create fiscal cost.
Price controls (ceilings/floors)
Set a maximum (ceiling) or minimum (floor) price.
Can cause shortages (ceilings) or surpluses (floors) if set away from equilibrium.
Quotas / import licences
Limit the quantity of a good that can be imported or produced.
Protect domestic industry; may raise domestic price.
Direct provision
Government produces the good itself (e.g., NHS).
Ensures universal access; cost borne by public finances.
Information & education campaigns
Change consumer preferences or awareness.
Often low‑cost; impact depends on behavioural response.
Market value of all final goods and services produced within a country’s borders in a given period.
GDP = GNP – Net factor income from abroad (NFI).
GNI (Gross National Income)
GDP + NFI – the total income earned by residents, whether domestically or abroad.
GNI = GDP + NFI.
NNI (Net National Income)
GNI – Depreciation (consumption of fixed capital).
NNI = GNI – Depreciation.
Illustrative UK 2023 figures: GDP ≈ £2.7 trn, NFI ≈ ‑£30 bn, depreciation ≈ £120 bn → NNI ≈ £2.55 trn.
5. Aggregate demand and aggregate supply (syllabus 4.3)
Aggregate demand (AD): \(AD = C + I + G + (X-M)\). Downward‑sloping because a higher price level reduces real spending via wealth, interest‑rate and exchange‑rate effects.
Short‑run aggregate supply (SRAS): upward‑sloping; some input prices are sticky, so firms increase output when the price level rises.
Long‑run aggregate supply (LRAS): vertical at potential output (YP); determined by factor endowments, technology and institutional factors.
5.1 Typical shifts
Shock
AD shift
SRAS shift
LRAS shift
Expansionary fiscal policy (↑G)
Right
–
–
Oil price rise
–
Left
–
Technological progress
–
Right (lower costs)
Right (higher YP)
6. Investment: autonomous and induced (syllabus 5.1‑5.2)
6.1 Definition
Investment (I) = expenditure on new capital goods (machinery, factories, housing) that adds to the productive capacity of the economy.
6.2 Autonomous investment (Ia)
Does not vary with the current level of income.
Determined by long‑run expectations and external factors:
Business confidence about future profitability.
Interest rates and the cost of borrowing.
Technological change and innovation.
Government policy (tax incentives, subsidies, public‑investment programmes).
In the short‑run Keynesian model it is treated as a constant.
6.3 Induced investment (Ii)
Varies with national income. The simplest functional form is linear:
\[
I_i = \alpha \, \Delta Y
\]
\(\alpha\) = marginal propensity to invest (MPI); the proportion of any change in income that is spent on new capital.
Typical empirical range for advanced economies: 0.05 – 0.15.
6.4 Total investment function
\[
I = I_a + \alpha \, \Delta Y
\]
This expression underpins the multiplier‑accelerator model.
7. The accelerator principle (syllabus 5.3)
7.1 Concept
Firms aim to keep a constant capital‑output ratio \(v\) (capital required per unit of output). When output changes, firms adjust their desired capital stock, generating induced investment.
7.2 Simple accelerator model
Desired capital stock:
\[
K^{d}=vY
\]
Change in desired capital stock:
\[
\Delta K^{d}=v\Delta Y
\]
Since investment is the change in the capital stock, the accelerator equation is:
\[
I = I_a + v\Delta Y
\]
\(v\) is the accelerator coefficient (units of capital per unit of output).
A larger \(v\) → a stronger response of investment to output changes.
Diagram 3 – Accelerator feedback loop: higher output → higher desired capital → induced investment → further output increase.
7.3 Numerical illustration
Autonomous investment \(I_a = £20\) bn
Accelerator coefficient \(v = 0.2\) (0.2 units of capital per £1 of output)
Initial output \(Y_0 = £500\) bn
If output rises by £10 bn (\(\Delta Y = 10\) bn), induced investment = \(v\Delta Y = 0.2 \times 10 = £2\) bn, so total investment = £22 bn.
8. Interaction of the multiplier and the accelerator (syllabus 5.4)
8.1 Keynesian multiplier
\[
k = \frac{1}{1 - c(1-t)}
\]
\(c\) = marginal propensity to consume (MPC).
\(t\) = tax rate (as a proportion of income).
8.2 Combined multiplier‑accelerator process
Assume an initial autonomous injection \(\Delta A\) (e.g., a rise in G). The first round raises income by \(k\Delta A\). This extra income induces investment \(\alpha k\Delta A\), which becomes a new autonomous injection for the next round, and so on.
Round
Autonomous injection
Change in income
Induced investment
1
\(\Delta A\)
\(k\Delta A\)
\(\alpha k\Delta A\)
2
\(\alpha k\Delta A\)
\(k\alpha k\Delta A\)
\(\alpha k\alpha k\Delta A\)
3
\(\alpha k\alpha k\Delta A\)
\(k(\alpha k)^2\Delta A\)
\(\alpha k(\alpha k)^2\Delta A\)
⋯
⋯
⋯
⋯
The total change in income is the sum of an infinite geometric series:
Reduce the cost of borrowing → raise autonomous investment \(I_a\).
May increase the marginal propensity to invest \(\alpha\) (stronger accelerator).
Can also raise consumption (higher \(c\)) → larger multiplier.
Higher rates have the opposite effects.
9.3 Supply‑side (structural) policy
Improving education and training, investing in infrastructure, deregulation and tax reforms.
Shift LRAS right (higher potential output) and can lower the accelerator coefficient \(v\) by making capital more productive.
9.4 Exchange‑rate policy (A‑Level 10.2)
Fixed exchange rate – government intervenes to maintain a set rate; can affect net exports (X‑M) and thus AD.
Floating exchange rate – market‑determined; changes in interest rates cause capital flows that appreciate or depreciate the currency, influencing export competitiveness.
Depreciation → ↑X, ↓M → rightward AD shift; appreciation does the opposite.
9.5 Policy conflicts
Stabilisation vs. growth – a large fiscal stimulus may boost output (good for growth) but risk demand‑pull inflation.
Fiscal‑monetary coordination – if fiscal expansion is matched by monetary tightening, the net effect on AD may be muted.
Supply‑side vs. demand‑side – supply measures improve LRAS without creating inflationary pressure, whereas demand measures shift AD.
10. Labour market (A‑Level 8.3)
10.1 Demand for labour
Derived from the marginal product of labour (MPL); firms hire up to the point where MPL = real wage (w).
Shift factors: technology, product demand, capital intensity, labour‑saving innovation.
10.2 Supply of labour
Depends on population, participation rates, education, and wage expectations.
Higher real wages encourage more people to work (upward‑sloping supply curve).
10.3 Wage determination & market structures
Perfectly competitive labour market – wage equals MPL; equilibrium employment.
Monopsony – a single large employer faces an upward‑sloping labour supply; sets wage below MPL, causing under‑employment.
Trade unions – can push wages above equilibrium, potentially creating a labour surplus (unemployment).
10.4 Policy tools
Tool
Objective
Typical effect on AD/LRAS
Minimum wage
Increase real wages for low‑paid workers
May raise consumption (AD) but can increase labour costs → leftward SRAS.
Training programmes
Raise skill levels, productivity
Shift LRAS right (more efficient labour).
Unemployment benefits
Provide income support
Increase consumption (AD) but may reduce job‑search effort.
11. International economics (AS 6.1‑6.5, A‑Level 11.1‑11.6)
11.1 Why trade?
Comparative advantage – countries specialise in goods with lower opportunity cost.
Result: higher world output, gains from trade for all participants.
11.2 Protectionist instruments and welfare effects
Instrument
Diagram effect
Welfare impact
Tariff
Domestic price rises above world price; quantity falls.
Consumer surplus ↓, producer surplus ↑, government revenue ↑ → net loss (dead‑weight loss).
Quota
Quantity limited; price rises to the quota price.
Similar dead‑weight loss; rents accrue to licence holders.
Subsidy to exporters
Domestic price falls; exports increase.
Producer surplus ↑, government outlay ↑ → net loss.
11.3 Balance of payments (BoP)
Current account = (X‑M) + net primary income + net secondary income.
Capital & financial account records net capital flows.
BoP identity: Current account + Capital & financial account + Errors & omissions = 0.
11.4 Exchange‑rate effects
Marshall‑Lerner condition: a depreciation improves the trade balance if \(|\varepsilon_{x}| + |\varepsilon_{m}| > 1\) (sum of price elasticities of export and import demand).
J‑curve: after a depreciation, the trade balance may initially worsen before improving as volumes adjust.
11.5 Development and sustainability
Key indicators: GDP per capita, Human Development Index (HDI), Gini coefficient (inequality), poverty rates.
Inclusive growth – growth that is broad‑based and reduces inequality.
Sustainable growth – growth that can be maintained without depleting natural resources or causing environmental damage.
Fiscal policy changes \(\Delta A\); monetary policy influences \(I_a\) and \(\alpha\); supply‑side measures shift LRAS; exchange‑rate policy affects net exports.
Labour market equilibrium is where real wage equals marginal product of labour; monopsony and unions can cause wage‑employment distortions.
International trade generates gains from comparative advantage; protectionist tools create dead‑weight losses. Exchange‑rate movements affect the trade balance via the Marshall‑Lerner condition and the J‑curve.
Policy makers must balance stabilisation (inflation, unemployment), growth (shifting LRAS), and distributional objectives (equity, sustainability).
13. Suggested diagram set
(a) Closed‑economy circular flow.
(b) Open‑economy circular flow.
(c) AD/AS framework with typical shocks.
(d) Accelerator feedback loop.
(e) Demand‑supply diagram with price elasticity illustration.
(f) Consumer & producer surplus diagram.
(g) Labour‑market diagram (MPL = wage).
(h) Trade‑policy diagram (tariff impact on CS, PS, government revenue).
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