Impact of macroeconomic policies on businesses: formula sheet

Key formulas

Real GDP growth rate

g = (Real GDP this year − Real GDP last year) ÷ Real GDP last year × 100

Use real, not nominal, GDP so that price changes do not distort growth.

Inflation rate

Inflation = (CPI now − CPI a year ago) ÷ CPI a year ago × 100

Measures the annual rise in the general price level.

Unemployment rate

Unemployment rate = Unemployed ÷ Labour force × 100

Labour force = employed + unemployed. People not looking for work are outside it.

Current account balance

Current account = Exports of goods and services − Imports of goods and services + Net primary income + Net transfers

A deficit means the country spends more abroad than it earns from abroad. It is financed by the capital and financial account.

Government budget balance

Budget balance = Government revenue − Government spending

A negative figure is a deficit. Fiscal stance is expansionary if spending rises or taxes fall.

Objective-instrument pairing rule

One objective → at least one instrument; one instrument → several effects

Use this to structure answers. Always name side effects and conflicts.

Budget balance

Budget balance = Government revenue − Government spending

A negative value is a deficit. A positive value is a surplus.

Fiscal deficit as a share of GDP

Deficit ratio = (Deficit ÷ GDP) × 100%

Used to compare deficits across years and countries.

Simple spending multiplier

k = 1 ÷ (1 − MPC), where MPC is the marginal propensity to consume

Holds in a simple model with no taxes or imports. With taxes and imports it is smaller: k = 1 ÷ (1 − MPC(1 − t) + m).

Change in income from a spending change

ΔY = k × ΔG

Gives the total change in national income in the simple model.

After-tax profit

After-tax profit = Pre-tax profit × (1 − corporate tax rate)

Shows the direct effect of a corporate tax change on profit.

Crowding out (rule in words)

Higher deficit → more government borrowing → higher interest rates → lower private investment

A tendency, not a certainty. It depends on spare capacity and on the central bank's response.

Expansionary monetary policy chain

Lower repo rate → lower lending rates → higher investment and consumption → higher aggregate demand

Used to fight weak growth or recession. Inflation may rise as a side effect.

Contractionary monetary policy chain

Higher repo rate → higher lending rates → lower investment and consumption → lower aggregate demand

Used to control inflation. Growth and profits in rate-sensitive sectors may fall.

CRR and lending capacity

Funds available to lend ≈ Deposits × (1 − CRR), before other constraints

A simplified view. Raising CRR reduces the cash banks can lend. SLR and other rules also limit lending.

Present value of a project

PV = Σ Cₜ ÷ (1 + r)ᵗ

A higher discount rate r lowers PV, so fewer projects have a positive NPV.

Real interest rate (approximate)

Real rate ≈ Nominal rate − Expected inflation

Firms respond to the real cost of borrowing, not only the headline rate.

Effect on AD-AS

Supply-side policy → LRAS shifts right → higher potential output and lower price level (other things equal)

Draw the LRAS curve shifting right. Say that the effect is long run.

Unit cost

Unit cost = Total cost ÷ Output

Better productivity or lower input costs reduce unit cost, which is the main route to competitiveness.

Labour productivity

Labour productivity = Output ÷ Number of workers (or hours worked)

Training, technology and infrastructure raise this. Higher productivity lowers unit labour cost if wages rise less.

Unit labour cost

Unit labour cost = Wage per worker ÷ Output per worker

Falls if productivity grows faster than wages.

Rupee price of foreign currency

Rupees = foreign amount × exchange rate (₹ per unit of foreign currency)

Use this to convert export revenue or import cost into rupees.

Direction of change

Rate (₹ per $) rises = rupee depreciates; rate falls = rupee appreciates

Check the quote direction before reasoning. Quoting $ per ₹ reverses the signs.

Percentage change in the rate

% change = (new rate − old rate) ÷ old rate × 100

Applied to ₹ per $ quotes, positive means depreciation of the rupee.

Tariff effect on domestic price

Domestic price of import = world price (in ₹) × (1 + tariff rate)

Assumes a simple percentage (ad valorem) tariff fully passed through to buyers.

Marshall-Lerner condition

Depreciation improves the trade balance if |PED exports| + |PED imports| > 1

Holds in the long run when elasticities are high enough. Short-run elasticities are usually lower, which can give a J-curve.

Inflation rate

Inflation rate (%) = (CPI this year − CPI last year) ÷ CPI last year × 100

Use the same index and base. Always divide by the earlier year's value.

Unemployment rate

Unemployment rate (%) = Unemployed ÷ Labour force × 100

Labour force = employed + unemployed. Do not divide by the total population.

Real value

Real value = Nominal value ÷ Price index × 100

Deflate nominal figures to remove price changes. Real growth ≈ nominal growth − inflation (approximation for small rates).

Real interest rate

Real interest rate ≈ Nominal interest rate − Expected inflation

Approximation. The exact form is (1 + i) ÷ (1 + π) − 1.

Expectations-augmented Phillips curve

π = πᵉ − β(u − uₙ)

π is inflation, πᵉ expected inflation, u unemployment, uₙ the natural rate, β > 0. When u is below uₙ, inflation exceeds expectations.

Phases of the cycle

Expansion → Peak → Contraction → Trough

Recession is usually taken as two or more consecutive quarters of falling real GDP.

Quick revision

• Main objectives: stable prices, sustainable growth, low unemployment and a sound external position.
• Fiscal policy uses government spending and taxation; monetary policy uses interest rates and money supply or credit.
• Expansionary fiscal policy raises aggregate demand through higher spending or lower taxes, but may raise borrowing.
• Higher interest rates raise borrowing costs, reduce investment and consumer spending, and tend to lower inflation.
• Lower interest rates help indebted firms and demand-sensitive sectors, but can add to inflation if demand is already strong.
• Supply-side policies aim to raise productive capacity and lower costs, and their effects usually take years.
• A weaker domestic currency helps exporters and raises import costs; a stronger currency does the opposite.
• Tariffs and quotas protect domestic producers but raise input and consumer prices and may invite retaliation.
• Inflation can raise costs and uncertainty; unanticipated inflation is more damaging than anticipated inflation.
• The business cycle moves through expansion, peak, contraction and trough, and different firms are hit at different phases.
• Always mention time lags, trade-offs and which firms are affected, as this is what turns a description into evaluation.

Common mistakes

• Listing instruments as objectives, such as writing that cutting interest rates is an objective. Fix: Ask: is this an end or a means? Ends are growth, price stability, jobs and external balance. Means are taxes, spending, interest rates and regulation.
• Using nominal GDP to measure growth. Fix: Use real GDP, or deflate nominal GDP by a price index, before calculating growth.
• Confusing the budget deficit with the public debt. Fix: Deficit is a flow in one year. Debt is the stock built up over many years.
• Saying expansionary policy always raises profits. Fix: Add the limits: crowding out, higher future taxes, inflation and time lags. State what the outcome depends on.
• Confusing monetary policy with fiscal policy. Fix: Monetary: central bank, interest rates and money supply. Fiscal: government, taxes and spending.
• Saying a higher repo rate raises business investment. Fix: A higher repo rate raises borrowing costs and the discount rate, which lowers investment.
• Treating a tax cut or interest rate cut as always supply-side. Fix: Ask whether the aim is to change incentives and capacity (supply-side) or to boost spending in the short run (demand-side). A tax cut can be either, depending on the stated aim.
• Saying effects are immediate. Fix: State that supply-side effects take years, as skills, infrastructure and investment build up.
• Saying depreciation always helps the economy or every exporter. Fix: Check whether the exporter uses imported inputs. Higher input costs can offset the gain, and elasticity decides the volume response.
• Mixing up the direction of the quote. Fix: Always write the quote first. A rise in ₹ per $ is rupee depreciation.

Exam tips

• In MCQs, sort each option into objective or instrument first. This removes wrong answers fast.
• For written answers, use a fixed pattern: objective, instrument, transmission, side effect, business impact.
• Always show at least one conflict between objectives. Examiners reward evaluation.
• When given figures, calculate the rate first, compare it with the target, and then comment.
• Name the type of problem, demand-led or supply-led, before choosing the instrument.
• Always state the direction first, then the channel, then the limit. This structure earns marks in written answers.
• For MCQs, watch the wording: deficit versus debt, and expansionary versus contractionary.
• If a calculation gives tax or import rates, switch to the full multiplier formula and show it.