Question

1. How is economic growth measured? Why is economic growth important? Why could the difference between a 2.5 percent and a 3 percent annual growth rate be of great significance over several decades?

2. What are the effects of budget deficit and budget surplus on the market for loanable funds? How are these effects called? Explain the mechanism.

3. “Whenever currency is deposited in a commercial bank, cash goes out of circulation and, as a result, the supply of money is reduced.” Do you agree? Explain why or why not.

Answer 1

Many different measures are used to understand the growth of an economy. One measure that is commonly used and accepted is the real gross domestic product or real GDP. It accounts the total value of goods and services produced in an economy adjusted with inflation. Gross National Product (GNP), Gross National Income (GNI) are also some other measures used for the same purpose.
Economic growth is important because it stands for the standard of living, quality and efficiency of the economy etc. Increase in economic growth will result in increased ability to devote more resources to areas like health care and education. This will again boost the efficiency of the economy.
A lesser annual growth rate like 2.5 percent means the country will take more time to reach its steady state equilibrium and high standard of living. At the same time if the country is having 3 percent annual growth implies less time constraint to reach the steady state equilibrium.

2.Whenever there is a budget deficit the demand for loanable funds will increase because the
government will also start borrowing just like the other borrowers .The deficit also decreases the supply of loanable funds.
Whenever there is budget surplus there is increase in the supply of loanable funds,it reduces the rate of interest and the demand for loanable funds starts reducing.

3) The statement is not completely true. The effect on money supply depends on the types or liquidity of the deposits made in the bank. Primarily, these deposits leads to derived deposits which are loans given to the public. Derived deposits inject money into the market. Whereas time deposits are less liquid and absorb money from the economy. Therefore the statement is not applicable in all cases.