Virtual Economy Glossary (A-C)

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The Virtual Economy glossary (A-C)



Accelerator The accelerator theory suggests that the level of net investment will be determined by the rate of change of national income. If national income is growing at an increasing rate then net investment will also grow, but when the rate of growth slows net investment will fall. There will then be an interaction between the multiplier and the accelerator that may cause larger fluctuations in the trade cycle. For more detail on this interaction see the section on Sir Roy Harrod.
Ad-valorem taxes Ad-valorem taxes are taxes that are charged as a percentage of the value of the good or service. VAT is an example of an ad-valorem tax as it is charged at 17.5%.
Aggregate demand Aggregate demand is the total level of demand in the economy. It is the total of all desired expenditure at any time by all groups in the economy. The main groups who spend are consumers (consumption), firms (who spend on investment), government (government expenditure) and overseas (exports). Total aggregate demand is therefore:

AD = C + I + G + (X-M) where
C = consumption expenditure
I = investment expenditure
G = government expenditure
(X - M) = net exports (exports - imports)

Aggregate demand curve The aggregate demand curve shows the level of aggregate demand at every price level. It will always be downward sloping as there will be less demand at higher price levels. This is for similar reasons to a demand curve for a single product sloping downwards.

Aggregate demand curve

Aggregate supply Aggregate supply is the total quantity supplied at every price level. It is the total of all goods and services produced in an economy in a given time period. There is some dispute between Keynesians and Monetarists about what determines the level of aggregate supply. Keynesians argued that supply was determined by the level of aggregate demand, while classical economists followed Say's Law which argued that aggregate supply was determined by supply-side factors.
Aggregate supply curve The aggregate supply curve shows the amount that will be supplied by the firms in the economy at each price level. There is a lot of debate about the exact shape of the curve. Many classical economists and Monetarists argue that the shape differs between the short-run and long-run. In the short-run there may some increase in output if demand increases, but in the long-run any increases in demand will be inflationary.



However, Keynesians do not distinguish between the short-run and long-run. They believe in a curve more like:


Average propensity to consume (APC) The average propensity to consume is the proportion of income that is spent. If a person spends £4,000 of a £10,000 income, then the APC is 0.4.
Average rate of tax The average rate of tax is the total amount of income tax paid as a percentage of a person's income. For example if they earn £20,000 and have paid £2,500 in income tax, their average rate of tax is 12.5%. However, their marginal rate of tax will be 23% as that is the rate they will pay on the next pound they earn.


Balanced budget A balanced budget arises when the government receives the same amount of money from taxation as it is spending. Classical economists argued that this should always be the aim of government policy. Keynesians on the other hand said that in times of low economic activity the government should run a deficit (spending more than its revenue) to boost the economy and when the economy was booming they could run a surplus (spending less than revenue). In this way they could balance the budget in the long-run.
Balance of payments accounts The balance of payments accounts are a record of all the UK's trade with the rest of the world. They record all flows of money in and out of the UK. These flows might result from the sale of exports (an inflow or credit) or from the UK purchasing imports from overseas (an outflow or debit). They might also arise from other countries investing in the UK (inward investment - a credit), or from UK companies investing abroad (a debit). All flows of money are added together and grouped according to their type. The overall account is then called the balance of payments - principally because the total of outflows must be equivalent to the total of inflows. The balance of payments therefore balances!!
Birth rate The number of live births per 1000 of the population. The birth rate is also often called the 'crude birth rate'.
Budget The budget is the annual announcement of the government's fiscal policy changes by the Chancellor of the Exchequer. It usually takes place in March of each year. In the Budget the Chancellor will announce the tax changes he proposes for the following tax year, and also how the government plan to spend that revenue. He will also give the medium-term forecast for the economy. The Budget is then made law by the Finance Act after debate in Parliament.


Canons of taxation A set of criteria developed by Adam Smith that could be used to judge whether or not a tax was a 'good' tax. They were:
  1. The cost of collection must be low relative to the yield
  2. The timing and amount to be paid must be certain to the payer
  3. The means and timing of payment must be convenient to the payer
  4. Taxes should be levied according to ability to pay
Capital expenditure See government capital expenditure
Circular flow of income The circular flow of income is a model showing the flows of money around the economy. The economy is conventionally split into firms and households and the circular flow shows the movement of money between these groups. From households to firms there is a flow of consumption expenditure which results in a flow from firms to households of income. This income may be in the form of wages, interest or profit.
Contractionary fiscal policy See Deflationary fiscal policy
Contractionary monetary policy See Deflationary monetary policy
Convergence criteria The convergence criteria were the five conditions set that countries had to meet if they wanted to take part in full economic and monetary union. They were:
  1. Inflation - no more than 1.5% above the average inflation rate of the lowest 3 inflation countries in the EU
  2. Interest rates - the long-term rate should be no more than 2% above the average of the three countries with the lowest inflation rates
  3. Budget deficit - no more than 3% of GDP
  4. National debt - no more than 60% of GDP
  5. Exchange rates - currency within the normal bands of the ERM with no re-alignments for at least 2 years
Corporation tax Corporation tax is the tax that companies pay on their profits. Since April 1st 1999 the main rate of corporation tax has been 30%, but there are also lower rates for smaller companies.
Cost-push factors Cost-push factors are changes that affect the level of costs of a firm. These may then cause cost-push inflation. Cost push factors may be changes in wages, changes in the exchange rate which change the price of imported raw materials or perhaps changes in taxation.
Cost-push inflation Cost-push inflation occurs when a company's costs rise and to compensate they have to put their prices up. Cost increases may happen because wages have gone up or because raw material prices have increased.
Counter-cyclical demand management policies See demand management policies
Current expenditure See government current expenditure