Overview of Macroeconomic Policy Flashcards
What is the main objective of demand-side policies?
Main objective is to eliminate or reduce short-term economic fluctuations (recessionary gaps and inflationary gaps) and thereby achieve a low unemployment (cyclical) rate
What are the 2 types of demand-side policies?
- Fiscal Policy
- manipulations by the government of its own expenditures and taxes to influence the level of aggregate demand - Monetary Policy
- carried out by the central bank, which aims at changing interest rates to influence the I and C components of aggregate demand
How does a government respond to a recessionary gap using demand-side policies?
- Expansionary Fiscal Policy
- increase government spending
- decreased taxes - Expansionary monetary policy
- increase money supply, thereby decreasing interest rates
How does a government respond to a inflationary gap using demand-side policies?
- Contractionary Fiscal Policy
- reduces government spending
- increases taxes - Contractionary Monetary Policy
- decrease money supply, thereby increasing interest rates
What is the main objective of supply-side policies?
Main objective is to promote long-term economic growth and hence increase potential output
What are the two types of supply-side policies?
- Interventionists
2. Market-oriented
What are interventionist supply-side policies?
Based on government intervention in the economy
- investment in capital and R&D
- investment in infrastructure
- industrial policies
What are market-oriented supply-side policies?
based on institutional changes in the economy intended to develop free, competitive markets
- policies to encourage competition
- labour market reform policies
- incentive-related policies
What are the 2 advantages of fiscal policies?
- Pulling an economy out of deep recession
2. Direct impact on aggregate demand
What are the 5 disadvantages of fiscal policies?
- Time lag
- recognizing problem
- discussing appropriate policy
- policy affecting economy - Political constraints
- Crowding out
- if government is running on budget deficit, it will have to borrow, which increases interest rates and thereby lowers investment by private firms - Tax cuts not effect as it would lead to even more savings
- Cannot fine-tune economy as government spending is only one aspect of GDP
What are the 4 advantages of monetary policies?
- Relatively quick implementation
- no political discussion required - No political constraints
- No crowding out
- Ability to adjust interest rates incrementally
What are the 3 disadvantages of monetary policies?
- Time lags
- recognizing problem - Ineffectiveness in recession
- banks’ fear of defaulters and consumers may not be enthusiastic about borrowing money - Conflict between government objectives
- low interest rate may lower exchange rates resulting in higher import costs
What are the advantages to interventionist supply-side policies?
Reduces unemployment
What are the 2 disadvantages to interventionist supply-side policies?
- Opportunity costs of government spending
2. Negative effects on government budget
What is the advantage of market-oriented supply-side policies?
Reduces unemployment
What are the 3 disadvantages of market-oriented supply-side policies?
- Increase worker insecurity due to reducing labour union power and eliminating minimum wage
- Lead to unequal income distribution
- Greater poverty due to loss of worker protection
What is the solution for frictional/seasonal unemployment?
- Interventionist supply-side policies
- provide information between job seekers and employers through creation of job centres and agencies
- provide information on job availability
What is the solution to structural unemployment caused by changes to demand for labour skills or change in geographical location?
Interventionist supply-side policies:
- training programs
- grants and low interest loans to young workers seeking training
- government hiring and training of workers
- provision of subsidies to workers to help relocate
- tax incentives to firms to relocate
What is the solution to structural unemployment caused by labor market rigidities?
Market-based supply-side policies
- reducing power of labour unions
- reducing unemployment benefits
- reducing labour protection
- reducing or eliminating the minimum wage
What is the solution to cyclical unemployment?
Expansionary fiscal policy or expansionary monetary policy