Download Topic 2.6.2 and 2.6.3 student version

Government policy instruments
2.6.2 Demand-side policies: unit content
Students should be able to:
 Define demand-side policies
 Distinguish between monetary and fiscal policy
 Explain monetary policy instruments (interest rates, asset
purchases to increase the money supply (quantitative easing))
 Explain fiscal policy instruments (ET)
 Distinguish between government budget (fiscal) deficit and
surplus
 Distinguish between direct and indirect taxation
 Use AD/AS diagrams to illustrate demand-side policies
 Describe the role of the Bank of England (role and operation of
MPC)
 Assess demand-side policies in the Great Depression and the
Global Financial Crisis of 2008 (different interpretation and
policy response in the US and UK)
 Evaluate the strengths and weaknesses of demand-side policies
Macroeconomic policy objectives and instruments
What is the difference between a policy objective
and a policy instrument?
There are two main policy instruments:
1. Demand-side policy (monetary and fiscal policy)
2. Supply-side policy
Demand-side policies
 Demand side policies aim to increase a________
d________.
 If the economy is in a recession or a period of
below trend GDP, so that there is spare capacity,
(n_______ output gap) then demand side policies
can increase the rate of economic growth.
 However, if the economy is already close to full
capacity (trend rate of GDP) a further increase in
AD will mainly cause ___________.
Policy instruments – monetary policy (demand-side)
 Monetary policy is the most common tool for
influencing economic activity. Who runs this?
 What does it refer to?
 What is the MPC’s main objective?
 How often do they meet?
 What do they set?
 What target are they aiming for?
Interest rates
 What is the current rate and when was it set?
The Bank of England’s Monetary Policy Committee
 The MPC is made up of _____ experts (5 senior
Bank of England staff and 4 are external members
appointed by the Chancellor). Each has a vote to
decide what interest rate to set.
 Its main job is to maintain prices as measured by
CPI
 It takes about two years for a change in interest
rates to have its full effect on inflation. So the MPC
sets interest rates based on its forecast for
inflation two to three years ahead.
What factors do the MPC consider?
 GDP g_____ and spare capacity; surveys about
where the economy is within an economic cycle
 Bank lending and consumer c_______ figures
 Equity markets (share prices) and house p______
 Consumer c________ and business c_________
 Labour market data e.g. average e_________
 Trends in global foreign exchange markets
 International data
What problems do the MPC face?
Policy instruments – monetary policy
 To boost AD, the MPC can ____ interest rates.
 What will be the impact on the cost of borrowing,
investment and consumer spending?
 What ill be the impact on saving and spending?
 What will be the impact on mortgage interest
payments? Why does this matter?
Evaluation of changing interest rates
Quantitative easing (students should have a basic knowledge)
 Bank of England “prints” money
 Uses this to buy bonds from banks or pension funds
 So what is the impact on the circular flow?
 What is the impact for firms and individuals?
 Any drawbacks?
The transmission mechanisms of monetary policy
What is a budget deficit?
A budget deficit occurs when?
If the government is running a budget deficit, how
does it pay for it?
This can be through the Bank of England selling
Treasury Bills and long-term government bonds.
Who buys the government debt?
Why does a budget deficit matter?
What is the impact on aggregate demand of a
government trying to reduce a budget deficit?
Budget deficit - recap
 When the government is running a budget
deficit, it means that in a given year, total
government expenditure exceeds total tax
revenue. Note that this is NOT the same as a
current balance deficit
 In the short run an increase in the government’s
budget deficit will increase aggregate demand and
hence ______ unemployment. The increase in
aggregate demand is likely to lead to:
Fiscal policy
 Fiscal policy refers to changes to ___________
and __________________
 This is run by the ________________
 For example the government might decide to
reduce its budget surplus.
 A contractionary fiscal policy is used when
inflation is accelerating. The government will aim
for a surplus to reduce aggregate demand. So
they will ___________ expenditure and/or
_______________ taxes.
Direct versus indirect tax
 Direct tax refers to the tax levied on a person’s
_______________; paid directly to the government
 E.g.
 Indirect tax is levied on a person who consumers
the goods and services and is paid indirectly to the
government. The burden of tax may fall on the
consumer or the firm or a combination (depends
on ______ of demand and supply).
 E.g.
Label the following as direct or indirect tax:
 Can be used to reduce negative externalities
 Helps in reducing inflation
 Increases inflation
 May lead to black market
 Progressive tax
 Regressive tax (makes income distribution more
unequal)
 Tax evasion is not possible because it is included in
the price of the goods and services.
 Tax evasion is possible.
Evaluate the strengths and weaknesses of
demand-side policies
 Draw a table or mind map summarizing the strengths
and weaknesses of demand-side policies
2.6.3 Supply-side policies: unit content
Students should be able to:
 Define supply-side policies
 Distinguish between market-based and
interventionist methods
 Aims of market-based and interventionist policies (to
increase incentives, to promote competition, to
reform the labour market, to improve skills and
quality of the labour force, to improve infrastructure)
 Use AD/AS diagrams to illustrate supply-side policies
 Evaluate the strengths and weaknesses of supplyside policies
Policy instruments – what are supply side policies?
 A supply-side policy is a government scheme to
promote m_______ forces, cut c________ and to
raise the full employment level of output.
 They are designed to increase aggregate supply by
improving e___________ (through improved
productivity and increasing competition).
 They improve the supply side of the economy i.e.
they increase the amount of 'supply' that is capable
of being produced over the long term. They improve
the p___________ p___________ of the economy
Market-based versus interventionist supply side policies
 Market-based policies focus on the power of the
________ market, or allowing the forces of supply
and demand to eliminate equilibria imbalances.
 The role of the government in market-based policies
is __________ since it tends to interfere with the
market mechanism.
 Interventionist policies focus on the need for the
government to intervene in markets to achieve a
goal.
Market-based supply side policies
Market-based supply-side policies include:
 Deregulating and/or p___________ the public sector
(although not much left!)
 E____________ free trade
 R____________ income and/or corporation tax rates
 ______________ the national minimum wage
 ______________ trade union power (although this
has been done!)
 Reforming the benefits system to ______________
workers to take available jobs
Interventionist supply side policies
Interventionist supply-side policies include:
 increased government spending on e_________ and
t___________
 increased government spending on h____________
 increased government spending on i_____________
 stricter government competition policy
 policies to reduce the geographical immobility of
labour, such as i______________ information on job
vacancies and s_______________ worker relocation
Show the impact of supply side policies on the two
versions of LRAS diagrams
What are the two diagrams used to illustrate
supply side policies?
List measures that are used to increase the
productivity of factors of production
Advantage of supply side policies (why classical
economists like them!)
Disadvantage of supply side policies (why
Keynesian economists don’t like them!)
Missing words: aims of market-based and interventionist policies
To:
 improve s----- and q------ of the labour f--- improve i------------ increase i-------- promote c--------- reform the l----- market