policy implications

Cambridge A‑Level Economics (9708) – Complete Syllabus Overview & Policy Implications

1. Core Economic Ideas (AS Unit 1)

• Scarcity & Choice – Resources are limited; societies must decide how to allocate them among alternative uses.
• Opportunity Cost – The value of the next best alternative fore‑gone when a decision is made.
• Production Possibility Curve (PPC)
  • Shows the maximum combinations of two goods that can be produced when resources are fully and efficiently employed.
  • Points inside the curve = under‑utilisation; points on the curve = productive efficiency; points outside = unattainable with current resources.
  • Shifts:
    • Outward shift – Economic growth (more resources, better technology, improved human capital).
    • Inward shift – Disaster, war, loss of resources, or a decline in productivity.
  • Diagram placeholder: PPC with an outward shift (label “Growth”); illustrate opportunity cost as the slope.
• Utility & Indifference Curves (A‑Level)
  • Utility = satisfaction derived from consumption.
  • Marginal utility (MU) declines as quantity consumed rises (law of diminishing marginal utility).
  • Indifference curve (IC) = set of bundles giving the consumer the same level of satisfaction.
  • Key properties:
    • Downward sloping, convex to the origin.
    • Higher IC = higher utility.
    • ICs never cross.
  • Budget line: \(P_X X + P_Y Y = I\) where I is income.
  • Optimal consumption where the highest attainable IC is tangent to the budget line (MU_X/P_X = MU_Y/P_Y – the equi‑marginal principle).
  • Diagram placeholder: Budget line and two indifference curves showing the tangency point.
• Marginal Analysis – Decisions are taken at the margin; a rational agent acts until marginal benefit = marginal cost (MB = MC).
• Efficiency
  • Productive efficiency – Producing on the PPC (no waste of resources).
  • Allocative efficiency – Producing where marginal benefit = marginal cost (price = MC).
• Time Horizon
  • Short‑run – At least one input is fixed.
  • Long‑run – All inputs are variable; firms can enter or exit the market.

2. The Micro‑Price System (AS Unit 2)

2.1 Demand and Supply

• Law of Demand: c.p., price ↑ → quantity demanded ↓.
• Law of Supply: price ↑ → quantity supplied ↑.
• Market equilibrium: \(Q_D = Q_S\) at price P*​ and quantity Q*​.
• Disequilibrium
  • Surplus (price above P*) → downward pressure on price.
  • Shortage (price below P*) → upward pressure on price.
• Diagram placeholder: Demand‑supply graph showing equilibrium, surplus, and shortage.

2.2 Elasticities

Elasticity	Formula	Interpretation	Typical Value / Example
Price elasticity of demand (PED)	\(\displaystyle \varepsilon_D=\frac{\%\Delta Q_D}{\%\Delta P}\)	|ε| > 1 elastic; |ε| < 1 inelastic; |ε| = 1 unit‑elastic	Luxury cars often |ε| ≈ 2; petrol often |ε| ≈ 0.3
Price elasticity of supply (PES)	\(\displaystyle \varepsilon_S=\frac{\%\Delta Q_S}{\%\Delta P}\)	More elastic in the long run; depends on spare capacity.	Agricultural output in the short run is relatively inelastic.
Income elasticity of demand (YED)	\(\displaystyle \varepsilon_Y=\frac{\%\Delta Q_D}{\%\Delta Y}\)	Positive for normal goods, negative for inferior goods.	Restaurant meals: ε_Y ≈ 1.5 (luxury); instant noodles: ε_Y ≈ ‑0.4 (inferior).
Cross‑price elasticity (XED)	\(\displaystyle \varepsilon_{XY}=\frac{\%\Delta Q_X}{\%\Delta P_Y}\)	Positive for substitutes, negative for complements.	Butter & margarine: ε ≈ 0.6; coffee & sugar: ε ≈ ‑0.2.

2.3 Worked Example – PED Calculation

When the price of cinema tickets rises from £8 to £10, quantity demanded falls from 1 200 to 900 tickets per week.

\[ \varepsilon_D=\frac{\frac{900-1200}{1200}}{\frac{10-8}{8}} =\frac{-0.25}{0.25}= -1.0 \]

Interpretation: demand is unit‑elastic; total revenue is unchanged.

2.4 Consumer & Producer Surplus

• Consumer surplus (CS) – Area between the demand curve and the market price, up to the quantity bought.
• Producer surplus (PS) – Area between the supply curve and the market price, up to the quantity sold.
• Welfare analysis of policy:
  • Tax → CS + PS fall; government revenue (GR) rises; dead‑weight loss (DWL) = loss of surplus not captured by GR.
  • Subsidy → CS + PS rise; government expenditure (GE) falls; possible DWL if over‑production occurs.
• Diagram placeholder: Demand‑supply with a per‑unit tax showing new price to consumers, price to producers, CS, PS, GR, and DWL.

2.5 Market Failure & Government Intervention (AS Unit 3)

• Public Goods
  • Non‑rival & non‑excludable (e.g., national defence, street lighting).
  • Free‑rider problem → market under‑provides → government provision funded by taxation.
• Externalities
  • Negative externality – MSC > MPC (e.g., pollution).
    Policy tools: Pigouvian tax, tradable permits, command‑and‑control regulation.
  • Positive externality – MSC < MPC (e.g., vaccination).
    Policy tools: Pigouvian subsidy, provision of the good, information campaigns.
• Market Power (A‑Level Unit 9)
  • Monopoly, monopolistic competition, oligopoly – each leads to allocative inefficiency (P > MC).
  • Welfare effects: dead‑weight loss, possible price‑rigidity (kinked‑demand in oligopoly).
• Government Price Controls
  • Price ceiling (e.g., rent control) – set below equilibrium → shortage, queuing, black markets.
  • Price floor (e.g., minimum wage) – set above equilibrium → surplus (unemployment) unless offset by wage subsidies or training.
• Taxes & Subsidies
  • Tax on a good shifts the supply curve upward by the amount of the tax.
  • Incidence depends on relative elasticities:
    • More elastic demand → producers bear a larger share.
    • More elastic supply → consumers bear a larger share.
  • Subsidy shifts supply downward; can correct a positive externality or support a strategic industry.

2.6 Market Structures (A‑Level Unit 9)

Structure	Key Characteristics	Demand Curve	Cost Curves	Profit‑Maximisation Condition	Welfare Implications
Perfect Competition	Many firms, homogeneous product, free entry/exit, price‑taker.	Horizontal at market price.	U‑shaped ATC; MC cuts ATC at minimum.	MR = MC = P.	No DWL in long run; allocative efficiency (P = MC).
Monopoly	Single seller, high barriers, price‑setter.	Downward‑sloping (same as market demand).	U‑shaped ATC; MC upward.	MR = MC (where MR is below demand).	DWL because P > MC; possible X‑inefficiency.
Monopolistic Competition	Many firms, differentiated products, free entry/exit.	Downward‑sloping but more elastic than monopoly.	U‑shaped ATC; MC upward.	MR = MC (short‑run); long‑run P = ATC (zero economic profit).	Some DWL due to excess capacity.
Oligopoly	Few large firms, interdependent, possible collusion.	Depends on model (kinked demand, Cournot, Stackelberg).	Varies; often MC < ATC in the short run.	Strategic interaction – maximise profit given rivals’ reactions.	Potential for collusive outcomes → higher price, DWL.

3. Labour‑Market Theory (A‑Level Unit 7)

3.1 Derived Demand for Labour

• Firms demand labour because it contributes to output.
• Derived demand curve is the Marginal Revenue Product of Labour (MRP_L): \[ MRP_L = MP_L \times P \] where MP_L = marginal product of labour and P = price of the output.
• Because of diminishing marginal product, MP_L falls as more workers are hired, giving a downward‑sloping MRP_L curve.

3.2 Wage Determination

Market Structure	Wage‑setting Mechanism	Resulting Wage & Employment
Perfect competition	Wage = MRPL (intersection of labour supply and labour demand).	Efficient outcome; no involuntary unemployment.
Monopsony	Single buyer of labour; sets wage where Marginal Factor Cost (MFC) = MRPL.	Wage < competitive level; employment below efficient level.
Trade‑unionised market	Collective bargaining pushes wage above equilibrium; may be accompanied by employment‑subsidies or reduced hours.	Higher wages; possible excess supply of labour (unemployment) unless offset by productivity gains.
Minimum‑wage (price floor)	Government‑set floor above equilibrium.	Potential unemployment if labour supply is elastic; can be mitigated by wage subsidies or training.

3.3 Types of Unemployment

• Frictional – Short‑term job search; normal in a dynamic economy.
• Structural – Mismatch of skills, geography or technology; often long‑run.
• Demand‑deficient (cyclical) – Insufficient aggregate demand; falls when AD shifts left.
• Classical – Real wages above market‑clearing level (e.g., due to minimum wages, strong unions).

3.4 Measuring Unemployment

Unemployment rate (u):

\[ u = \frac{U}{L}\times 100 \] where U = number of unemployed, L = labour force (employed + unemployed).
Common measurement issues:

1. Discouraged workers are excluded from the labour force.
2. Part‑time workers who want full‑time work are counted as employed.
3. Marginally attached persons are omitted.

3.5 The Phillips Curve (A‑Level Unit 10)

• Short‑run Phillips curve (SRPC): inverse relationship between unemployment (u) and inflation (π).
  Equation (simplified): \(\displaystyle \pi = \pi^e - \beta (u - u^*)\) where \(\pi^e\) is expected inflation, \(u^*\) the natural rate, and \(\beta>0\).
• Long‑run Phillips curve (LRPC) is vertical at the natural rate of unemployment; in the long run there is no trade‑off between inflation and unemployment.
• Expectations‑augmented version explains why expansionary policy may only reduce unemployment temporarily.
• Diagram placeholder: SRPC (downward sloping) and LRPC (vertical) with a shift illustrating an increase in expected inflation.

4. Macroeconomic Framework (AS Units 4 & 5)

4.1 Aggregate Demand (AD) & Aggregate Supply (AS)

AD equation: \(AD = C + I + G + (X-M)\)

• AD Shifters
  • Consumer confidence / wealth effects.
  • Fiscal policy (ΔG, ΔT).
  • Monetary policy (interest rates, money supply).
  • Exchange‑rate movements (affecting net exports).
  • Foreign income changes.
• Short‑run AS (SRAS) – upward sloping because some input prices (wages, raw materials) are sticky.
• Long‑run AS (LRAS) – vertical at potential output (Y_P); determined by technology, capital stock, labour force, and institutional factors.
• Diagram placeholder: AD–SRAS–LRAS model showing recessionary gap, inflationary gap, and equilibrium at full employment.

4.2 The Multiplier

Simple fiscal multiplier (no imports or taxes):

\[ k = \frac{1}{1-MPC} \]

With taxes (t) and imports (MPI):

\[ k = \frac{1}{1-MPC(1-t)+MPI} \]

Worked Example – Government Spending Multiplier

• MPC = 0.8, tax rate t = 0.25, MPI = 0.15.
• An increase in G of £10 bn raises equilibrium output by about £18.2 bn.

4.3 Fiscal Policy (Demand‑Side)

• Expansionary – ↑G or ↓T → AD rightward → higher Y, lower unemployment, possible demand‑pull inflation.
• Contractionary – ↓G or ↑T → AD leftward → lower inflation, risk of higher unemployment.
• Evaluation criteria: multiplier size, timing (recognition, implementation, impact lags), crowding‑out, distributional effects.

4.4 Monetary Policy (Demand‑Side)

• Instruments:
  • Policy interest rate (base rate).
  • Open‑market operations (buy/sell government securities).
  • Reserve‑requirement ratio.
  • Quantitative easing (large‑scale asset purchases).
• Lower rates → cheaper borrowing → ↑ investment & consumption → AD rightward.
• Liquidity trap: when rates are near zero, further cuts have little effect on AD.
• Evaluation: speed of transmission, impact on exchange rate, risk of asset‑price bubbles.

4.5 Supply‑Side (Structural) Policies

• Productivity‑enhancing policies – investment in infrastructure, R&D, education & training, health.
• Labour‑market flexibility – reducing redundancy costs, deregulating hiring/firing, promoting part‑time/temporary work, encouraging geographic mobility (relocation grants, transport subsidies).
• Regulatory reforms – competition policy, simplification of business registration, anti‑corruption measures.
• Goal: shift LRAS rightward, lower the natural rate of unemployment, improve long‑run growth potential.

4.6 Policy Mix & Effectiveness (Evaluation Framework)

Policy Mix	When to Use	Key Advantages	Key Risks / Limitations
Demand‑side stimulus (fiscal + monetary) in a recession	Large output gap, low inflation.	Quick boost to AD; fiscal multiplier can be large if economy is far from capacity.	Potential crowding‑out (if interest rates rise), rising public debt, time lags.
Supply‑side reforms in a near‑full‑capacity economy	Inflationary pressures, structural unemployment.	Increases potential output, reduces long‑run unemployment, improves competitiveness.	Long implementation lag, political resistance, may not deliver immediate relief.
Monetary easing in a liquidity trap	Interest rates at the zero lower bound, weak credit demand.	Quantitative easing can lower long‑term rates, support asset markets.	Risk of asset‑price bubbles, limited impact on real economy, future unwinding challenges.

5. International Economics (AS Unit 6)

5.1 Balance of Payments (BoP)

• Current Account – Trade in goods & services, primary/secondary income, unilateral transfers.
• Capital & Financial Account – Direct investment, portfolio investment, loans, changes in reserves.
• Official Reserves – Central‑bank holdings of foreign currency, gold, SDRs.
• By definition, the BoP always balances: a deficit in one account is offset by a surplus in another (e.g., current‑account deficit financed by capital inflows).

5.2 Exchange‑Rate Regimes

Regime	Characteristics	Advantages	Disadvantages
Fixed (pegged)	Central bank commits to buying/selling at a set rate; often supported by large reserves.	Exchange‑rate stability; reduces transaction costs; can anchor inflation expectations.	Loss of monetary autonomy; vulnerable to speculative attacks; requires substantial reserves.
Floating	Rate determined by market forces (supply & demand for foreign exchange).	Monetary policy independence; automatic adjustment of external imbalances.	Exchange‑rate volatility; can affect import‑export competitiveness and inflation.
Managed float (dirty float)	Authorities intervene occasionally to smooth excessive movements.	Blend of stability and flexibility; can target a desired exchange‑rate band.	Policy credibility issues; may be perceived as manipulation; intervention costs.

5.3 Trade Policies & Their Effects

• Tariffs – Raise the price of imports; protect domestic producers but create dead‑weight loss (loss of CS + PS). Revenue to government.
• Quotas – Limit the quantity of imports; generate rents for licence holders; similar welfare loss to tariffs.
• Export subsidies – Lower export price; increase export volume; may provoke retaliation under WTO rules; cost to government.
• Import licences & voluntary export restraints – Non‑tariff barriers that restrict trade volume.
• Free‑Trade Agreements (FTAs) – Remove or reduce barriers between signatories; increase gains from trade if comparative advantage exists.
• Trade‑related welfare diagram placeholder: Import‑tariff model showing CS loss, PS gain, and government revenue.

5.4 Development Indicators (A‑Level Unit 11)

Indicator	What It Measures	Limitations
GDP per capita	Average income per person.	Ignores distribution, non‑market activities, environmental degradation.
Human Development Index (HDI)	Composite of life expectancy, education (mean years of schooling + expected years), and GNI per capita.	Weighted averages hide intra‑country inequalities.
Gini coefficient	Degree of income inequality (0 = perfect equality, 1 = perfect inequality).	Doesn’t show where in the distribution inequality occurs.
Kuznets Curve	Hypothesised inverted‑U relationship between inequality and per‑capita income.	Empirical evidence mixed; may differ across regions and institutions.

5.5 Globalisation & Sustainability (A‑Level Unit 11.6)

• Globalisation – Increasing integration of economies through trade, investment, migration, and technology.
• Potential benefits: economies of scale, technology transfer, higher growth.
• Potential costs: wage pressure in low‑skill sectors, environmental degradation, cultural homogenisation.
• Sustainable Development – Meeting present needs without compromising future generations; incorporates economic, social, and environmental dimensions.
• Policy tools: carbon taxes, renewable‑energy subsidies, green public procurement, international agreements (e.g., Paris Agreement).

6. Policy Implications – Integrated View

6.1 Demand‑Side (Keynesian) Tools

Tool	Mechanism	Targeted Unemployment Type	Potential Side‑effects
Expansionary fiscal policy (↑G or ↓T)	Rightward shift of AD → higher output, ↑ labour demand.	Demand‑deficient (cyclical) unemployment.	Higher budget deficit; possible demand‑pull inflation if economy near full capacity.
Monetary easing (↓interest rates, QE)	Cheaper credit → ↑ investment & consumption → AD rightward.	Cyclical unemployment.	Asset‑price bubbles; limited impact in a liquidity trap; future unwinding challenges.
Supply‑side reforms (training, deregulation)	Shift LRAS rightward → higher potential output, lower natural unemployment.	Structural unemployment.	Long implementation lag; political resistance; may benefit skilled workers more than low‑skill.
Targeted wage subsidies (e.g., youth wage subsidy)	Reduce effective labour cost for specific groups → encourage hiring.	Frictional & structural unemployment.	Fiscal cost; possible distortion if not well‑targeted.

6.2 Evaluation Checklist for Any Policy

1. Effectiveness – Does the policy achieve its stated macro‑economic objective (e.g., reduce unemployment, curb inflation)?
2. Efficiency – Are the gains larger than the costs (including dead‑weight loss, administrative costs)?
3. Equity – Who benefits and who bears the burden? Consider income distribution, regional effects, and gender.
4. Stability – Does the policy enhance or undermine macro‑economic stability (inflation volatility, exchange‑rate swings)?
5. Flexibility & Timing – Are there long recognition, implementation, and impact lags? Can the policy be adjusted quickly?
6. Political Feasibility – Is there public and parliamentary support? Are interest groups likely to oppose?
7. International Constraints – WTO rules, IMF/World Bank conditionalities, exchange‑rate regime limitations.

6.3 Sample Policy Scenario – Reducing Youth Unemployment

• Problem: Youth unemployment (15‑24) at 22 % – primarily structural (skill mismatch) and frictional.
• Policy Mix:
  • Government‑funded apprenticeship scheme (supply‑side, reduces skill gap).
  • Targeted wage subsidy for firms hiring apprentices (demand‑side, lowers effective wage).
  • Expansionary fiscal stimulus (increase G on public‑infrastructure projects that employ young workers).
• Expected Outcomes:
  • Short‑run: AD rises → modest fall in cyclical unemployment.
  • Medium‑run: Improved skills shift labour‑market LRAS rightward → lower structural unemployment.
• Potential Risks:
  • Subsidy may create a “subsidy trap” if firms retain workers after the period.
  • Increased G may raise public debt; need to assess sustainability.
  • If the economy is near full capacity, stimulus could fuel inflation.
• Evaluation using checklist – effectiveness high (addresses both demand and supply), efficiency depends on targeting, equity improved for young workers, stability manageable if timing is coordinated with monetary policy.

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These notes cover **all** AS topics (1‑6) and **all** A‑Level topics (7‑11) required by the Cambridge International AS & A Level Economics (9708) syllabus. Diagrams indicated by placeholders should be drawn in class or added to revision cards to reinforce visual understanding.