Economic growth — common mistakes

In essays, clearly distinguish between short-run growth caused by increases in Aggregate Demand (AD) and long-run growth caused by increases in Long-Run Aggregate Supply (LRAS). Policies to achieve each are different.

On AD–AS diagrams, show actual growth as movement along SRAS or AD shift; show potential growth as LRAS shifting right. Examiners penalise confusing the two.

Yes. If actual growth, driven by aggregate demand, significantly outpaces the growth in potential output (LRAS), it creates an inflationary gap. This leads to demand-pull inflation, a likely worsening of the current account deficit as demand for imports rises, and other signs of an 'overheating' economy. Such growth is often unsustainable.

Not necessarily. While growth can lead to higher incomes and improved public services, it can also have significant costs. These include increased income inequality, negative externalities like pollution and congestion, depletion of non-renewable resources, and non-monetary costs such as increased stress and work-life imbalance. The desirability of growth depends on its nature and how its benefits and costs are distributed.

No. An increase in government spending (G) boosts aggregate demand (AD), which can cause short-run 'actual' growth if the economy has spare capacity. However, it only leads to long-run 'potential' growth if the spending increases the economy's productive capacity. For example, spending on infrastructure, education, or R&D subsidies shifts LRAS to the right. In contrast, spending on welfare benefits may boost AD but has a less direct impact on LRAS.