ECON 3.5-3.7: Government Intervention (Macroeconomic Policies)

Question 1

What are supply-side policies?

Answer 1

Supply-side policies are long-term government strategies used to increase the potential productive capacity of the economy by increasing the quality and/or quantity of factors of production.
Increases in the productive capacity fo the economy can only be achieved through an increase in the economy’s LRAS.

Question 2

Main goals of supply-side policies?

Answer 2

• Productive capacity
• Competition and efficiency
• Labour market flexibility
• International competitiveness (low inflation)
• Incentives to invest and innovate

Question 3

Define market-based supply-side policies.

Answer 3

Market-based supply-side policies focus on freeing up industries and improving market incentives in order to increase aggregate supply, thereby improving incentives to increase investments, productivity, and work.
They are designed to make markets work more efficiently. This approach gives the private sector more autonomy in the allocation of resources.

Question 4

Market-based supply-side policies encouraging competition: deregulation

Answer 4

• reduction or removal of statutory barriers (government rules and directives) to entry into certain industries, with the intention of creating more competition and greater efficiency
  > promotes healthy competition, increasing supply and productive efficiency (lower prices and greater choice for consumers)
  > reduces costs for govt (bureaucracy and admin) - can spend money elsewhere
  e.g. 1970s US airline industry

Question 5

Market-based supply-side policies encouraging competition: privatization

Answer 5

• form of supply-side policy involving the sale or transfer of public sector assets to the private sector (e.g. state-owned enterprises, govt housing stocks)
  e.g. UK Royal Mail 2006
  > improves competition, efficiency, and productivity
  > decreases govt expenditure on maintenance and costs to taxpayers
  > raises one-off revenues from privatization for govt
  > allows govt to earn corporate taxes
  % results in opportunity cost of the loss of social benefits that state-owned enterprises would provide (e.g. social housing, postal services, public transportation)

Question 6

Market-based supply-side policies encouraging competition: trade liberalization

Answer 6

• reduction or removal of trade barriers, such as tariffs and quotas, thereby increasing competition, productivity, and efficiency in international markets
  > more competition and greater efficiency in trade
  > promotes FDI, freer movement of capital flows between countries

Question 7

Market-based supply-side policies encouraging competition: anti-monopoly regulation

Answer 7

Laws that control or limit the restrictive practices and market power of dominant firms in an industry:
- govt investigations (think competition law)
- price controls to limit monopolies’ control over prices
- regulations of mergers and takeovers to prevent growth of firms (into anti-competitive monopoly powers)
e.g. merger btwn Sainsbury’s and Asda in UK was blocked
> used to promote/enforce competition to benefit consumers in these targeted industries

Question 8

Labour market policies/labour market reforms?

Answer 8

measures and reforms developed to create greater flexbility and efficiency in the labour market

Question 9

Market-based supply-side policies for the labour market: reducing the power of labour unions

Answer 9

• organizations aiming to protect the interests of worker members (legally recognized as such)
• labour unions - are often criticized for causing labour market imperfections.
  
  • For instance, an increase in pay and benefits combined with reduced working hours will improve the terms of employment for workers, but increases costs for employers.
  • Or, the imposition or increase of minimum wage can create inefficiencies in the labour market and cause domestic firms to be uncompetitive.

Question 10

Market-based supply-side policies for the labour market: reducing unemployment benefits

Answer 10

• Unemployment benefits are welfare transfer payments made by a government to support people who are willing to work but cannot find employment.
• Generous welfare payments in the form of unemployment benefits may give certain people an incentive to not work. By reducing or removing these benefits, the government can create incentives for the unemployed to seek employment.
• govt can increase difficulty for people to qualify or claim unemployment benefits.
  > improves flexibility and efficiency in labour markets

Question 11

Market-based supply-side policies for the labour market: abolishing minimum wages

Answer 11

• Minimum wage is the lowest rate of pay that firms must pay to their employees per time period, as dictated by the government (form of a price floor).
• raises costs for employers, negatively impacting profits in the LR and reducing the level of real national output and employment in the economy

Question 12

Incentive-related policies?

Answer 12

a form of market-based supply-side policies that create greater incentives to work, namely cutting personal income tax and business taxes. They are designed to reduce the level of employment in an economy, thereby increasing its national output in the long run.

Question 13

Incentive-related supply-side policies: personal income tax cuts

Answer 13

• form of direct tax levied on the total earnings of an individual after certain tax allowances are considered.
• reducing personal income tax can create incentives for individuals to seek employment opportunities and work
  e.g. HK has greater incentives (personal income tax btwn 2-17%)

Question 14

Incentive-related supply-side policies: cuts in business tax and capital gains tax

Answer 14

• Reducing business taxes can create incentives for firms to invest by reducing the financial risks and returns from investments.
  
  • A cut in corporation taxes, which is imposed on the level of company profits, allow frism to retain a greater propotion of their profits. This helps in the creation of more wealth, growth, and employment in the economy.
  • A cut in capital gains taxes, which is imposed on the profit earned on a fixed asset once it’s sold, encourages risk-taking and investments in the economy, such as the purchase of shares, land, and commercial property.
    e.g. HK with lower business tax rates, no CGT, and no tax levied on dividends or capital gains from holding shares compared to Sweden

Question 15

Interventionist supply-side policies?

Answer 15

Deliberate attempts by the government to deal with market imperfections in the economy in order to increase the productive capacity of the economy.