3.2.1 Introduction to the national economy/3.2.3 How the government manages the economy

Fiscal policies

Government spending and taxation

Purpose of fiscal policy

Stimulate or stabilise economic growth

Budget deficit

government spending > total tax revenue

Budget Surplus

Government spending < total tax revenue

Fiscal policy - economic growth

Increased gov spending on public goods, decrease income tax to encourage business growth

Fiscal policy - low unemployment

Increase expenditure on training skilled workers, decrease taxation for factor market

Fiscal policy - distribution of income

Increased spending on welfare, progressive taxation

Fiscal policy - low/stable inflation

Increased taxation to prevent demand-pull inflation

Fiscal policy - balanced CA

Protectionism, increase direct taxes

Included in gov income

Tax revenue, selling assets/reserves, tariffs

Progressive taxation

The average rate of tax increases with income

Example of progressive taxation

Income tax

Regressive taxation

Low incomes will pay a higher proportion of their income on tax

Example of regressive taxation

VAT

Direct taxes

Paid directly by the individual taxpayer

Example of direct tax

National Insurance Contributions

Indirect tax

Placed on the sales of a product

Example of indirect tax

VAT

Benefits of indirect tax

Corrects externalities, provides an incentive to save

Drawbacks of indirect tax

Causes cost-push inflation, regressive (unequal distribution of income)

Benefits of direct tax

Progressive (equitable),

Drawback of direct tax

Less incentive to get higher incomes

4 Areas of gov spending

Healthcare, defence, education, transport

Expansionary fiscal policy

Increase spending, decrease taxation

Purpose of expansionary fiscal policy

Increase consumer disposable incomes, increasing aggregate demand/spending

Contractionary fiscal policy

Decrease spending, increase taxation

Purpose of contractionary fiscal policy

Reduce budget deficit by decreasing aggregate demand

Foreign Direct Investment (FDI)

Foreign companies inputting money into your country

Advantages of a budget deficit

Growth in public sector, increased productivity

Disadvantages of a budget deficit

Higher debt interest payments, rise in national debt, crowding out (discourages private sector)

Advantages of a budget surplus

Attracts FDI, reduced national debt, frees up resources for the private sector

Disadvantages of a budget surplus

Loss of public sector jobs, decreased economic activity

Issues with Fiscal Policies

Imperfect info, recognition/response lags

Interest rates

The price/cost of borrowing money and the reward for saving

Fixed interest rates

Stay the same over an agreed period of time

Variable interest rates

Change over the lifetime of the loan

Contractionary monetary policies

Increase interest rates

Purpose of contractionary monetary policies

Reduce demand-pull inflation

Expansionary monetary policies

Decrease interest rates

Purpose of expansionary monetary policy

Increase aggregate demand and boost economic growth

Effect/impact of increasing interest rates on consumers

Consumer costs increase, increase borrowing costs, decrease spending on luxury items

Effect/impact of increasing interest rates on savers

Better return on savings, increase saving rather than spending

Effect/impact of increasing interest rates on borrowers

Increased loan repayments, less disposable income

Effect/impact of increasing interest rates on homeowners

Increased mortgage repayments, less disposable income

Effect/impact of increasing interest rates on businesses

Loans to expand cost more, reduced sales revenue, decreased production

What does the impact of a change in interest rates depend on

Size of the change, rates, elasticity of goods

Supply side polcies

Designed to improve the quantity or quality of factors of production in the economy (long-term growth)

Free Market Supply Side Policies

Involve policies to increase competitiveness and free-market efficiency

Interventionist Supply Side Policies

Involve gov intervention to overcome market failure

4 examples of free market SSPs

Reducing taxation, privatisation, deregulation, abolishing min wage

3 examples of interventionist SSPs

Infrastructure improvements, education, tax incentives

2 examples of deregulating labour markets

Decreasing trade union power, flexible working arrangements

2 examples of tax and welfare reform

Reducing corporation tax, decreasing welfare benefits

2 examples of improving quality of labour

Expansion of vocational qualifications/university access, apprenticeship levy

Example of increasing incentives and improving technology

Encourage incentives/entrepreneurship

Privatisation

When public business are sold off to be private

Why is deregulation successful in improving quality of labour

Increases focus on productivity over laws to follow

4 limitations of supply side policies

Limit to technological innovation/workplace improvements, can demotivate workers, lack of aggregate demand, can take a long time