JC Economics Essay Standard of Living & Savings Model Answers
A sample question and full length answer on MACRO ECONOMIC INDICATORS, and its application to macroeconomic performance, household savings and Standard of Living (SOL).
Question
In 2020, there was a worldwide economic slow-down in many countries. In the case of Japan, it has been experiencing deflationary pressure for more than two decades. Despite this, it remains as one of the largest economies with a real Gross Domestic Product (GDP) per capita of US$40,146 and a gross savings of US$1.20 trillion in 2020. In comparison, Singapore real GDP per capita stood at about US$58,902 and its gross savings was US$69 billion.
(a) Explain whether real GDP per capita is a good comparison of standard of living (SOL) between Singapore and Japan. [10]
(b) Discuss the impact of an increase in household savings on the national income of S’pore. [15]
JC Economics Essay – S’pore Standard of Living (SOL)
Suggested Answer Part (a)
Introduction: Standard of living (SOL) refers to the level of well-being or welfare enjoyed by an average person or resident of a country. It comprises the material plus non-material well-being of the people in the economy. Real GDP per capita is usually used as the indicator for material SOL. The non-material aspect is, however, not accounted for by GDP. This essay aims to explain whether real GDP per capita is a good indicator to compare SOL over space.
4 main points:
Topic Sentence (usually involves the economic concept to be used)
Explain (the economic concept)
Exemplify (using examples)
(“answer the question)
1. Real GDP per capita is a good indicator to compare SOL over space GDP is defined as the market value of all final goods and services newly produced within the geographical boundaries of an economy in a given period of time (usually one year) and real GDP is GDP measured at constant prices or base year prices. Real GDP measures the physical quantity of output produced in the year. A larger real GDP value implies that there is more output, in terms of physical quantity, available for consumption.
Real GDP per capita refers to real GDP divided by population. It measures the amount of physical output per person in the economy. A larger number, as in the case of Japan, as compared to Singapore implies that the SOL of the average Japanese is lower than the average Singaporean.
2. Need to use PPP instead of comparing in US$ Although it is common to use the US dollar to measure real GDP per capita, it may not an accurate measure of SOL over space. This is because the market exchange rate (used to convert the domestic currency to US$) does not reflect the purchasing power of the respective currencies. To accurately reflect the purchasing power, it is important to use the Purchasing Power Parity (PPP) to measure real GDP per capita for comparison of SOL over space.
PPP refers to the number of currency units required to purchase an amount of goods and services. equivalent to what can be bought with one unit of currency of the base country, for example the US dollar (a commonly used base currency). By using the PPP conversion rate, the purchasing power can be accounted for. This is important as the cost of living in Japan may be significantly higher than in Singapore. In other words, the value of the Japanese real GDP per capita at US$41,480 may not be sufficient to cover the cost of living in Japan as compared to Singapore. The apparent smaller real GDP per capita in Singapore may actually indicate a higher SOL as Singaporeans are able to purchase. more goods and services instead.
3. Need to consider composition of GDP Another piece of information needed to more accurately measure SOL over space would be the composition of GDP. Real GDP only measures a country’s level of production, but may be a poor indicator of the consumption level by a resident. If most of the increase in the GDP was due to higher spending on capital goods (or non-consumption goods), such as defence, then we cannot say that the average citizen is better off, especially if these are produced at the expense of consumer goods.
Given the deflationary pressures in Japan, the government has undertaken a variety of policy tools to. boost the economy. This includes spending by the government on infrastructure in an attempt to revive the economy. The spending on infrastructure contributes to real GDP but it does not directly contribute to SOL
Also, the higher savings in Japan imply that less of the real GDP has been spent on consumption. As SOL refers to the ability to consume goods and services, the low levels of consumption in Japan, compared to Singapore would imply that the average Singaporean experiences a high SOL instead..
(Read: How much Singaporeans need for basic SOL?)
4. Need to consider non-material indicators of Standard Of Living : Other than the material aspect of SOL, we need to consider the non-material aspect for a more holistic comparison of SOL between Japan and Singapore. There could be significant differences in hours of work and leisure time in the 2 countries. Japan’s higher real GDP per capita could be due to the Japanese working harder and longer hours compared to Singaporeans. If this was the case, then the average Japanese may not experience a higher SOL than a Singaporean.
There is also a need to consider the quality of life through measures such as Human Development Index (HDI) and New Economic Welfare (NEW). These indicators will be able to account for non material aspects such as life expectancy, education attainment and pollution levels.
Conclusion
Real GDP per capita may be a good indicator to compare material SOL between Singapore and Japan. But more indicators need to be considered to obtain a more complete picture of the SOL in each country.
JC Economics Essay – Household Savings S’pore
Savings refer to the amount of disposable income that is not spent on consumption. An increase in housing savings can have different impacts on Singapore’s national income. This essay aims to discuss the possible impacts by analysing them in different time periods.
3 main points:
Topic Sentence (usually involves the economic concept to be used) Explain (the economic concept)
Exemplify (using examples)
(“answer the question)
1. SR Internal Impact on National Income
An increase in household savings (S) usually occurs during a recession when consumers are not optimistic and tend to save more for a rainy day. Since savings is a withdrawal from the circular flow of income, the immediate cost to the economy would be a fall in autonomous consumption. As consumption is a component of aggregate expenditure (AE), so a fall in consumption also means a fall in AE. There will then be a multiplied fall in national income.
Given an autonomous decrease in consumption, it will reduce the income for households employed by firms in the consumer goods industry. The household will spend less, depending on their marginal propensity to consume (MPC). This further lowers the income for households employed in other consumer goods industry who will also spend less on consumption. This cycle of a reduction in spending and re-spending on consumption will continue until the decrease in income becomes negligible. The eventual decrease in national income is several times the initial decrease in autonomous consumption. The multiplier, k, represents how many times the national income will fall with respect to the initial change in AE.
(Sketch a suitable diagram, as an exercise. You don’t have to use the Y=AE diagram as it is not in 9757 Syllabus.)
This can be illustrated Figure 1, where AE falls from AE to AE, and national income falls from Ye to Y₁. This implies a fall in economic growth for the Singapore economy. if the household savings increased in response to a change in income, this implies an increase in the value of the marginal propensity to save. This would mean that the multiplier, given by k = MPS MPT MPN would fall, mitigating the negative impact on national income. This can be illustrated on Figure 1, where there is a pivotal shift of AE from AE to AE). We see that the decrease in national income is smaller (from Ye to Y, instead of Y₁).
(Replace this Income-Expenditure diagram with AD-AS Approach.)
A short-run benefit an increase in savings brings about would be the lowering interest rates. With the supply of loanable funds through the increase in savings, the interest rate in the economy will fall. A fall in interest rates will imply a lower cost of borrowing, which should increase the level of consumption and investment in the economy. However, given the pessimistic outlook to the economy, the marginal efficiency of investment may fall and the level of investment in the economy may not increase as expected.
Hence, the leakage out of the circular flow of income would be permanent until the economy recovers and investors find it more profitable to invest. This is referred to as the Paradox of Thrift by Keynes, where savings (which is normally beneficial) to an economy may worsen a recession instead.
2. SR External Impact on National Income
An increase in savings would not only lead to a reduction in consumption of domestically produced but also a fall in the demand for imports. As imports is a component of AE (AE=C+I+G+(X-M)), the fall in import expenditure would increase AE. At the same time, the increase in savings can also have effects on the external economy through the lowering of interest rates. When interest rates falls, to a level relatively lower than the rest of the world, there could be a situation of a capital outflow. This would cause the Singapore dollar to depreciate. A depreciation of the Singapore dollar would cause the value of our exports to increase (assuming PED x >1) as it is now cheaper for foreigners to buy our goods and services. The increase in export revenue and decrease in import expenditure would lead to an improvement in our balance of trade, which in turn increases AE, from AE, to AEo. This would lead to a multiplied increase in national income, from Y₁ to Yo, as illustrated in Figure 1.
3. LR Impact on National Income
In the long-run, the increase in savings may become funds for increased investment when the economy recovers. The increase in investment will also bring with it an increase in the potential of the economy. With an increase in human and physical capital as well as technological progress, the productive capacity of the economy increases. This would lead to a potential growth in the economy. Together with the increase in aggregate demand (AD) from the increase in investment, this increase in the long-run aggregate supply (LRAS) would allow the economy to achieve sustained growth without a corresponding increase in price level.
(Sketch rightward shift of LRAS diagram, as practice.)
This can be illustrated in Figure 2, where the LRAS shifts rightwards from AS, to AS. National income increases from Yo to Y₁ (with the increase in AD) and then to Y, (with the increase in LRAS). Prices remained relatively constant at Po.
Evaluation:
Depends on the level of household savings
Depends on sources of savings: does it reduce important areas of spending, or does it significantly lead to less (loanable) funds for investment?
Depends on… ( More evaluation techniques in our Intensive Econs lessons.)
Conclusion
The impact of an increase in household savings would be an immediate fall in national income. The extent of the fall depends on the value of the multiplier. In Singapore’s case, the small multiplier, due to a high MPS, could mitigate the fall in national income. In the long-run, the increase in savings may lead to sustained economic growth when LRAS increases.
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