13.0 Fiscal and Supply Side Policies (All in 1)

What does fiscal policy involve

The manipulation of government spending, taxation, and the budget balance to influence the economy

What are the two main fiscal policy instruments

Government spending and taxation

What is the macroeconomic function of fiscal policy

To stimulate economic growth and stabilise the economy

What is the microeconomic function of fiscal policy

Targeted spending/taxation to influence specific sectors or address market failures

What is expansionary fiscal policy

Policy to increase AD by raising government spending or reducing taxes

Draw expansionary fiscal policy

What is contractionary fiscal policy

Policy to reduce AD by cutting spending and increasing taxes

Draw contractionary fiscal policy

Disadvantages of expansionary fiscal policy

• Worsen budget deficit - increases national debt

• Higher interest rates

• Can lead to high inflation

• Time lag

Disadvantages of contractionary fiscal policy

• Can reduce economic growth - leads to unemployment

• Worsen inequality

• Could lead to a recession

• Time lag

• Harms business and consumer confidence

How can fiscal policy improve AS

By reducing taxes, subsidising training, increasing education, healthcare and infrastructure spending

How do subsidies for training affect AS

They lower firm costs and increase labour productivity

How can government spending influence the circular flow of icome

By injecting demand into sectors needing stimulation

Which areas receive most UK government spending

Pensions, welfare, health and education

What is capital expenditure

Spending on long-term assets like roads and schools

What is current expenditure

Recurring spending on short-lived goods/services like NHS drugs

What are transfer payments

Welfare payments with no exchange of goods/services (e.g. state pensions)

Why do government engage in public expenditure

To ensure minimum living standards, promote equality and simulate growth

What are the main reasons for taxation

To raise revenue, redistribute income, influence behaviour, correct markets failures

What are direct taxes

Taxes on income or profits paid directly by the individual or firm

What are indirect taxes

Taxes on expenditure (e.g. VAT), usually included in the price of goods

What is progressive tax

A tax where the average rate increases as income increases

What is proportional tax

A tax with a constant rate regardless of income

What is a regressive tax

A tax where lower-income individuals pay a higher proportion of their income (e.g. VAT)

What are Adam Smith’s four canons of taxation

Low collection cost, certainty, convenience, equity

What is the UK’s main source of tax revenue

Income Tax

What is the difference between the budget defecit and national debt

The deficit is the annual gap between spending and revenue; debt is the accumulation of past deficits

What is a cyclical deficit

A temporary deficit caused by economic downturns

What is structural deficit

A persistent imbalance not related to the economic cycle

What is crowding out

Government borrowing reduces private sector investment due to higher interest rates

Why might high national debt be problematic

It can raise borrowing costs and lead to higher taxes or spending cuts

How can national debt affect investor confidence

Excessive debt may require higher interest rates to attract investment

What does the Office for Budget Responsibility (OBR) do

Analyses UK public finances, provide economic forecasts, assesses govt targets

What fiscal targets does the OBR monitor

Balancing the budget in 5 years and reducing net public sector debt

What are supply-side policies

Government measures designed to increase long-run productive potential of the economy by improving efficiency and productivity of markets

What are supply-side improvements

Increases in productive potential arising from the private sector without government intervention

Draw effects of a supply-side policy on a diagram

How can tax cuts act as a supply-side policy

They increase incentives for work and investment, boosting productivity and potential output

How does deregulation promote supply-side improvements

It reduces barriers to entry, encouraging competition and innovation, which improves efficiency and productivity

How do education and training policies help achieve supply-side improvements

By improving worker skills and productivity, leading to higher output and economic growth

How does infrastructure spending contribute to supply-side improvements

Improved infrastructure enhances efficiency and connectivity, supporting higher economic output

How do income tax cuts increase potential output

By increasing incentives to work, they may raise labour supply and productivity

How do corporation tax cuts promote economic growth

They encourage investment in capital and innovation, enhancing productive capacity

How do supply-side policies reduce structural unemployment

By improving education, training, and labour market flexibility

How can supply-side policies reduce inflationary pressure

By increasing productive capacity, they shift the LRAS curve right, reducing cost-push inflation and demand-pull inflation

How do supply-side policies affect the current account of the balance of payments

By improving productivity and competitiveness, they can increase exports and reduce the trade deficit

How can education and training reduce the natural rate of unemployment

By increasing employability and reducing skill mismatches in the labour market

What are free market supply side policies

Policies that reduce govt intervention and allow market forces to operate freely (e.g. deregulation and privatisation)

How do tax cuts promote free market supply-side outcomes

By incentivising work, investment and innovation, which boosts productivity

How does deregulation improve economic efficiency

It increases competition and removes unnecessary restrictions on business

What is the role of privatisation in free market supply-side policy

It transfers ownership to the private sector, which may operate more efficiently due to profit motives

How do labour market reforms (e.g., reducing NMW) promote efficiency

The allow wages to be set by supply and demand, potentially increasing employments and flexibility

What are interventionist supply-side policies

Policies where the government actively intervenes to improve economic performance

Why is spending on healthcare considered a supply-side policy?

Healthier workers are more productive, reducing absence and increasing output

How can infrastructure spending improve long-run economic performance

It lowers transport and communication costs, increasing business efficiency and ouptut

How does industrial policy (e.g. subsidies for R&D) support supply-side improvements

It encourages innovation and technological advancement, raising productivity

What are some macroeconomic effects of supply-side policies

Higher potential output, lower unemployment, improved competitiveness and reduce inflationary pressure

What are some microeconomic effects of supply-side policies

Increased efficiency, improved productivity, enhanced competition and better resource allocation