4.2.5 Fiscal and Supply Side Policies

Question 1

Fiscal policy

Answer 1

Involves the manipulation of government spending, tax and the budget balance. Aims to stimulate growth and stabilise the economy

Question 2

Expansionary fiscal policy

Answer 2

Aims to increase AD, government increase spending or reduce tax. This worsens the government budget deficit

Question 3

How is expansionary fiscal policy shown on a diagram

Answer 3

Outward shift in AD

Increases GDP and price level

Question 4

Deflationary fiscal policy

Answer 4

Aims to decreases AD. Government cuts spending or raises taxes, which reduces consumer spending. Improves government budget deficit

Question 5

How can deflationary fiscal policy be shown on a diagram

Answer 5

Inward shift in AD

Lower GDP and price

Question 6

Limitations of fiscal policy

Answer 6

• government might have imperfect information
• time lag
• if the government borrows from the private sector, there are fewer funds available for the private sector and could lead to crowding out
• if there is a small multiplier there will be a small affect on AD
• if interest rates are high fiscal policy may not raise AD
• could lead to large debts, making it difficult to borrow in the future

Question 7

Difference between government deficit and debt

Answer 7

Debt is built up by continuous running of a deficit

Question 8

Budget deficit

Answer 8

When expenditure exceeds tax

Question 9

Direct taxes

Answer 9

Imposed on income and paid directly from tax payer to government (income tax, corporation tax, inheritance tax)

Question 10

How can fiscal policy influence AS

Answer 10

• reduction in tax encourages spending and investment
• government could subsidise training or spend more on education
• government could spend more on infrastructure

Question 11

Indirect tax

Answer 11

Imposed on expenditure on goods and services, they increase costs and therefore prices

Question 12

Ad valorem

Answer 12

Percentage taxes (VAT 20%)

Question 13

Specific taxes

Answer 13

A set tax per unit (58p per litre of petrol)

Question 14

Proportional tax

Answer 14

Where everyone pays the same proportion of their income

Question 15

Progressive tax

Answer 15

Richer people pay higher percentage (income tax)

Question 16

Regressive tax

Answer 16

Where poorer people pay a higher percentage of their income (ad valorem taxes like VAT)

Question 17

Current government expenditure

Answer 17

This is on goods and services which are consumed and last a short period of time (drugs)

Question 18

Capital government expenditure

Answer 18

Spent on assets, which can be used multiple times (roads or schools)

Question 19

Transfer payments

Answer 19

Welfare payments from the government e.g 
Job seekers allowance 
Income support 
Child benefit 
State pension

Question 20

Cyclical deficit

Answer 20

A temporary deficit which is related to the business cycle. A deficit may occur in a recession when the government is trying to stimulate the economy

Question 21

Structural deficit

Answer 21

Due to imbalance of revenue and expenditure of the government

Question 22

Consequences of budget deficits

Answer 22

• a fiscal deficit could be inflationary if AD rises
• more government spending leads to crowding out of the private sector
• could lead to increased interest rates

Question 23

Significance of national debt

Answer 23

• cost of borrowing increases
• government may have to raise interest rates to encourage investors to buy bonds
• could lead to higher taxes and austerity measures

Question 24

Role of office for budget responsibility

Answer 24

• provides analysis of UK’s finance
• produce 5 year forecasts
• judge the government’s performance against its fiscal targets
• they scrutinise tax and welfare spending
• they assess how sustainable public sector finances are in the long run

Question 25

Supply side policies

Answer 25

Aim to improve long run productive potential of the economy

Question 26

Pros and cons of supply side policies

Answer 26

✅ only policies that can deal with structural unemployment because the labour market can be improved by education
❌demand side policies deal better with cyclical unemployment
❌time lag
❌market based supply side policies could worsen distribution of income

Question 27

Examples of free market supply side policies

Answer 27

Tax cuts
Deregulation
Privatisation
Labour market reforms

Question 28

How can free market supply side policies increase incentives?

Answer 28

By reducing income and corporate tax, work is incentivised as well as spending and investment, long run productive potential increases

Question 29

How do free market supply side policies promote competition

Answer 29

By deregulating or privatising the public sector, firms can compete in a competitive market which helps improve economic efficiency

Question 30

How can free market supply side policies reform the labour market

Answer 30

Reducing the NMW will allow free market forces to allocate wages and the labour market should then clear

Question 31

Examples of interventionist supply side policies

Answer 31

Government spending on education
Industrial policies
Subsidising R and D

Question 32

Aims of free market supply side policies

Answer 32

To increase incentives
To promote competition
To reform the labour market

Question 33

Aims of interventionist supply side policies

Answer 33

To promote competition
To reform the labour market
Improve skills of the labour force
Improve infrastructure

Question 34

How can interventionist supply side policies help promote competition

Answer 34

A stricter government competition policy could help reduce monopoly power and ensure smaller firms can compete

Question 35

How can interventionist supply side policies reform the labour market

Answer 35

Subsiding then relocation of workers and improving availability of job vacancy information helps mobility of labour

Question 36

How can interventionist supply side policies improve skills of the labour force

Answer 36

Subsiding training lowers costs of production for firms. Spending more on healthcare improves quality of labour

Question 37

How can interventionist supply side policies improve infrastructure

Answer 37

Government spending on schools and roads