Fiscal, Monetary and Supply Side Policies Flashcards
Policy instruments?
Tools governments use to implement their policies, such as interest rates, rates of taxation, levels of government spending
Budget?
Government’s spending and revenue plans for the next year
Fiscal Policy?
Decisions about government spending, taxation and levels of borrowing that affect aggregate demand in the economy
Why may a Government impose taxation?
- To pay for public sector services
- To discourage certain activites
- Help controls AD
- The distribution of wealth in the economycan be made fairer.
Direct Taxes?
Taxes levied on the income earned by firms and individuals
Examples of Direct Taxes?
Income Tax Social Insurance Taxes - imposed on peoples income and used specifically for pension's benefits and health care Corporation Taxes Capital Gains Tax Interitance Tax
Indirect taxes?
Taxes levied on spending, such as VAT
Value added Tax?
Tax on some goods and services - businesses pay value-added tax on most goods and services they buy and if they are VAT registered, charge value-added tax on the goods and services they sell
Examples of Indirect Taxes?
Sales Tax Duties Customs Duties Council Tax Business Rates Stamp Duties
Examples of Environmental Taxes?
Landfill Tax - imposed on the disposal of waste in landfill sites. The charge is usually linked to the weight of waste dumped in a landfill site
Climate Change Levies are used to help countries. It is paid mainly by the suppliers of electricity, gas and coal
Aggregates Levy - Tax on sand, gravel and rock that is dug from the ground. Designed to reduce the environmental damage cause by quarrying
Fiscal Deficit?
Amount by which government spending exceeds government revenue
Fiscal Surplus?
Amount by which Government revenue exceeds government spending
National Debt?
Total amount of money owed by a country
Impact of a Fiscal Deficit?
National Debt grows –> Have to pay back more –> This is an opportunity cost (you could be spending money elsewhere)
Debt gets passed onto future generations
When analysing the size of the fiscal deficits, it is more important to focus on the size of the deficit in relation to the nation’s GDP
Contractionary Fiscal Policy
CONTRACTIONARY FISCAL POLICY is a fiscal measure that helps to slow down an economy and reduce aggregate demand. Examples include increasing taxation and decreasing government expenditure.
3 types of Taxation
Progressive Taxation: used to INCREASE equality e.g. income tax
A tax where the higher the income of the taxpayer, the larger the percentage of their total income paid in tax.
Proportional Taxation:
A tax where the percentage of total income paid in tax remains the same at different income levels.
Regressive Taxation: may lead to LOWER equality e.g. excise duty on petrol
A tax where higher income earners pay a lower percentage of their income in tax compared to lower income earners
Impacts of Fiscal Surplus
Can invest it in a number of things
Impacts of Fiscal Policy on Inflation?
Contractionary Fiscal Policy can be used to reduce inflation. If it is thought that inflation is being caused by aggregate demand
Impacts of Fiscal Policy on Inflation?
Contractionary Fiscal Policy can be used to reduce inflation. If it is thought that inflation is being caused by aggregate demand.
Impacts of Fiscal Policy on Economic Growth?
Expansionary FIscal policy can be used ti help stimulate economic growth.
Increases in Government expenditure will increase aggregate demand.
Economic growth is more likely to result from extra government expenditure on capital projects, such as new schools etc:
Impact of Fiscal Policy on Unemployment?
Expansionary Fiscal Policy can help to reduce unemployment
Again increases in governement expenditure and tax cuts can help to stimulate demand.
To meet this demand firms will have to produce more.
This means more staff will be taken on an unemployment will fall
Impact of Fiscal Policy on Current Account Deficit?
Fiscal Policy might be used to help influence the balance on the current account. For example, if there is a large deficit on the current account, contractionary fiscal policy will help reduce aggregate demand, This will help to reduce the demand for imports
Impacts of Fiscal Policy on the Environment?
Taxes such as landfill tax etc: are used to reduce environmental damage
What is Monetary Policy?
Use of interest rates and the money supply to control aggregate demand in the economy
Money Supply?
Amount of money circulating in the economy
Base rate?
Rate of interest set by government or regional central banks for lending to other banks, which in turn influences all other rates in the economy
Mortgage?
Legal arrangement where you borrow money from a financial institution in order to buy land or a house, and you pay back the money over a period of years; if you do not make your regular payments, the lender normally has the right to take the property and sell it in order to get back their money
Rate of Interest?
Price of Borrowing money
Why are there different Interest Rates around the World?
Different banks charge different rates as they compete with each other
Rates are higher if money is borrowed without security. For Example, the rate charged on a mortgage to buy a house will be lower than the rate charged on an unsecure loan to pay for a holiday.
What do Central Banks do ?
Implement the government’s monetary policy and regulating the banking system
Acting as a lender of last resort to commercial banks
Controlling Inflation and stabilising a nation’s currency
Setting Interest Rates
Impact of Monetary Policy (Interest Rates) on Inflation?
Inflation would be lower if the interest rates are high. This is because high interests slow down the speed at which the money supply is growing.
Borrowing falls and the money supply grows less quickly
Reduces AD
Impact of Settling IR on Unemployment?
A government might use lower IR to reduce unemployment
If IR are cut –> Increase in demand for loans –> Total spending by firms and households would increase –> Firms need to recruit more staff so they can meet this demands
Impact of Settling IR on Economic Growth?
Monetary policy might be used to help smooth out the small variations in the economic cycle. For example, if a country’s economy is in a recession they may make IR much lower to increase demand for loans and therefore total spending etc:
The speed at which money supply is growing increases
Impact of Settling IR on The Current Balance?
To reduce a deficit, a government might decide to tighten monetary policy . This would lower aggregate demand and reduce demand for imports.
However, if interest rates are raised, the exchange rate might also increase. This would would make exports more expensive, imports cheaper and worsen the current balance .
The Overall effect on the current balance when settlign interests rates depends on the following:
The Income elasticity of imports –> If demand for imports were income elastic, higher interest rates would reduce demand for them. This would improve the Current Account Balance
The strength between the link of interest rates and exchange rates: if the link is strong, higher interest rates will raise exchange rates. Exports will become expensive and imports will become cheaper. The Current Balance would worsen
The Price Elasticity of demand for imports and exports: If they are both price elastic and the exchange rate does rise when interest rate rise, the imports become cheaper and exports will be dearer.
This would worsen the Current Account Balance
What is a boom?
Time when business activity increase rapidly, so that the demand for goods increases, orices and wages go up, and unemployment falls
What is a boom and bust?
When an economy regularly becomes more active and succesful and then suddenly falls
What is inflation?
Rate at which prices rise, a general and continuing rise in prices
What is Macroeconomics?
Study of large economic systems such as those of a whole country area of the world
What are the Macroeconomic Objectives?
Reducing Unemployment
Protecting the Environment
Balance of Payments
Redistribution of Income
Controlling Inflation
Economic Growth
Economic Growth?
Increase in the level output by a nation
National Income?
Value of income, output or expenditure over a period of time
Why is Economic Growth Desirable?
If the economy is producing more –> businesses are more profitable and share prices rise –> easier for businesses to raise more capital and employ more workers –> Incomes Rise –> Spend more money on goods and services –> Even More Economic Growth
GDP?
Market Value of all final goods and services produced in a period, an internationally recognised measure of national income
Nominal GDP?
The value of goods and services produced by a country in a given period of time
Real GDP?
The value of goods and services produced by a country, having been adjusted for inflation
GDP per Capita?
Total Value of output produced in an economy over a period of time which is adjusted for inflation and expressed per head of population
Total Growth in GDP
The % change in the value of GDP over a period of time
Economic Cycle?
Periods of time where economic growth fluctuates.
Booms?
Peak of economic cycle where GPD is growing at its fastest
Downturn?
Period in the economic cycle where GDP grows, but more slowly
Recession?
Period of temporary economic decline which is identified by a fall in GDP for 2 consecutive quarters
Recovery?
Period in the economic cycle where GDP starts to rise again. Businesses and consumers regain their confidence and economic activity is on the increase.
Overheat?
When demand is rising too fast causing rpices to rise, a situation that governments might try to rectify by raising taxes or when the central bank might try raising interest rates to curb demand
Unsustainable Growth?
Economic Growth that is not possible to sustain without causing environmental problems
Human Capital?
Refers to the level of skill and education of the workforce
What does it mean when the percentage change in real GDP is greater than 0?
Economy is Growing
If the percentage in real GDP is less than 0?
The economy is shrinking
How is GDP measured?
Output Measure - Total Value of the goods and services produced by all sectors of the economy
Expenditure Measure- The Value of the goods and services brought by households and by government, investement in machinery and buildings
Income Measure- the Value of income generated mostly in terms of profits and wages
What is GDP used for?
Settling Interest Rates- If prices are rising too fast, the bank could increase interest rates to try and control them
Planning Economic Policy - If Economy is Shrinking the amount the gov. gets from taxes decreases
Compare Growth between different countries
Limitations of GDP?
Hidden Economy –> Doesn’t capture Unpaid Work in official figures (caring for an elderly relative)
Inequality- GDP doesn’t tell us how income is split across a population. A rising GDP could result from the richest segment getting richer
GDP doesn’t mean higher standards of living (GDP often will increase in war due to increased spending)
Doesnt take into account well being
What other Limitations are there of using GDP as a measure of economic growth?
Inflation Population Changes Statistical Errors Home Produced Goods Hidden Economy External Costs
Why are Population Changes a limitation to using GDP as a measure if Economic Growth?
An Increase In Population –> Increase Demand and Increased Workforce etc: –> Higher GDP
Doesn’t tell u the standrads of living in the country
Why is Inflation a limitation to using GDP as a measure of Economic Growth?
Inflation can make it appear that GDP has risen when actually it might not have
Why are Home Produced Goods a limitation to using GDP as a measure of Economic Growth?
Some goods and services are not Traded and therefore there is no record of these transactions taking place. National income will be understated
Why is the Hidden Economy a limitation to using GDP as a measure of Economic Growth?
GDP figures become innacurate
Why is External Costs a limitation to use GDP as a measure of Economic Growth?
Combustion of fossil fuels –> Good for economy
Bad for the environment
What happens when their is Economic Boom?
High Confidence Increasing Income Increasing Spendng/ Demand Low Unemployment High Inflation High Profits High Investment
What happens during Recession?
Low Confidence Low Spending Low Income Low Business Profit High Unemployment Low SoL High Bankruptcies
What happens during Downturn?
Falling Confidence Falling Spending Income and Unemployment Rising at a slower rate Falling Inflation Investment Rising at a slower rate
deflation?
Period where the level of AD is falling
CPI?
measure of the general price level
Every Month, the government records the prices of about 600 goods and services purchased by over 7000 families.
This average prices is then converted into an index number
Retail Price Index?
Measure of the general price level, which includes house prices and council tax
Demand Pull Inflation?
Inflation caused by too much demand in the economy relative to supply
What causes Demand Pull Inflation?
- Rising Consumer spending encouraged by tax cuts or low Interest Rates
- Sharp increases in Government spending
- Rising Demand for resources by firms
- Booming demand for exports
What is Disinflation?
Disinflation is a decrease in the rate of inflation – a slowdown in the rate of increase of the general price level of goods and services in a nation’s gross domestic product over time.
Cost-Push Inflation?
Inflation caused by rising Business Costs
What is the relationship between Inflation and interest rates?
nflation may be caused when households, firms and the governmnet borrow more money from banks to fund extra spending. This adds to the money supply because there are now more bank deposits. The extra money lent by the bank creates more demand and prices are driven up. This type of inflation is more likely to increase when interest rates are low because consumers would have to pay back less
Impacts of Inflation?
High Prices –> LOW PPP
.High Wages due to High Prices. Firms increase Prices so Workers demand Higher Wages (Cycle repeats)
.Lower Exports due to higher prices
.Reduced Unemployment in order to achieve output needed because of the increased aggregate demand (Demand-Pull Inflation)
.Increased Menu Costs (In resturants you have to update the increased prices)
.Increased Shoe leather costs
.Uncertainty (How can a supplier make profit if it doesn’t what it’s price is going to be)
.Decreased Consumer Confidence
.Decreased Investment (We don’t know how Inflation changes prices)
Monetarists?
Economists who believe there is a strong link between growth in the money supply and inflation
Interest Rates?
Price Paid to lenders for borrowed money; it is the price of money
Purchasing Power of Money?
Amount of goods and services that can be bought wit a fixed sum of money
Menu Costs?
Costs to firms of having to make repeated price changes
Shoe Leather Costs?
Costs to firms and consumers of searching for new suppliers when inflation is high
Hyperinflation?
Very high levels of inflation; rising prices get out of control
Transactions?
Payment, or the process of making one
Definition of Unemployment?
People who are not working who want a job but cannot find work
How do you measure Unemployment?
Labour Force Survey organised by the International labour Organisation
Over 100,00 people in 40,000 households are surveyed every month.
Problems with ILO survey?
International Comparisons are different because the way that unemployment is measured varied widely between countries
Advantages of Labour Force Survey?
More People will admit to employment than claim benefits
Advantages of Claimant Count?
Broad Measure
Easy and Quick to Measure
Disadvantages of Labour Force Survey?
Only once every 3 months
Disadvantages of Claimant Count?
Some can’t claim benefits (they have savings or a partner who earns money)
Some people won’t claim it (pride/ego)
What is Claimant Count?
A way of measuring Unemployment
This is calculated using the number of UK workers claiming the Job seekers allowance
Always lower because people under 18 or over 65 can’t claim it
What is Cyclical Unemployment?
When Unemployment is caused by a recession
Falling demand for goods and services –> fall in derived demand for labour
What is the solution to cyclical unemployment?
Training Programmes so people can find work in the down season
What is Seasonal unemployment?
Demand for some professions will fluctuate according to the time of the year –> Unemployment during seasons where demand is low
Solutions to Seasonal Unemploment?
Training Programmes so people can find work in the down season
What is Frictional Unemployment?
When People are short term unemployed when moving between jobs or leaving education
Solution to Fricitional unemployment?
Job centres and Websites which can provide information about jobs to unemployed
What is Structural Unemployment?
Mismatch between the skill of workers and industry demands
What are the three main types of Structural Unemployment?
Sectoral- When the economy moves from one sector to the next and some workers don’t have the skill for the new sectors
Technological Unemployment- New Technologies make Labour Redundant
Regional Unemployment - The industry a certain region is dependent on goes into deadline, leaving very high levels of local unemployment
What is Geographical Immobillity?
Barriers restricting workers from moving to a different of work (Transport Costs)
What is Occupational Immobillity?
Barriers restricting workers from changing profession (lack of skill due to lack of education)
Solutions to Occupational Immboillity?
Get training
Solutions to reduce Geographical immobillity?
Buy a car –> Reduces time taken to get there
Buy a house –> Ties someone to one location
What is Voluntary Unemployment?
Unwilling to work at the current wage rate
Unwilling to retrain
Unable to work because of Geographical and Occupational Immobillity
Solutions to voluntary Unemployment?
Raise Minimum Wage and lower job seekers allowance –> Encourages people to go to work
Retraining Schemes –> Give them loans to go to school
Only give people benefits who are applying for jobs
or using the free trading schemes
Impacts of Uenmployment?
Lower Output Wasteful Use of Scarce Resources Increased Poverty Increased Government Spending on benefits Decreased Tax Revenue Consumer Confidence falls Business Confidence falls Worsened Society
Balance of Payments?
Record of all transactions relating to international trade
Capital and Financical Account?
That part of the balance of payments where flows of savings, investment and currencies are recorded
Current Account?
Part of the Balance of payments where all exports and imports are recorded
Exports?
Imports?
Goods and services sold overseas
Goods and Services bought from overseas
Current Account Deficit?
When Value of imports exceeds the value of exports
Current Balance?
Difference between total exports and total imports (invisible and visible)
Balance of Trade or Visible Balance?
Difference between visible exports ands visible imports
Invisible Trade?
Visible Trade?
Trade in Services
Trade in Physical Goods
Primary Income?
Money received from the loan of production factors abroad
Secondary Income?
Gov transfers to and from overseas agencies such as the EU
Exchange Rate?
Price of one currency in terms of another
How do Exchange Rate and Current Account Interact?
If a Country’s exchange rate gets stronger –> Exports more expensive and imports become cheaper –> Fewer Exports sold and more Imports bought –> Current Account Deficit but if the CA is already in Deficit then the Deficit will grow
How may Exchange Rates become stronger?
If a country has a surplus on the CA resulting from rising sales of goods abroad, demand for that country’s currency will rise. This could drive up the xchange rate.
Reasons for Deficits and Surpluses?
Quality of Domestic Goods –> Increased Demand For Exports due to rising Sales from Overseas Buyers
Quality of Foreign Goods –> Increase In Demand For Imports due to Rising Sales from buyers in our Country
Price of Domestic Goods
Price of Foreign Goods
Exchange Rates Between Countries –>
Impact of a Current Account Deficit?
Leakages from the Economy –> Output and Employment levels in the domestic economy are under threat
Inflation –> If the prices of imports go up, this will be reflected in the general price level since many imported goods will counted when the CPI is calculated. Consequently, rising imports prices will result in higher domestic inflation levels
Low Demand for Exports –> Due to poor quality of goods or services or the price may just be too high. This results in the country undergoing progressives decline in economic growth and a rise in unemployment (This may mean that they are not competitive in certain industries)
Funding the Deficit –> It will need foreign currency to pay for the rising quantity of imports that are being purchased.
May need to borrow
Causes Major Problems
Government Intervention to Protect the Enivronment?
Taxation
Subsidies
Regulation
Fines
Pollution Permits
Park Provisions
Why must the government protect the environment?
Sustainability.
Maintain tourism.
Avoid externalities.
Pollution
3rd party externalities that need to be reduced.
Different Types of Pollution
Noise – heavy industry leads to negative effects on others through noise (construction).
Air – CO2 emissions from heavy industry leads to climate change.
Water – chemical production can lead to poisoning of water supply.
Visual – heavy industry/mining damage the beauty of nature.
Why are Regulations useful in protecting the
nivronment?
Provided financial disincentives to breaking rules that are set (fines reduce profitability). Government can therefore stop firms/consumers’ polluting behaviour.
Problems with using Regulations to protect the environment?
Small fines may not deter polluting firms.
Encourage firms to just break the rules to avoid the fines.
Costly to enforce and regulate firms.
Why is Taxation useful in protecting the environment?
Government imposes taxes on the use of polluting materials (Petrol tax/landfill/Co2). Indirect Tax => raise costs of production for firms selling polluting products. Fall in S, increase in P, fall in the consumption of polluting material.
Problems with using Taxation in protecting the environment?
Depends on PED
Firms may cut costs elsewhere in order to keep producing the product.
High costs of production can lead to inflation.
National Park
An area of countryside, or occasionally sea or fresh water, protected by the state for the enjoyment of the general public or the preservation of wildlife.
How are National Parks used to Protect the Environment?
Protects the area of land from commercial development
The development of national parks provides an opportunity cost for the building of factories, roads
Problems with National Parks for protecting the Environment?
An increase in tourism can lead to visual pollution due to excess litter which will damage the surrounding wildlife.
Subsidies
Grants, tax allowances or other financial help given to firms as an incentive to reduce activities that damage the environment
How are Subsidies used to protect the environment?
Government can offer grants, tax allowances and other subsidies to firms (which produce goods that have no external costs to the environment) as an incentive to reduce activities that damage the enivronment –> This will lower costs of production for firms to produce that specific good or service which is sustainable to the environment –> Since firms are profit incentivised (they want to increase profit as much as possible) they will take these subsidies
Problems with Subsidies
There could be less supply because if the prices are cheaper there could be an increase in demand.
Also if the cost of production is cheaper there could be much produce in administration => diseconomies of scale.
It can lead to government debt or an opportunity cost because the money could be used elsewhere.
Government can keep the subsidies funds to themselves
Definition of Pollution Permits?
They determine the amount of pollutants a firm can produce in a given amount of time
How do Pollution Permits work?
Pollution permits legally allow firms to pollute a certain amount. Firms can buy and sell permits for profit if they do not need to pollute. Provides an incentive to firms to reduce pollution so they can increase revenue by selling permits to other firms.
Problems with Pollution Permits?
Firms can buy and sell pollution permits to each other. This doesn’t help reduce pollution as moving permits offsets the damage of pollution to another place.
Increases barriers to entry as new firms have to apply for permits before they can begin operation.
Firms having to buy permits => result in cost-push inflation as cost for firms rise => offset prices to consumers.
Definition of Tax?
Charges imposed on firms or individual that can be direct or indirect.
Income Inequality?
Differences in income that exist between the different groups of earners in society, that is, the gap between the rich and the poor
Reasons for Income Inequality?
- Workers with natural talent, a good education, valuable work experience or who can offer labour in a market where there is a shortage of qualified labour, will tend to earn more
- People who do not work, such as pensioners, receive lower incomes than those in employment
- The extent to which a government redistributes income through taxes and welfare payments is influential
- People who own assets such as property, shares and capital will enjoy additional income such as rents, dividends, and interest, respectively.
What is the Lorenz Curve?
Graphical Representation of the degree of income or wealth inequality in a country
Absolute Poverty?
Where people do not have resources to meet all of their basic human needs
Relative Poverty?
Poverty that is defined relative to existing living standards for the average individual (60% of the average)
Reasons to reduce poverty and inequality?
Meet Basic Needs
Raise Living Standards (However people who do live in relative poverty generally have lower life expectancy)
Ethical Reasons
Aggregate Supply?
Total Amount of goods and services produced in a country at a given price level in a given period of time
Supply Side Policies?
Government measures designed to increase aggregate supply in the economy
Offset?
If something, such as cost or sum of money, offsets another cost it has the effect of reducing or balancing it, so that the situation remains the same
Tradeoff
A tradeoff is where one thing increases, and another must decrease. … In economics, a trade-off is commonly expressed in terms of the opportunity cost of one potential choice, which is the loss of the best available alternative
MNCs
Firms that operate and produce Goods and Services in more than one country
FDI
When a company makes an investment in a foreign country. This usually involves the purchase of capital goods in the foreign country
International Debt?
Debt owed by one government to another foreign government or corporation. This needs to be repaid with interest
Trading Blocs?
refers to an agreement betwen governments to reduce or eliminate barriers to trade between the participating countries
Commodities
COMMODITIES are natural resources that come from the earth and include wheat, soybeans, corn, cattle, gold, oranges, copper, aluminum, coal, cotton and oil.
Development or Foreign Aid
DEVELOPMENT AID or FOREIGN AID is financial aid given by governments or other agencies to support the development of developing countries. It aims to alleviate poverty in the long term rather than a short-term focus (which is the purpose of humanitarian aid).
Development Gap
DEVELOPMENT GAP refers to the widening difference in levels of development between the world’s richest and poorest countries. This development gap can also occur within countries, for example between regions or between urban and rural areas.
Features of MNCs?
Huge assets and revenue
Highly Qualifief and experienced managers and executives
Powerful Advertising
High tech
Very Efficient (EOS_
Why do MNCs and FDI exist?
EOS
Technical and Financial Superiority
Access to overseas Markets - gaining market share and global branch loyalty
Access to cheaper FOP
Lower transport and communication costs
Reduced trade barriers
All of the above helps to increase the sales revenue and PROFITS
How may a government attract an FDI?
Can provide incentives:
offer tax breaks, subsidies, grants and low interest loans
Better infra
improved education –> better human capital
relaxed trade barriers
How does FDI lead to Globalisation?
- FDI usually improves the living standards of the country in which it is placed. This money is usually spent on foreign G&S, driving globalisation.
- FDI requires that raw materials enter the country and finished goods leave the country. Therefore, there must be little trade protectionism in countries that receive FDI, which drives globalisation.
- FDI requires flows of money into and out of a country, therefore banking systems must be compatible with the global network.
Advantages of FDI?
Increased Employment –> Increased EG
Brings Business knowledge into the country
They may pay taxes –> Boosts Government budget
FDI bring money into the country –> increases FDI –> boosts BOP. (These goods may also be exported which also improves BOP)
Improves Infra
Disadvantages of FDI?
MNCs are large –> have greater EOS than local firms, –> unit cost will be lower. When domestic companies shut down, unemployment will rise.
Some MNC’s may exploit workers where there are no labour laws
Tax Avoidance
Environmental Damage
MNCs send profits back to their own country
Problems to a country when an MNC leaves?
increased unemployment
loss of trade
Worsens CA due to loss of exports from the MNC
Why do MNCs invest overseas?
Access to cheaper labour (in developing countries) Lower Costs of Production Higher Profits
- Access to new markets (new customers) Increased AD (Investing into the EU allows them to access everywhere)
- Gaining expertise in new country or market
- Access Resources (e.g. China investing in Australia to access reserves of iron ore, copper, etc:)
Reasons for Free Trade?
For Developing countries, access to capital through trade for development
To access resources that are not found domestically
Specialisation: Countries can focus on what they are best at producing and trade for everything else. This leads to higher levels of productivity –> lower prices and higher quality
Disadvantages of Free Trade?
Domestic firms may not be able to compete with cheap imports (esp. from MNCs with EOS) –> loss of domestic GDP and development
Loss of employment in developed countries as MNCs may outsource production to less developed economies due to lower wages
Some countries CA might worsen
Advantages of Free Trade?
Lower Price
Increased Choice
More competition in domestic markets higher efficiency (lower prices and higher quality)
Increases specialisation Lower ccosta nd higher productivity
Free Trade?
Situation in which the goods coming into or going out of a country are not controlled or taxed
Protectionism?
Approach used by governments to protect domestic producers
Trade Barriers?
Measures designed to restrict imports
Dumping?
Where an overseas firm sells large quantities of a product below cost in the domestic market
Infant Industries?
New Industries yet to establish themselves
Tarrifs or Custom Duties?
Tax on imports to make them more expensive
Embargo?
Official order to stop trade with another country
Quota?
Physical limit on the quantity of imports allowed into a country
Bi-lateral Trade Agreement?
Trade deals between only two countries
Trade Blocs?
Groups of countries situated in the same region that join together and enjoy free trade that is free of tariffs, quotas, and other trade barriers such as regulation
Why might countries want to reduce free trade?
To reduce imports to improve trade deficit
To protect jobs - reduce cheap imports outcompeting domestic firms
Developing Countries: to protect new and growing industries from cheap imports from MNCs
Desire to protect declining industries
Response to Dumping
How might countries reduce free trade?
Quotas, Tariffs, Subsidies
Effects of Tariffs?
If the government places an indirect tax on imports –> Higher cost of Production for firms –> fall in supply of imports –> raises the price of imports and reduce the quantity demanded of imports
Domestic firms will find it easier to compete
Effects of Quotas?
This policy directly reduces the quantity imported to a fixed amount. As supply of the import falls –> higher prices, allowing domestic firms to compete more easily
Would Government finance increase with Quotas and Tarrifs?
It would increase with tarrifs but not quotas
Advantages of Quotas
Domestic firms will find it easier to compet –> higher levels of employment
A very clear reduction in imports to a fixed amount
Disadvantages of Quotas
Consumers will face higher prices of goods and services
Firms may have to pay more for capital goods –> reduction in investment
Firms may have to push for more factors of production –> Cost-Push inflation
Advantages of Tariffs
Raises Tax Revenue for the government
Domestic firms will find it easier to compete –> High levels of employment
Disadvantages of Tariffs
Consumers will face higher prices of goods and services
Firms may have to pay more for capital goods –> reduction in investment
Firms may have to push for more factors of production –> Cost-Push inflation
Advantages of Subsidies as a means of reducing imports?
- Lower prices for consumers
- May increase exports –> improves CA
- Can be used to protect domestic supply of key products
Disadvantages of Subsidies as a means of reducing imports?
Huge cost to the government
Disadvantages of Subsidies as a means of reducing imports?
Huge cost to the government
Other countries may retaliate by raising tariffs on imports.
How does Inflation affect Unemployment?
If Domestic prices for G and S are Rising faster than international competitors
Decrease in demand for domestic G and S because
-As Prices increase people consume less because they have less income
OR
Some people save during Inflation
Decrease in Demand will lead to Unemployment as firms will not need to produce as many G and S and therefore less workers are demanded
How is Improving the Flexibility of TU’s useful in implementing productivity?
Improving the flexibility of Trade Unions (Anti TU legislation)
–> (TU’s have been criticized for increasing wages and resisting new production technique)
–> Prevents labour productivity from improving.
Anti Legislation causes less disruption and strikes –> increase in productivity –> Increased Aggregate Supply
How are Education and Training used in implementing productivity policies?
If people receive more education and training –> quality of human workforce/human capital increases
Increases labour productivity –> Increase in Aggregate Supply
How is Competition used in implementing productivity?
Some Supply Side policies are designed to promote more competition (Privatisation and Deregulation)
Increased Competition –> Increased pressure on firms to be more cost-effective and innovative –> helps raise productivity
How can Investment be used to implement Productivity
If businesses purchase more tech and update their production facilities, efficiency will improve
How does Education and Training work in SSP?
A well-trained workforce will be more productive –> average costs per unit will decrease –> economy’s products more price-competitive –> exports will increase, increasing employment.
TRAINING programmes increase the occupational mobility of labour and therefore decrease structural unemployment
Why may Privatisation backfire?
Privatisation can increase unemployment. When private sector firms take control of public sector firms, they will try to reduce costs. As private sector firms are often over staffed (ie employ more workers than are needed), this will often involve redunancies ie increasing unemployment.
How do Monetary policies work?
Expansionary Monetary Policy use Quantitative Easing
Gov buy assets from banks –> Banks have more money –> more willing to lend money at lower IR –> Increased Borrowing –> Increased AD –> Increased EG.
This restores price stability
Contractionary Monetary Policy:
Increased IR –> Increased costs of borrowing/return on savings –> Increase in savings and a fall in consumption –> AD falls –> Inflation falls
Problems with Monetary Policy?
Time Lag for IR to impact the economy
Won’t affect people with fixed interest
Tradeoff between lower Inflation and High EG
Banks may not pass lower IR onto consumers
How do Fiscal Policies work?
It’s different for each case
- Cuts or raises in Income Tax
- Cuts or raises in VAT
- Cuts to Corporation tax
- Spending on Welfare
- Spending on education and healthcare
Shortcomings of Fiscal Policies?
Increase in Gov debt –> Government tends to be less productive
Investments are not effective in fully capablecity
How do SSP work?
Many different SSP’s, all aim to increase productivity –> increase in the output –> increased efficiency –> increase in long term EG and decrease in inflation
Investment on Infrastructure
Spending on Education and Healthcare
Deregulation
Privatisation
Shortcoming of SSP?
Time Lags (education and infrastrcutre) Only most effective when the economy is at full capacity
WTO?
International organisation
promotes free trade
by persuading countries to abolish tariffs and other barriers.
What does the World Trade Organisation do?
Polices free trade agreements
settles trade disputes between governments and organises trade negotiations
Aims of the World Trade Organisation?
Trade Negotiations (anti-dumping, subsidies and product standards)
Trade Liberalisation?
A move towards greater free trade through the removal of trade barriers
Criticisms of the WTO?
-UNDEMOCRATIC –> WTO rules are written by corporations.
Views of Consumers, environmentalists, human rights etc: are often ignored
-Favours the Rights of Corporations over those of workers
WTO has ruled that it is illegal for a government product based on the way it is produced
- Destroys the Environment
- Favours wealthy nations over poorer ones
Negotiators from poor countries aren’t invited to meetings
Why has there been an increase in World Trade?
Better transport and communications: More efficient transport systems –> goods can be shipped more quickly and cheaply. This reduces the cost of selling abroad
Relaxing of Trade Barriers
Development of Multinationals
Travel and Customer awareness
Trade agreements
What is trade like in developed countries?
Loss of trade in manufacturing
More Air Travel
Widening of the development gap
What is trade like in developing countries?
Increase in net migration
Increased FDI in Africa
A rise in Commodity and dependence
Debt cancellation
Reduction in Barriers
Commodities?
A product that can be sold to make a profit
ESPECIALLY ONE IN ITS BASIC FORM BEFORE IT HAS BEEN USED OR CHANGED IN AN INDUSTRIAL PROCESS.
How does Economic Growth lead to a worsened environment?
As businesses produce more output –> more emissions from power generators
Economic Growth ==> increase in disposable income ==> increase in total spending of cars ==> these produce emissions
As more Land is taken for business development, less is available for wildlife
How does Inflation interact with the Current Account?
Increase in Inflation –> Increase in the general price level –> fewer consumers have the disposable income required to purchase that product –> Total Spending decreases –> Exports decrease –> Current Account Balance is worse
If a government uses monetary policy to reduce inflation, the balance of payments situation could actually become worse.
Contractionary Monetary Policy –> uses higher IR to reduce inflation–> Might strengthen the exchange rate –> When interest rates are high –> demand for domestic currency rises –> exports dearer and imports cheaper –> further pressure on the current account balance
How are Current Account Deficits self-correcting?
In a floating exchange rate, a large current account deficit should put downward pressure on the currency. If the UK imports more than exports then this involves selling Sterling to buy foreign currency to be able to afford the imports. A depreciation of the currency will make UK exports cheaper, imports more expensive and thus help to reduce the current account deficit and reduce the disequilibrium.
