Explain how an increase in unemployment might lead to a loss of gross domestic product (GDP) and a budget deficit.

Discuss the view that there will always be a trade-off between the unemployment rate and the inflation rate.

Marks should be allocated according to the paper 1 markbands for May 2013 forward, part A.

Answers may include:

• definition of unemployment, GDP, budget deficit
• diagram to show aggregate demand (AD) and/or aggregate supply (AS) shifting to the left
• explanation of how higher unemployment might lead to a loss of GDP and a budget deficit, via the loss of tax revenue and increase in government spending
• examples of instances where rising unemployment has caused a loss of GDP and/or a budget deficit.

Marks should be allocated according to the paper 1 markbands for May 2013 forward, part B.

Answers may include:

• definition of trade-off, unemployment rate, inflation rate
• diagrams to show the short-run and long-run Phillips curves
• explanation of the view in terms of the short-run Phillips curve relationship
• examples of such a trade-off and/or absence of such a trade-off
• synthesis and evaluation (discuss).

Discussion may include: the view that there is no trade-off in the long-run (the long-run Phillips curve), the importance of supply-side improvements to the economy in achieving lower unemployment and inflation, criticisms of the statistical Phillips curve relationship, and discussion of the word “always”.

Although there were many very good responses to this question there was a significant minority who confused a budget deficit with a trade deficit. However, good responses were able to produce very precise and well explained argumentsin which the links were clearly explained. Good real-life examples were also used by higher achieving responses here.

In this part candidates often tended to describe the inverse relationship illustrated by the short-run Phillips curve rather than consider the trade-off referred to by the question and explain what that meant. Good responses embarked on a sophisticated review of relevant theory. Frequently Neoclassical and Keynesian concepts and perspectives were utilized to support responses. There was potentially a lot of theory that could be used and not all candidates achieved an appropriate balance of theory and synthesis.