Key Economic Indicators

Growth

Measured by rate of growth of GDP: C + I + G + (X – M). Usually we look at real GDP per capita – real as
in adjusted for inflation (as opposed to nominal), and per capita so it’s a better representation of living
standards.

Rule of 72: divide 72 by the rate of growth to obtain the number of years required for living standards to
double

Target: 8—12% for developing economies, 2—3% for developed economies. This is because developed
economies need to increase efficiency rather than just pump in more factors of production, causing a
slower rate of growth.

A recession is defined by two quarters of negative growth. Also telling are rising unemployment, falls in
business confidence and profits, falling demand for imports, increased government borrowing and
decreased fixed capital investment.

Sustained Growth

In order to achieve sustained economic growth, we need both actual and potential growth – once spare
capacity is used up, rate of growth of actual output is restricted to the rate of growth of potential
output. Therefore actual growth must be accompanied by potential growth.

Actual growth: the increase in national output actually produced for a given period of time, percentage
increase in real GDP.

- Increase in AD: Shift of AD to the right, or movement of a point outwards from within the PPC.
- Increase in AS:
o Fall in production costs: downward shift of the AS curve

Potential growth: the increase in the productive capacity of the economy. Determined by the increase in
AS: shift of AS to the right or outward shift of PPC. This is achieved by 1. Increase in resources or 2.
Increase in productivity/efficiency.

Benefits of Growth

1. Higher living standards (refer to rule of 72 as above): because people have more disposable
income and therefore consume more goods and services. If we produce more, we can consume
more.
2. Easier to redistribute income: can afford to be more generous to the disadvantaged (overall
growth of pie)
3. Increased savings and investment: MPS increases with higher income levels  more savings 
more loanable funds  interest rates fall in the LR  greater incentive to invest  increases
potential capacity of the economy. Therefore we can see that this is a cycle of growth.
 4. Lower unemployment: however, if it’s structural unemployment, growth alone may not solve
the problem

Costs of Growth

1. Income inequality: real beneficiaries tend to be the rich since they have savings, enabling capital
accumulation and investment
2. Environmental costs: perhaps best seen in the high environmental costs of the Golden Years
following WWII, because of the creation of artificial needs and consumerism. In the LR this may
slow growth because of the reduced availability of natural resources
3. Overheating economy: accelerating inflation because of rising demand and increase in prices of
factors of production (materials, energy, wages)

Negative/weak growth

Demand-side causes:

1. Lack of AD
2. Low rate of investment: inability to increase quantity of capital per worker/capital stock.
Possibly caused by lack of investor confidence (affected also by political stability), high interest
rates
3. Low savings rate: the poor cannot afford to save much. But developed countries may have low
savings rates because
a. Liberalization of the financial sector: ease of obtaining unsecured credit
b. Increase in welfare
c. Expectations of high inflation causing households to spend more now
d. High income tax, lowering disposable income
4. External shocks: can be internal or external

Supply-side causes:

1. Lack of natural resources: but this is not necessarily important, more important is
entrepreneurship, skilled labour and capital to exploit limited factors of production
2. Poor human capital: efficiency is more important than quantity
3. Lack of technological advancement: technology is important because it cuts costs and opens up
investment. However R&D often doesn’t pay off and is expensive, therefore institutional
support is important

Costs:

1. Unemployment and lost output

2. Lower savings and consumption
3. Lower investment and long-term growth

Limitations of using GDP to measure growth

 1. Activities not captured by official figures even though they employ a factor of production and
produce a good or service that is consumed
a. Non-marketed activities: housework, self-sufficient farming (produced but not paid for)
b. Illegal activities: drug dealing, prostitution (produced and paid for but not declared)
c. Black economy: private tuition (legal and paid for, but not declared)
2. Does not represent disposable income (CPF, taxes, benefits etc)
3. Quality of life not just measured by financial statistics: hours and quality of work, income
distribution, environment, government provision of public goods, freedom of speech etc

Purchasing Power Parity

Spatial comparisons between countries: necessary since Forex rates don’t accurately reflect differeing
price levels in different countries because non-tradable items (eg. Accommodation, transport, services)
don’t affect the exchange rate.

Measured by how much it costs in local currency to buy a standard basket of goods and services

Inflation

Defined as a sustained increase in the general price level.

 Mild inflation: single digit, not distorting prices severely

 Galloping: double or triple digits
 Hyper: more than triple digit. Money ceases to function as a medium of exchange; barter trade
 Disinflation: falling inflation (not to be confused with deflation!)
 Deflation: negative inflation/falling prices
 Stagflation: rising prices coupled with negligible growth in real GDP

Measured with the Consumer Price Index (CPI): the cost of buying a standard basket of goods and
services. The index is set to 100 in the base year (currently 2009), subsequent prices expressed in
relation to 100. Weighted so items which more money are spent are given greater important.

Rate of inflation = (Change in CPI / CPI in base year) x 100%

Target: 0.2—2%. Singapore in particular worries about importing inflation due to the nature of our
economy  ideally, exchange rate should steadily appreciate so prices are kept down.

Limitations of CPI: basket continually changes, but it’s not feasible to keep changing it because it won’t
be a comparison otherwise. Not truly accurate: average CPI not representative of the extremes.

Causes

1. Demand Pull Inflation: caused by persistent rises in AD, usually in a booming economy (AD curve
shifts to the right)
2. Cost Push Inflation: due to rising production costs, forcing prices upwards (AS curve shifts up)
a. Wage-push inflation: market power of trade unions push up wages that are greater than
increase in labour productivity
 b. Profits-push inflation: employers with considerable market power push the increases to
consumer by raising prizes to maintain profit margins when faced with higher costs
c. Increase in prices of raw materials
d. Import-induced inflation: supply shortages or currency depreciation
e. Structural inflation: structural rigidities such as immobility of labour

Demand pull and cost push inflation can (and tend to) occur together, leading to an ever-increasing
inflationary cycle. Even when it starts off as one it can lead to the other. Initial cost-push inflation
encourages government to expand AD to offset rises in unemployment, thus output increases to original
level but price level increases further.

Consequences

1. Fall in foreign investment

2. Increase in speculative activity
3. Deterioration of BoP
4. Depreciation of currency
5. Fall in real value of savings
6. Fixed income earners lose; variable win. Debtors win; creditors lose. Physical assets gain but
financial assets lose

Deflation: caused by a fall in AD or increase in AS. Deflationary spirals are huge problems.

Unemployment

Unemployment Rate = (# of unemployed persons / labour force) x 100%

Defined as the number of people actively looking for work that are currently out of a job. But people
don’t easily fall into this category: what of part-time work, discouraged workers, people doing jobs
below their skill level?

Target: about 2% frictional unemployment, so that when new jobs are created there are people
available to fill them. Zero unemployment is therefore undesirable because it means the labour market
is too tight.

Types of unemployment

1. Structural unemployment: change in economic structure

a. Change in taste, substitutes, cheaper imports, loss of foreign market
b. When there are job vacancies that require skills workers do not have
c. Often happens in transitioning economies from one stage of production to the next
d. Changes in supply: exhaustion of mineral deposits, high wage costs
2. Cyclical unemployment/Demand-deficient unemployment: what happens in recessions
3. Seasonal unemployment: seasonal declines in business activity: agriculture, tourism etc

Consequences
 1. Output loss to the economy, since it is operating below full capacity
2. Negative impact on government budget: unemployed don’t pay income tax (less tax revenue),
welfare payouts (higher expenditure)
3. Increase in social problems in the LR

Balance of Payments

Two components: current account, capital and financial account

1. Current Account: (X – M), both visible and invisible, transfers of money between countries by
both governments and individuals
2. Capital account: (inflows – outflows) of capital: direct investment, portfolio investment, loans
a. Hugely significant for Singapore; our success is built on Foreign Direct Investment (FDI)
b. Nowadays there is an outflow as Singapore invests its wealth in the world to transcend
the limits of a city state economy
c. Long-term: setting up shops, factories etc
d. Short-term: hot money whizzing around the world to make more money, in search of
high interest rates and currencies projected to rise. Basically useless – doesn’t add to AS

The world’s BoP is a zero sum: surpluses must be matched by deficits elsewhere. There is no specific
target for BoP: countries like China, Japan, Singapore are happy to run surpluses over a prolonged
period and accumulate forex reserves.

I + G + X = S + T + M. This is always true for any economy. In Singapore, I < S, G > T, therefore X > M

Causes of BoP deficit

Current account deficit:

1. Cyclical factors: cyclical fluctuations in NY, GPL of trading countries, changing demand for
country’s exports or imports
2. Structural factors: change in tastes and preferences, availability and/or prices of competitive
goods, changes in technology, shifts in comparative advantage
3. Exchange rate: rise in exchange rate makes exports more expensive elsewhere and imports
cheaper locally. Fall in export earnings leads to deficit
4. Government policies: increased protectionism by importing countries leads to deficits,
industrialization may require heavy importation of capital goods, leading to a deficit
5. Random factors that destroy the infrastructure of the economy (eg. War, natural disasters).
Increase imports to rebuild, exports fall due to destruction of industries

Capital / Financial account deficit:

1. Expected rate of return: if the expected rate of return falls relative to other countries, there is a
capital outflow or less capital inflow due to lower FDI
2. Fall in interest rates elsewhere would result in a short-term capital outflow, causing a deficit
 3. Expected movements in exchange rate: when exchange rates are expected to fall, domestic
currencies will be converted to foreign currency, leading to a capital outflow and a deficit. This is
a cyclical thing and is the main cause of the 1997 AFC

Floating Exchange Rate System: no government intervention and forex is determined by forces of
demand and supply. Balance of payments always in equilibrium, credit (inflows) are demand and debit
(outflows) are supply in the forex market. BUT there might still be a BoP problem: there might be a
current account deficit, which is then matched by a capital/financial account surplus

Fixed or Managed Exchange Rate System: government intervenes in the forex market to maintain a
fixed or managed float exchange rate. Persistent BoP deficit: forex rate above free market equilibrium
(and vice versa). This means the Central Bank is buying domestic currency and selling foreign currencies
to prevent a depreciation, leading to a fall in foreign reserves. This cannot go on indefinitely because the
stock of foreign official reserve assets is limited.

Consequences of a persistent BoP deficit

1. Rise in external debt under a fixed or managed exchange rate system: country might have to
borrow money
2. Fall in national output and employment
3. Unemployment in the domestic economy: may redirect investment toward countries that offer
lower labour costs or better investment opportunities

May or may not be a cause for concern: if it’s the result of the country buying inventory to produce
goods for export later it’s fine. If exports are not a key contributor to GDP it’s also less of a problem.

Consequences of a persistent BoP surplus

1. Inflation: current account surplus is ain injection of AD, which will increase NY. But if economy is
near full employment it’ll lead to demand-pull inflation
2. Retaliation: BoP must balance for the world as a whole, therefore unless countries with
persistently large surpluses reduce their surpluses, deficit countries will not be able to reduce
their deficits. This may result in them resorting to import controls, and is detrimental to world
trade
3. Dutch Disease: increase in revenues from natural resources  BoP surplus  appreciating
currency  exports more expensive  manufacturing sector less competitive
4. Employment opportunities: if the capital account surplus is due to a large inflow of FDI

Equity

This is a normative indicator and not really part of the four indicators but is still important. There’s no
easy measure for equity, usually we use the GINI coefficient – although it measures equality and not
really equity.

Singapore’s GINI coefficient is 0.463 as of 2013, comparable to HK. Japan/Germany/Nordic states: <0.3