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2281 · 4.1

The role of government — practice questions

Practice and worked examples for 2281 The role of government. Short previews only — attempt the full question in MarkScheme against the official scheme.

Worked example 1

An economy has: unemployment 8%, inflation 6%, current account deficit 4% of GDP, and Y below Yf.

(a) Identify the output gap type. (b) Recommend one fiscal and one monetary policy, explaining one conflict each creates. (c) Why might supply-side policy avoid some conflicts?

Show solution outline

(a) Output gap Y < Yf with 8% unemployment → negative (recessionary) gap — cyclical unemployment is elevated.

(b) Policies and conflicts Fiscal: Increase G or cut T → AD rises → unemployment falls ✓ but conflict with inflation (already 6%) and BOP (higher imports worsen deficit).

Monetary: Cut interest rates → C and I rise → AD rises → jobs improve ✓ but conflict with price stability — demand-pull inflation risk at 6%.

(c) Supply-side advantage Education, training, and infrastructure shift LRAS right → raises Yf and potential growth without boosting AD as aggressively → less inflationary and may improve competitiveness (helps BOP long run).

Worked example 2

The government of Econland is assessing its labour market performance. The following statistics have been collected for the year:

  • Total Population: 60 million
  • Employed persons: 35 million
  • Unemployed persons (actively seeking work): 2.5 million
  • Persons not in the labour force (e.g., retired, students, full-time carers): 22.5 million

(a) Calculate the total size of the labour force. (b) Calculate the unemployment rate. (c) If the government's target unemployment rate is 4%, what does your calculation suggest about the state of the economy?

Show solution outline

(a) Calculate the Labour Force The labour force consists of all individuals who are either employed or unemployed (and actively seeking work).

Formula: Labour Force = Employed + Unemployed Calculation: Labour Force = 35,000,000 + 2,500,000 = 37,500,000 Answer: The labour force in Econland is 37.5 million people.

(b) Calculate the Unemployment Rate The unemployment rate is the percentage of the labour force that is unemployed.

Formula: Unemployment Rate = (Number of Unemployed / Labour Force) × 100 Calculation: Unemployment Rate = (2,500,000 / 37,500,000) × 100 = 0.0667 × 100 = 6.67% Answer: The unemployment rate is 6.67%.

(c) Analysis against Target The calculated unemployment rate of 6.67% is significantly higher than the government's target of 4%. This indicates that the objective of low unemployment is not being met. The difference (2.67%) likely represents cyclical unemployment, suggesting the economy is operating below its full potential (negative output gap). The government might consider expansionary policies to stimulate aggregate demand and reduce this unemployment.

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