3.7 Supply-side policies

Supply-side policies (curve long term, explain)

Focus on the production side of an economy and factors aimed at shifitng the LRAS or Keynesian AS curves to the right

- Leading to a growth in the potential output of the economy

More production = decrease in the price level

Good for both consumption and production

→ this occurs with no significant change in AD

Goals:

Long-term growth by increasing the economy's productive capacity

Improving competition and efficiency

Reducing labour costs and unemployment through labour market flexibility

Reducing inflation to improve international competitiveness

Increasing firm's incentives to invest in innovation by reducing costs

Types of Supply-side Policies

Interventionist (governments actively intervene)

Market-based policies (policies to free up the market to lower costs and encourage competition)

Interventionist

Actively intervening in the market to increase the productive capcity of the economy

Governments are intervening → investments in education, infrastructure etc.

Allows the market to increase the productive capacity of the economy

Advantage (points and graph)

Ad:

- Can target specific sectors of the economy

- Due to an increase in LRAS = no inflationary pressure, → bring inflation back down (graph)

- Lack of inflationary pressure exports are competitive

- Government can spend on merit goods which may be under-provided in the marketplace

Disad

- Cost: Take a large amount of government expenditure, the opportunity cost that comes with it, could lead to deficit spending (the country might have to borrow to spend which will lead to servicing the debt)

- - Time lags: Takes time for the results to be seen in the economy, takes time to implement as the government will have to pass spending plans, political disagreements

How is it done

- Education and training

- Healthcare

- Research and development

- Infrastructure (roads, transport networks, hospitals, schools, airports)

- Industrial policies

Education and training (ad and dis)

Ad:

- Increase in the quality of human capital

- Increase in the quality of the FOP

- Improvements in efficiency (better at what they do) or productive capacity (able to do higher quality jobs)

- LRAS = shift

Dis:

-Potential loss of manufacturing jobs

-Opportunity costs

-Political decisions behind where the money is spent

-Once the training level increases = the cost of production increases (more educated = paying more)

Healthcare:

Ad

- Increase in the quality of human capital

- Increase in the quality of the factors of production

- Increases in efficiency as people are more able to work to their capacity

Dis:

- This could create a burden on society as people live longer = society has to take care of people longer

- Depends on government priorities

Research and development:

Ad:

- Increase the quality of FOP by increases in physical capital Eg. In England, a lot of the research for science and university is funded by the government

Dis:

Gamble on whether the money will have an impact

Infrastructure (roads, transport networks, hospitals, schools, airports)

Ad:

- Increase the quality or quantity of FOP

- Spending money on transportation infrastructure will increase efficiency as people and businesses can move more easily

- People will want to work in places with better infrastructure so a better calibre of workers and businesses will move in

Dis:

Opportunity cost → anything the government decides to spend their money on = they are not spending on something else

- They should prioritize making a plan

Industrial policies (def, ad,dis)

Policies that encourage specific industries or investment in specific regions. Grants (free money given for a purpose) or tax breaks can be given.

- Protectionist policies (tariffs or quotas) to support domestic businesses

- Tariff = tax on imports

- Quotas (limit on quantity of imports)

Ad:

-Encourage private investment

-Can encourage foreign direct investment

Dis:

-Protectionist policies can negatively impact the market for consumers

-Grants and tax breaks impact the government budget

Market based policies

- Aims to incentivize the market to increase AS

- Make the market work more efficiently and give the private sector more autonomy in the allocation of resources

- policies to encourage competition

- Labour-market policies

- incentive-related policies

Policies to encourage competition

Deregulation

Privatization

Trade liberalization

Anti-monopoly legislation

Deregulation

The reduction or removal of barriers to entry in certain industries

- Rules and regulations are removed which make it easier for investment in that industry. This leads to economic growth

Eg. The deregulation of financial sectors in 1990s

- The problem is these regulations may be needed and removing them could cause problems in the future

Eg. The removal of financial regulations in 1990s directly caused the Great recession in 2008

Privaitization

The sale of public sector industry to the private sector

Ad:

- Increase productivity (often government industry is inefficient due to bureaucracy and a lack of profit motvie)

- Creates a one time revenue generated by sales

- If a business was making a loss = no longer has to be funded by the tax payer = cutting government expenditure

Dis:

- Can create private sector monopolies this means that the government may need to regulate the industry to prevent too much abuse of monopoly power

- Opportunitiy cost = increase in efficiency = lost of jobs or services

eg. Privatization: Energy prices in the UK are rising due to costs of production rising whihc the govenrment was initially regulating but now is leaving to the market

Trade liberalization

- Removing barriers to trade

- Removing tariffs (tax on imports), quotas (limits on the quantitiy of imports) and subsidies so that international trade is easier

Ad:

- Increase in imports which lead to lower prices for consumers

- increase in international competitiveness due to competition

Dis:

- If the domestic firms cant compete they will go under

Anti-monopoly legislation

Laws that control of limit the restrictive practices of dominant firms in the industry

Ad:

- Prices are regulated, output can be regulated

- Take overs can be prevented so a monopoly is not created

eg. The UK stopped the merger between sainsburys and Asda

- Firms can be bailed out to stop a monopoly

Eg. in 1997 the US gov forced microsoft to bail out Apple with $150 mill investment to stop a monopoly in the home computer market

Dis:

- Could stop potential lowers prices by limiting economies of scale

Labour market policies

- Reducing the power of trade unions

- Removing unemployment benefits

-Removing minimum wage

Reducing the power of trade unions

Trade unions work on behalf of their memebrs to protect their interest and negotiate on their behalf

Ad:

- Removing the power of trade unions will reduce cost of production as trade unions can increase cost of production by raising wages or implementing strikes

- Firms will become more competitive as costs of production are reduced

Dis:

- Workers employment conditions could worsen

- Workers real wages could decrease (pay increases not keeping up with inflation)

Removing unemployment benefits

Unemployment benefits are transfer to help unemployed people when they are out of work

Ad:

- Removing the benefits will encourage people to work more

Dis:

- The poorest section of society becomes worse off as they have benefits removed which lowers their standard of living

- Increase inequity in society

Labour marker policies

Removing minimum wage

Aboloshing minimum wage lowers the cost of production

Ad:

- Cheaper costs of porduction so more can be produced for less

- More workers can be employed because they are cheaper

Dis:

- Lowest earners in society earn less money

- Increases inequity

Incentive related policies

- The argument is that people are incentivised to work by earning more mone

Ad:

- Cuts in personal income taxes will lead to people having more desire to work to earn more money

- Cuts in bsuiness taxes mean businesses have a greater incentive to make more profits which lead to more investment

Dis:

- Lower taxes mean lower revenues for the government and less abilitiy for the govenrment to spend

Strengths of supply-side policies

Market based:

- Improved resource allocation: achieves sustainable economic growth, increases in employment and productive capacity, reduction of frictional and structural unemployment

- Less gov presence in the economu, no need for government spending in large which is in contrast to interventionist policies

Constraints of supply-side

Equity: Doesnt necessarily improve equity, reductions in income taxes benefits larger incomes, reducing business taxes benefits larger corporations

Time lags: takes time for the economy to see the impacts on the potential output, process of deregulating takes time to execute as well

Vested interest: The gov in power will choose policies aligned to its interest which may not be in the countrys best interest

Environmental impact: Opportunity cost that goes with increasing potential output such as impact in China

- Deregulation could remove environmental protection laws, businesses could then move to operate in those countries