4.3, 4.4, 4.5 Fiscal, Monetary & Supply-side Policy

Question 1

Describe the Government Budget

Answer 1

• Government revenue vs expenditure (balanced, deficit, surplus)
• Financed through public sector borrowing (added to public debt)

Question 2

What are the different areas governments spend on?

Answer 2

• Current expenditures: daily payments needed to run government/public sector (wages)
• Capital expenditures: infrastructure investments
• Transfer payments: no goods/services exchanged (subsidies, unemployment benefits, etc)

Question 3

What are the reasons for government intervention in markets?

Answer 3

Question 4

What are the different types of taxation?

Answer 4

• Direct (on income/profits, paid directly to government)
• Indirect (on spending, less one spends the less tax paid)
• Progressive (higher the income, higher the taxes)
• Regressive (lower the income, higher the taxes)
• Proportional (same percentage of income is taxed)

Question 5

What are the six principles of ‘good’ taxes?

Answer 5

• Simple to pay
• Fair (progressive/proportional)
• Convenient (easy/provide choice)
• Efficient
• Fit for purpose (no unwanted side effects)
• Flexible for economic changes

Question 6

How is total (aggregate) demand calculated?

Answer 6

Household consumption + firms’ investment + government spending + (exports - imports)

Question 7

How do changes to fiscal policy affect total (aggregate) demand?

Answer 7

A chain of consequences through:
- Household consumption
- Firms’ investment

Question 8

What are the strengths of fiscal policy?

Answer 8

• Spending can be targeted on specific industries
• Short time lag
• Redistributes income (taxes)
• Reduces negative externalities (taxes)
• Economic growth from investment

Question 9

What are the weaknesses of fiscal policy?

Answer 9

• Policies fluctuate between new elected governments, long term projects suffer
• Increased spending –> deficits & debt –> repaid with austerity
• Conflicts between objectives (cutting taxes increase growth and inflation)

Question 10

Define monetary policy

Answer 10

• Adjusting the money supply as to influence total (aggregate) demand
• Can be expansionary (generate economic growth) or contractionary (slow economic growth/inflation)

Question 11

What are the three main instruments of monetary policy?

Answer 11

• Interest rates
• Quantitative easing (increase supply of money)
• Exchange rates

Question 12

What are the strengths of monetary policy?

Answer 12

• Independent from politics
• Can consider long-term
• Targets inflation, maintains stable prices
• Depreciation can increase exports

Question 13

What are the weaknesses of monetary policy?

Answer 13

• Conflicting goals (lower rates –> economic growth and inflation)
• Time lags
• Firms/producers may not responds to lower interest when confidence is low

Question 14

Define supply-side policy

Answer 14

Aims to increase production potential by increasing quantity/quality of the factors of production (outwards shift on PPC)

Question 15

What impact does supply-side policy normally have on the five macroeconomic aims?

Answer 15

• Increase in economic growth
• Disinflation (greater supply, lower prices)
• Less unemployment (more workers required)
• Exports increase (lower prices)
• Redistribution worsens (lower wages, tax revenue falls)

Question 16

List different types of supply-side policy

Answer 16

• Education/training
• Labour market reforms (decrease wages so more workers can be hired)
• Lower taxes
• Deregulation
• Privitisation

Question 17

What are the strengths of supply-side policy?

Answer 17

• Increase rate of growth
• Reduce inflation
• Often reduce unemployment
• Increase value of net exports

Question 18

What are the weaknesses of supply-side policy?

Answer 18

• Distribution of income worsens
• Expensive to implement
• Time lags
• Long term so vulnerable to changes in government
• Vested interests (e.g. privatisation)