Transcript GOVERNMENT ECONOMIC POLICIES

GOVERNMENT ECONOMIC
POLICIES
The UK Economy (Macroeconomics)
TOPIC 4
DEMAND SIDE OF THE
ECONOMY
 This refers to aggregate demand.
 This is C + I + G + (X - M)
 Too little demand leads to cyclical unemployment and
too much demand leads to inflation.
 The government can change the level of demand by
using:
 Fiscal Policy
 Monetary Policy
 THESE ARE CALLED DEMAND – SIDE POLICIES
SUPPLY SIDE OF THE
ECONOMY
 This refers to the part of the economy that produces
goods and services.
 The performance of any economy is limited by its
productive potential. This is affected by the quality and
efficiency of the resources available.
 Governments can influence the supply side by using
SUPPLY SIDE POLICIES
DEMAND SIDE POLIICES
(Fiscal and Monetary)
Topic 4
The UK Economy (Macroeconomics)
FISCAL POLICY
 Fiscal policy is when the government changes the level
of its spending or the level of taxation to influence the
economy.
 The policy aims to change the level of aggregate
demand.
MACROECONOMIC OBJECTIVES AND FISCAL
POLICY
1.
UNEMPLOYMENT
High unemployment occurs because of insufficient demand in the
economy. They could increase demand by:
 Spending more itself. (G)

They could increase capital spending e.g. new hospitals or current
spending e.g. employing more. This would be an injection.
 Reducing taxation

Reducing corporation tax may increase investment from firms (I) or
by reducing income tax will mean consumers will have more to
spend (C)
MACROECONOMIC OBJECTIVES AND FISCAL
POLICY
2.
INFLATION
If there is inflation in the economy then there is too much
aggregate demand, the government will try to cut demand
by;

Cutting its own spending (G)

Increasing taxation to cut consumer spending (C) or
investment by firms. (I)
PROBLEMS WITH FISCAL POLICY
(a)
CONFLICTING OBJECTIVES
A policy that wants to raise demand to increase employment and
encourage economic growth could;

Worsen the balance of payments

Cause inflation
A policy used to reduce inflation could;
 Cause unemployment
 Lower economic growth
PROBLEMS WITH FISCAL POLICY
(b) FORECASTING THE REQUIRED CHANGE IN DEMAND

The data used to make plans is not always reliable

It is difficult to predict the multiplier effect of increasing G
or reducing T

Difficult to estimate when the policy will take effect
(c)
FINE TUNING

As fiscal policy is not a precise instrument. This is
because either too little demand was injected so
unemployment remained or too much was injected and
inflation occurred.
MONETARY POLICY
 Monetary policy is one that uses interest rates or
controls the money supply as a means of achieving
objectives.
 Interest rates are set by the Monetary Policy Committee
(MPC) of the Bank of England. They have to keep
inflation within the government’s target.
 They BoE are the:
 Governments Bank
 Bankers Bank
MONETARY POLICY AND
GOVERNMENT OBJECTIVES
INFLATION
 If a government wanted to reduce demand to control
inflation then it would increase interest rates or reduce the
money supply.
 By increasing interest rates there would also be an increase
in the exchange rate. This can reduce inflation in three
ways:
 Lowers the price of imported finished goods
 Lowers the price of imported raw materials
 Puts pressure on domestic firms to lower costs to remain
competitive.
 ECONOMIC GROWTH AND UNEMPLOYMENT
 To boost demand in order to achieve economic growth
they would lower interest rates.
 This would encourage people to spend and borrow.
 It will also lower the exchange rate making exports
cheaper and therefore increase employment.
 BALANCE OF PAYMENTS DEFICIT
 An increase in the rate of interest will cut aggregate
demand which includes the demand for imports.
 This helps to improve the Balance of Payments as it
means less imports coming into the country.
INTEREST RATES AND
INFLATION
When interest rates are changed, demand can be affected in a number of
ways.
 Spending and savings
 Increased interest rates makes savings more attractive and
borrowing less attractive.
 Cash-flow
 rising interest rates will reduce consumers cash-flow, less to
spend.
 Exchange rates
 Increased interest rates will increase the amount of foreigner
investors.
Supply Side Policies
 These are mainly microeconomic measures, which are
designed to improve competition in PRODUCT MARKETS
and improve working in LABOUR MARKETS.
PRODUCT MARKETS
 The main reason for supply-side policies in this type of
market is that increased competition will increase
efficiency.
 Policies include:
 Privatisation
 Deregulation
 Commitment to Free Trade
 Reduction in Corporation Tax
 Strict control of inflation
LABOUR MARKETS
 A labour market that is perfect can clear surpluses and
shortages quickly. It is called a FLEXIBLE LABOUR
MARKET
 An imperfect or inflexible labour market finds it difficult to
adjust.
 Policies include:
 Trade Union reforms – less power = less industrial action
 Increased spending on education
 Increased spending on training
 Improved incentives to work. E.g. reducing income tax, making
benefits less attractive.
ECONOMIC GROWTH
Topic 4
The UK Economy (Macroeconomics)
WHAT IS ECONOMIC GROWTH?
 This is the rate of growth in a country’s potential output.
 It is represented by a shift to the right of the country’s production
possibility curve and the annual percentage change in GDP.
CAUSES OF ECONOMIC GROWTH
 SUPPLY-SIDE POTENTIAL GROWTH
 QUANTITY OF RESOURCES
 Land – usually fixed in quantity but can increase in the long
run. E.g. new oil field.
 Labour –any increase in the number of people willing and able
to work or the hours worked.
 Capital – an increase in investment is usually the most
important cause of economic growth.
CAUSES OF ECONOMIC GROWTH
 PRODUCTIVITY OF RESOURCES
 Moving resources from low-productivity industries to highproductivity ones. Depends on occupational and
geographical mobility.
 Improving the quality of resources – Land, Labour, Capital
 Using resources in a more economically efficient way e.g.
specialisation, economies of scale.
ACTUAL GROWTH
 Determine by two factors:
 The growth in potential output
 The growth in aggregate demand.
GOVERNMENT POLICY
LEFT WING
 Believe the government
should intervene.
 They want the government
to invest in industries and
supply subsidies.
 Strong belief that the
government should invest
heavily in infrastructure.
 Increase aggregate
demand through fiscal and
monetary policies.
RIGHT WING
 Private sector and enterprise
generate growth.
 Government should only get
involved to remove controls
and regulations.
 Reduce direct taxes on income
and profits.
 Strict control of inflation is
necessary.
GROWTH
Benefits
Costs
 Standards of living
improve
 resources are diverted to
making capital goods
 Increased productivity
 Pollution
 Increased incomes
 Depletions of nonrenewable resources
 Higher Tax revenues –
better public services
 Increased pressure on
industrial and urban life
e.g. stress and crime.
SOURCES OF GROWTH
Demand
 Low unemployment
 Consumers have been
able to increase
borrowing
 Interest rates have
been low
 Significant spending by
the government.
Supply
 Increase in female
participation has
increased the workforce
 Increased flexibility of
labour
 Higher investment has
added to the country’s
productive capacity.
ENVIRONMENT POLICY
TOPIC 4
The UK Economy (Macroeconomics)
ENVIRONMENT PROBLEMS
 Global warming
 Air pollution
 Water pollution
 Traffic congestion
 Depletion of non-renewable energy resources
 Landfill waste
MARKET BASED POLICIES
 These aim to influence the producer or the consumer by
the price they have to pay.
 They hope to discourage producers or consumers by
making them pay for the external cost they create.
 Policies include:
 Landfill Tax
 Climate change levy
 Road Pricing
 Petrol Tax
 VAT on domestic fuel
NON-MARKET POLICIES
 These are designed to impose direct controls on
polluters or involve the government in investing in
areas.
 Can include setting pollution standards and enforcing
them.
 Government investment has included:
 Park and ride schemes
 Improved sewage disposal
 Research into renewable forms of energy
 Providing recycling projects such as bottle banks.
OTHER FACTORS
 Firms are becoming environmentally friendly because they have
discovered:
 Going green is good for business
 Cutting down on waste, conserving energy and recycling can save
money
 Pressure groups can put customers off irresponsible firms.
MARKET FAILURE
TOPIC 4
The UK Economy (Macroeconomics)
WHAT IS MARKET FAILURE?
 This happens when a market fails to supply the type or
quantity of goods or services that consumers want.
 This means there is economic inefficiency in that market.
Causes:
 COMPETITION IS RESTRICTED
 EXTERNAL COST AND BENEFITS ARE IGNORED
 PUBLIC GOODS ARE NOT PROVIDED
 MERIT GOODS NOT PROVIDED TO ALL WHO NEED THEM.
RESTRICTED COMPETITION
 Competition is good in an economy. As it encourages
firms to be more efficient. Restricted competition result
in:
 Poorer quality goods
 Limited supplies
 Inefficient use of resources
 Higher prices.
RESTRICTIVE TRADE PRACTICES
 These can include:
 Resale price maintenance.
 Predatory pricing.
 Distributing only to certain retailers.
 Cartels.
All of which are ILLEGAL in the UK
GOVERNMENT POLICY
 Their aim is to encourage competition. It is the
responsibility of the OFFICE OF FAIR TRADING to
investigate breaches of competition law.
EU COMPETITION LAW
 Any merger or take over on a European scale can be
investigated by the European Commission
MONOPOLY INVESTIGATIONS
 Any firm with a market share of above 25% may be
referred to the COMPETITION COMMISSION if it is felt
that they are acting against the public interest.
MERGER INVESTIGATIONS
 Any takeover or merger, which would mean a firm has
more than 25% of a market or assets worth more than
£30m will be looked at.
 If it is against public interest then the merger will not be
allowed to take place. E.g. Lloyds TSB and Abbey
WHAT IS THE PUBLIC INTEREST?
A monopoly or merge will be allowed if:
 Competition is maintained.
 The competitive strength of a UK firm is increased
overseas
 The development of new products is likely
 Costs of production are reduced
 Interests of consumers are improved e.g. more
choice
EXTERNAL COSTS AND BENEFITS
PRIVATE COSTS
 This is the costs that a firm has to pay and is taken into
account when making decisions.
PRIVATE BENEFIT
 This is the benefit the consumer expects to receive when
buying a product.
COSTS
EXTERNAL COSTS
 These are costs that are not paid by producers and not
included in the price charge to consumers.
 External costs can be things such as a firm polluting a river
or a chip shop not taking into account the cost of tidying up
the wrappers.
SOCIAL COSTS
 Cost to society of all resources used as a result of
production and consumption
 Social Cost = Private Cost + External Cost
BENEFITS
EXTERNAL BENEFIT
 This is the benefit someone gets even if they have not
paid for it.
 E.g. someone who pays for medicine does not just benefit
them but benefits those around them
SOCIAL BENEFIT
 Social benefit = private benefit + external benefit
EXTERNAL COSTS AND MARKET FAILURE
 If a producer does not consider the external costs of their
products then production will exceed what it should ideally
be.
 Resources will be over-allocated to the production of that
good.
 If a firm creates external costs then the government can
intervene and:
 Impose direct controls on the industry. E.g. limit pub opening
hours, or limit number of consumers by age.
 Impose a tax which would be equal to the external cost. This
would move the supply curve to the left, increasing price and
quantity fall.
EXTERNAL BENEFITS AND MARKET FAILURE
 If a producer does not consider an external benefit then
output is lower than it should be.
 Price would fall and consumers would demand more.
 To encourage production the government could intervene
and give a subsidy equal to the external benefit.
PUBLIC GOODS ARE NOT PROVIDED
 All public goods have three characteristics:
 A consumer can use it without reducing the amount
available to others.
 The producer (i.e. government) cannot exclude
consumers from using it.
 A consumer cannot choose to consume the product.
 Public goods cannot be provided by a free market system
because of the FREE RIDER PROBLEM.
 Government need to provide them and pay for them
through taxation.
MERIT GOODS ARE NOT PROVIDED
 These are given to people who merit them, either free or at a
reduced price.
 They differ from public goods in that they are:
 Rival – if you are using it someone else can’t.
 Excludable – you can be excluded from using it
 Rejectable – in most cases the consumer can decide not to use
the service.
 In a free market economy there would be wide differences in
income and wealth so that people on low incomes could not
afford certain desirable services.
 In a mixed economy the government will intervene to provide
things such as education and healthcare
INEQUALITIES OF INCOME AND
WEALTH
TOPIC 4
The UK Economy (Macroeconomics)
INCOME
It includes:
 Investment
 Work
 Social Benefits
UNEVEN DISTRIBUTION
 This is because of:
 Age and unemployment
 Uneven distribution of skills and talents
 Different education opportunities
 Unequal ownership of wealth
WIDENING OF THE GAP
 The gap between rich and poor has widened since the
1980s because:
 Few jobs in manufacturing but more in service industries,
which tend to be part-time and low paid
 Reduced bargaining power for workers
 An ageing population
 More regressive taxation
WEALTH
 This is what people own. It refers to their assets e.g.
house, bank account, shares
 It is unevenly distributed by:
 Savings
 Inheritance
GOVERNMENT POLICIES
 Introduction of National Minimum Wage
 Helping people into employment
 Providing job training
 More progressive taxation on income and wealth
 Reducing tax and National Insurance for those on low
incomes
 Restructuring welfare payments
 Providing more merit goods or increasing cut off points
for free provision
CASE AGAINST INTERVENTION
 More taxation will have to be paid – less incentive to
work
 Reduced incentives would lower National Income
REGIONAL POLICY
TOPIC 4
The UK Economy (Macroeconomics)
BACKGROUND
 Differences in prosperity exist between different parts of
the country.
 Areas of industrial decline/ no new industry
 North/South divide
INTERVENTION
FOR
 Labour is geographically
immobile
 Areas need new
infrastructure to be
made attractive
 Training required for
occupational immobile
workforce
AGAINST
 Wage rates will be less in
poor areas therefore
attracting investments
 Prosperous regions
become costly and
congested – driving
business away
Previous and Current Assistance
 Regional Selective Assistance
 Regional Enterprise Grants
 Highlands & Islands Enterprise
 Local Enterprise Companies
 Locate in Scotland
 European Regional Development Fund
 New Assistance?
See notes (93-94)
THE SCOTTISH ECONOMY
TOPIC 4
The UK Economy (Macroeconomics)
 OUTPUT
 Increase in services and energy versus a decrease in
manufacturing.
 This can also be reflected in employment figures.
 REGIONS
 Lothians and Borders higher GDP – service sector
 Grampian higher GDP – oil and gas revenues
 Strathclyde and Tayside GDP has fallen – manufacturing
sector
 FOREIGN FIRMS
 These firms are very important to Scotland, around 10% of
manufacturing firms are foreign owned.
 Proportion of Scots employed is higher than UK average.
 Advantages for firms
 Skilled labour
 Inside EU
 Good infrastructure
 Govt incentives
 External Economies of Scale
ADVANTAGES FOR SCOTLAND
 Employment
 Firms with advanced
skills
 Profitable companies
 Boosts exports
DISADVANTAGES FOR SCOTLAND
 R&D carried out in other
countries
 Squeeze on firms in
times of recession
 Potential for grants to
stop