Topic 4 - Economic Policies and Management Flashcards
Distinguish between Fiscal and Monetary Policy.
State advantages of each:
E.g.: Time lag, EG, inflation, and political constraints.
Fiscal Policy = Changes in government spending and taxation.
- Short impact time lag and more effective at stimulating EG, but long implementation time lag due to yearly Budgets.
Monetary Policy = Changes in cash rate and indirectly I/R, affecting consumer spending and eco activity.
- More effective at controlling inflation, less political constraints, but long impact lag
Define Microeconomic Policy and some examples. Also state its main advantage over Macroeconomic policies.
Micro policies are designed to raise the economy’s AS through its level of efficiency, productivity, and IC.
E.g.: Deregulation, competition policy, labour market policies, environmental policies, and trade reform.
- Won’t cause inflation, unlike macro policies.
List the 6 Economics Objectives an economy aims to achieve through macro and micro policies.
1) Increasing EG at a stable rate (3-4%)
2) Full employment (NAIRU) - 0% Cyclical U/E
3) Price stability - RBA 2-3% inflation target
4) External stability - Consumer confidence, CAS
5) Equal distribution of I/W - Higher tax, social welfare
6) Environmental Sustainability - CO2, deforestation
State the 3 uses/aims of Fiscal Policy.
Hint: (1) EA (2) ID (3) Savings + CAS
Extra Aim: To achieve greater efficiency in resource allocation
1) To manage economic activity - ‘Fine-tuning’ G & T to achieve economic objectives. (EG, I & X Balance)
2) To even out income distribution - Progressive taxation + social security & welfare payments.
3) ↑ National savings + Sustain CAS - Reduces Australia’s reliance on foreign savings, reducing CAD and debt-servicing costs.
Distinguish between Budget Outcome and Budget Stance
The Budget Outcome is the net government budgetary position in terms of spending and revenue. (G = T, G > T, G < T)
The Budget Stance refers to the overall effect of the budget outcome on economic activity. (N, E, C)
List the RBA procedure to ↑ or ↓ the cash rate in the Domestic Market Operations (DMO).
1) ESA balance must be in surplus.
2) Corridor is set, with the top band being C/R + 0.25% while the bottom band being C/R - 0.1%.
3) Shifts vertical line left or right based on buying/selling government bonds/repos.
4) If C/R is above/below the equilibrium set by RBA, increase/decrease liquidity of funds.
State the 3 factors that REDUCES/INCREASES Australia’s Budget Deficit/Surplus
1) Change in Gov. expenditure (Child-care, foreign aid, welfare)
2) Taxation/Revenue changes (Broaden tax base)
3) Asset sales and firm privitisation.
State the 3 methods of FINANCING Australia’s Budget Deficit
1) Borrow from the private sector (Sell bonds, compete for funds)
2) Borrow from overseas banks/investors (Increase in FL)
3) Borrow from RBA / print money (Bond-buying, high inflation, etc.)
State the 3 methods of USING a Budget Surplus
1) Retire or Redeem Debt
2) Repay Debt-servicing costs
3) Accumulate for future investment/infrastructure
State the 3 aims of Monetary Policy
(RBA Act - 1959)
1) Stability of Australia’s currency - Low & Stable inflation
2) Maintenance of full employment - 0% Cyclical
3) Economic prosperity and welfare of Australians - High living standards & GDP per capita
Explain why the RBA cannot create EG by permanently stimulating the business cycle
- Due to business-cycle fluctuations, an expansionary/loose MP will lead to excessive demand.
- Hence, inflation will rise, increasing living costs and thus, the government must shift funds away from EG to lower inflation.
State the 4 effects of a lower I/R in influencing economic activity and the E/R:
1) Savings/Investment Channel
2) Wealth Effect Channel
3) Balance Sheet & Cash Flow Channel
4) Exchange Rate Channel)
1) Savings/Investment - Lower I/R on bank deposits reduce incentives to save –> Increases household spending, borrowing & investing
2) Wealth Effect - Lower I/R encourages demand for assets. Increases equity for banks from greater borrowing.
3) Balance Sheet & Cash Flow - Lower I/R affects household spending/saving.
4) Exchange Rate - Lower I/R reduces investor returns, leading to depreciation –> ↑TOT –> Inflation
Briefly state and describe 3 limitations of Monetary Policy.
1) Short implementation time lag, but a long IMPACT time lag (6-18 months)
- Consumer & M-spending takes time to adjust, affecting inflationary and price expectations.
2) Blunt Instrument - Affects borrowers, despite being primarily used for inflation.
- Mortage prices rose, increasing income-wealth distribution.
3) Global Constraints - If Aus. I/R rise faster than overseas I/R, this generates excess capital inflow.
- Possible CAD and slow EG.
Briefly state and describe 3 limitations of Fiscal Policy.
1) Political Constraints - Despite automatic stabilizers accumulating budget surplus, the government chooses to provide tax cuts, reducing capacity for future EG and higher U/E near election time.
2) Global Constraints - Federal & State Gov. choose to retain credit ratings through spending & revenue decisions, which limits the effectiveness of FP.
3) Time Lags - Long IMPLEMENTATION time lag (12-18 months) but short impact lag.
