5.1 – Government Economic Policy

Question 1

What are some functions of the government?

Answer 1

To provide goods and services that are in the public interest. This will include public goods and merit goods.
To invest in national infrastructure (roads, railways, schools etc)
To support agriculture and other prime industries
To manage the macroeconomy
To help vulnerable groups of people in the society.

Question 2

What are the four macroeconomic objecctives of the government?

Answer 2

A low and stable rate of inflation– Inflation is the continuous rise in the average price levels. If prices rise too quickly it can negatively affect the economy because it can:

1. Reduce people’s purchasing powers
2. Cause hardships for the poor.
3. Increase business costs
4. Will make products more expensive than products of other countries with low inflation

A high and stable level of employment. If there is a high level of unemployment in a country, the following may happen:

1. The total national output will fall.
2. Government may have to give welfare payments to the unemployed, increasing public expenditure.

Stable and good economic growth. Economic growth refers to the gross domestic product (GDP) per head, More output means more economic growth. But if output falls over time (economic recession), it can cause:
1. Employment, incomes and living standards of the people will fall.
2. The tax the govt. collects from goods and services and incomes will fall
3. The revenues and profits of firms will fall.
4. New investments will be very low
A stable balance of international trade and payment. Economies export many of their products to overseas residents, and receive other incomes and investments from overseas by foreign investors. This will bring in more incomes and jobs into the economy.
Exports > Imports = Surplus Exports < Imports = Deficit
All economies try to balance this inflow and outflow of international trade and payments and try to avoid any deficits because:
1. It may run out of foreign currency to buy imports.
2. The value of it’s currency may fall against other foreign currencies.

Question 3

What are the two Demand Side Policies?

Answer 3

Fiscal Policy: This policy uses govt. spending and taxation to influence aggregate (total) demand which will eventually result in changes in the economic aims.

Monetary Policy: This policy uses interest rates and money supply to influence aggregate demand and thus make changes in the economic aims.

Question 4

What are the two types of Fiscal Policy?

Answer 4

Expansionary fiscal policy is where govt. spending is increased and tax is cut to increase aggregate demand. More govt. spending means more economic activity and usage of public and merit goods and less taxation means more money for consumers to buy products and less prices for products. All this will raise aggregate demand.

Contractionary fiscal policy is where govt. spending is cut and tax is increased to reduce aggregate demand. Less govt. spending will reduce economic activity and high taxes will result in higher prices and less disposable incomes for consumers. This will make a reduction in aggregate demand.

Question 5

What are the 2 types of Monetary Policy?

Answer 5

Expansionary monetary policy is where the govt. increases money supply and cut interest rates to increase aggregate demand. More money supply will mean more money being circulated among the govt, producers and consumers, increasing economic activity. Low interest rates will mean more people will resort to spending than saving, and businesses will invest in more money, as they will only have to pay little interest.

Contractionary fiscal policy cuts the money supply and increases interest rates to reduce economic growth. The opposite effect will take place- low economic activity.

Question 6

What are Supply-Side Policies?

Answer 6

These policies affect the supply in an economy, generally to increase output and thus economic growth

Question 7

What are the Supply-Side Policies?

Answer 7

Subsidies: more subsidies means more money for producers to produce more, thereby increasing aggregate demand.
Improving education and training: to improve the quality and quantity of labour ad increase output produced.
Privatization: transferring some public corporations to private ownership will increase efficiency and increase output.
Deregulation: removing burdens and unnecessary or difficult laws so that businesses can operate and produce more output with reduced costs.
Removing trade barriers: the govt. can reduce or withdraw import duties, taxes etc so that more resources/ goods and services may be imported.
Labour market reforms: making laws that would reduce trade union powers would reduce business costs and increase output. Also, restrictions on labour supply could be reduced, so more jobs will be open and increase output.

Question 8

What are the 3 possible economic conflicts?

Answer 8

Economic Growth & Full Employment VS Low and Stable Inflation:
A high rate of economic growth and low rates of unemployment will boost incomes of businesses and workers. This rise in income can cause firms to raise their prices- resulting in inflation.

Economic Growth & Full Employment VS A Balance Of Payments:
Once again as incomes rise due to economic growth and low unemployment, people will import more foreign products and consume less of domestic products. This will cause a rise in import values relative to export values and a margin for deficit may arise in the balance of payments

Economic Growth VS Full Employment:
In the long run, when economic growth is continuous, firms may start investing in more capital (machinery/equipment). More capital-intensive production will make a lot of people unemployed.