Ch 18 - Supply Side Policies

• ^^Supply side policies^^ are government attempts to increase productivity and efficiency in the economy

  • if successful, they will shift aggregate supply to the right and enable higher economic growth in the long run
  • Supply side policies should increase productivity and shift long-run AS to the right

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• ^^Free market SSP^^: policies which increase competitiveness and free-market efficiency

  • lower income tax rates, reduced power of trade unions
  • ^^Privatisation^^: set state owned assets to private sector, improves incentives
  • ^^deregulation^^: allows new firms to enter the market open monopolies to competition
  • ^^income tax cuts^^: greater incentives to work longer hours
  • remove regulations: reduce power of trade unions, minimum wage and regulations
  • free trade agreements: reduce tariff barriers and obstacle to trade
  • reduce welfare benefits: increase incentive to get a job
  • all these factors improve efficiency and competitiveness by extension

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• ^^Interventionist SSP:^^ government intervention to overcome market failure

  • higher government spending on transport, education, and communication
  • government provides capital goods and services where it is believed that the market has failed to provide them.

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• Benefits of SSP:

  1. Lower inflation: shifting AS to the right will cause a lower price level
  • More efficient economy → SSP will reduce cost-push inflation
  • Privatisation leads to more efficiency and lower prices

1. Lower unemployment: SSP contributes to reducing structural, frictional, and real wage unemployment which reduces the rate of unemployment

2. Improved economic growth: SSP will increase sustainable rate of economic growth by increasing LRAS, which enables higher rate of economic growth without causing inflation

3. Improved trade + balance of payments:

   • Firms export more when productivity increases

   • Competition is important in an increasingly globalised marketplace

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• In deregulation, competition tends to lead to lower prices + better quality of goods and services

  • Difficulty: not all industries are amenable to competition. Privatising and deregulation these industries creates a private monopoly who can charge higher prices
  • Lower income taxes increases incentive for people to work harder, leading to an increase in labour supply and more output. A cut in corporation tax gives firms more retained profit they can use for investment. (not always the case, incentive isn’t always increased and firms may choose to save profit)
  • Labour markets can be regulated through policies such as:
  • make it easier to hire/fire workers
  • reduce maximum working hours and minimum holiday pay
  • enable zero-hour contracts, which allow firms to employ workers when demand is greater
  • flexible working hours decrease productivity

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• ^^Interventionist SSP^^: policies which are based on the idea that the government has a fundamental role to play in actively encouraging growth

  • Investment in human capital

  • increases productivity through improving education, labour force and training

  • education creates positive externalities

  • Research and development

  • economies need to study up-to-date with modern developments to develop new production techniques

  • tax credit: could allow firms to not pay taxes from retained profit spent on R+D

  • Provision and maintenance of infrastructure: defined as large scale capital provided by the government

  • necessary for economic activity

  • productive potential of an economy illustrated by LRAS will be imposed by a better infrastructure

    • Direct support for businesses or enterprise

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• Limitations for Interventionist SSP:

  • significant monetary cost involved
  • time lags before an outcome is produced
  • depends on politics of the country
  • supply SP are long run, but when implemented, some will have short run demand side effects

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• Demand side theory: is built in the idea that economic growth is stimulated through demand

  • main goal is to continue consumer spending on products → keep the economy afloat

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• In market based supply policies, the reduction of household income taxes and corporate taxes will have expansionary fiscal effects

  • In interventionist SSP, increased government spending increases AD in the economy and has expansionary fiscal effects

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