4.2.5 — Fiscal Policy And Supply-side Policy Flashcards
(42 cards)
What does fiscal policy include the manipulation of? (3 things)
- Government spending
- Taxation
- Budget balance
What are the 2 types of indirect tax?
- Ad Valorem I.e (VAT)
- Specific tax I.e fuel duty
Which economist developed the ‘canons of taxation’?
Adam Smith
List the 6 Canons of taxation
- Collectible / Efficient
- Convenient
- Certain
- Equitable
- Economical
- Flexible
What are some limitations of fiscal policy?
- governments might have imperfect information about the economy — leading to inefficient spending
- there is a time lag — could take years to have an effect
- if the Gov borrows from the private sector, there are fewer funds available for the private sector — leading to crowding out
- the bigger the size of the multiplier, the bigger the effect on AD
- if interest rates are high, fiscal policy might not be effective for increasing demand
- if the government spends too much, there could be difficulties paying back the debt — makes it difficult to borrow in the future
Define current government expenditure
Spending which recurs. It is on goods and services which are consumer and last for a short time period
I.e drugs for the health service
Define capital government expenditure
Spending on assets, which can be used multiple times
I.e roads or building a school
Define transfer payments
Welfare payments from the government. They aim to provide a minimum standard of living for those on low incomes.
No goods or services are exchanged
I.e JSA, income support, child benefit, the state pension etc
Why do we have transfer payments as a society?
They are in place to ensure people have a basic standard of living and to help reduce the level of inequality across society.
Name the 3 types of public expenditure
- Current government expenditure
- Capital government expenditure
- Transfer payments
What is the size and composition of public expenditure within the UK in a global context?
Big spend by the Gov:
- pensions
- welfare benefits
- healthcare
- education
- social security payments
- little defence spending
Big revenue for the Gov:
- income tax
What is the significance of differing levels of public expenditure as a proportion of GDP on: productivity and growth, crowding out, level of taxation, equality and living standards?
-
Productivity and growth;
- Govs can spend money on supply side policies to improve human capital and boost long run growth
> human capital is important for competitiveness
I.e Gov could invest in youth apprenticeships schemes, education etc -
Crowding out;
- Govs might have to fund its spending via taxes or running a budget deficit — leaves fewer funds in the private sector which crowds firms out of the market.
> when the Gov borrows lots of money, IR increases which discourages spending (AKA the crowding out) -
Level of taxation;
- tax rates might increase if Gov debt gets too high, if confidence is lost in the Govs ability to repay the debt, Govs might have to raise IR to encourage investors to buy bonds — leads to higher taxes and austerity measures -
Equality and living standards;
- progressive taxes could be used to reduce inequality, since the poorest in society pay the least. Redistributive policies and welfare payments i.e income support could be used to help those on the lowest incomes
Describe the relationship between the budget balance and the national debt
If the Gov is continuously running a deficit, the size of the debt increases
If the Gov reduces the size of their deficit, the rate of increase of the total debt is slower, but the debt is still increasing
It is only when the Gov runs a budget surplus that the size of the national debt decreases
What is a cyclical deficit / when does it occur?
This is a temporary deficit, which is related to the business cycle. A deficit might occur during recessions, when governments increase spending to stimulate the economy
What is a structural deficit / when does it occur?
This is a deficit which is due to an imbalance in the revenue and expenditure of the government, so it exists at every point in the business cycle
What are the consequences of budget deficits and surpluses for macroeconomic performance?
- a fiscal deficit could be inflationary if it increases AD which would boost macro performance
- more Gov spending could lead to crowding out of the private sector, leaving fewer funds in the private sector for firms to use, since the Gov is borrowing money. This could slow economic growth (bad for macro performance)
- it could lead to increased IR. This is because the Gov has to offer investors an attractive rate in order to encourage them to buy the debt (bad for macro performance)
What is the significance of the size of the national debt?
- large debts meanthe cost of borrowing could increase, since by borrowing money, the Gov is increasing demand for credit in the economy
- if confidence is lost in the Govs ability to repay the debt, Govs might have to raise IR to encourage investors to buy bonds so they can finance debt
- high debt could lead to higher taxes and austerity measures, especially if the debt becomes uncontrollable
What is the role of the Office for Budget Responsibility?
- the OBR provides analysis of the UK’s finances
- they produce 5 year forecasts for the economy, including the impact of tax and spending changes announced in the budget
- they judge the Govs performance against their fiscal targets (to balance the budget 5 years ahead and have net public sector debt fall in 2015-16)
- they scrutinise tax and welfare spending measures
- they assess how sustainable public sector finances are in the long run
How can Gov spending and taxation affect the pattern of economic activity?
In terms of the level of economic activity, changes in taxation and gov spending will alter AD through their effects on household spending, capital spending by firms and net-export spending
Why does Govs levy taxes?
- raise revenue to cover public spending
- adjust the level of AD through discretionary changes or via adjusting the automatic stabilisers
- to alter the pattern of spending away from demerit goods and towards merit goods
- to help redistribute income through a progressive tax system
- to control imports through custom duties
What are the advantages and disadvantages of different taxes
Advantages:
VAT; can alter the pattern of spending
Income tax; can be made progressive and redistribute
Corporation tax; can be made progressive
Capital gains tax; raises a small amount of revenue
Disadvantages
VAT; usually regressive, changes infrequently
Income tax; national insurance is regressive — can have a disincentive to effect
Corporation tax; disincentive effect, capital flight from economy
Capital gains tax; disincentive effect, may encourage tax avoidance
What are the strengths and weaknesses of supply side policy?
Strength:
- They’re the only policies which can deal with structural unemployment, because the labour market can be directly improved with education and training
Weaknesses:
- demand-side policies are better are dealing with cyclical unemployment — can reduce the negative output gap
- significant time lags associated with supply side policies
- market-based supply side policies I.e reducing tax rates could lead to a more unequal distribution of wealth
Define supply side improvements:
These refer to general improvements in the productivity of the economy
What is the difference between supply side improvements and supply side policies?
Improvements: refer to general improvements in the productivity of the economy.
Policies: longer-term which attempt to improve the productivity and flexibility of labour and the competitiveness of firms
