IB Economics Macroeconomics

The central bank's policy rate is the benchmark from which every mortgage, savings, and business loan rate moves, with a lag. Cut the rate and borrowing gets cheaper while saving gets less rewarding, so consumption and investment rise, shifting AD right and pushing up both real GDP and the price level. Raise the rate — the scenario tested most often in recent papers — and the opposite happens: AD shifts left, inflation eases, but growth slows as a side-effect. When the policy rate is already near zero, central banks switch to quantitative easing, buying government bonds to inject reserves directly into the banking system.

The reserve requirement ratio (RRR) is the minimum fraction of deposits a commercial bank must hold rather than lend out — a second, less-used lever separate from the interest rate. A LOW RRR means banks can lend out MORE of every deposit, so it increases credit creation, not decreases it. Required reserves are found by multiplying the RRR by total deposits, never by the reserves already held, and excess reserves are simply actual reserves minus that required amount. The money multiplier, $\dfrac{1}{RRR}$, shows the theoretical maximum expansion of the money supply per unit of new reserves — this is the calculation HL students meet most often on Paper 3.

GDP measures the output, income, or expenditure generated within a country's borders, while GNI adjusts for net income earned by nationals abroad — the better measure of what residents actually earn. Nominal GDP rises even with zero extra output whenever prices rise, so the GDP deflator is used to strip out that price effect and produce real GDP, the only figure worth quoting when comparing growth across years. Mixing up nominal and real growth is the single most common error in data-response answers.

Real GDP oscillates around a rising long-run trend in a repeating pattern of expansion, peak, contraction (recession — commonly two consecutive quarters of negative growth), trough, and recovery. The output gap measures the difference between actual and potential GDP: a positive gap means the economy is overheating with inflation risk, while a negative gap signals spare capacity and higher unemployment. A recession means the growth rate turns negative, not that the level of GDP collapses to zero.

Income inequality describes the uneven distribution of income, a flow, while wealth inequality concerns accumulated assets like property, shares, and savings, a stock — and wealth is almost always more unevenly distributed than income. Absolute poverty is a fixed threshold, such as the World Bank's $2.15/day PPP line, and can in principle be eliminated entirely. Relative poverty is defined against the median income of a society, typically below 50-60% of it, meaning it can persist or even rise even as everyone's living standards improve. Causes range from unequal ownership of factors of production and education gaps to globalisation pressures and regressive tax systems.