Demand-side policies and Supply-side policies

Question 1

Define fiscal policy

Answer 1

Fiscal policy is when the government changes its spending and taxes to help the economy.

Question 2

Explain the nature of a government budget

Answer 2

A budget shows how much money the government plans to collect (taxes) and spend. If it collects more than it spends, it has a surplus. If it spends more than it collects, it has a deficit.

Question 3

Explain the goals of fiscal policy

Answer 3

The government uses fiscal policy to grow the economy, reduce unemployment, and control inflation.

Question 4

What is expansionary fiscal policy?

Answer 4

It’s when the government spends more or cuts taxes to increase demand and boost the economy.

Question 5

What is contractionary fiscal policy?

Answer 5

It’s when the government spends less or raises taxes to slow down inflation and stop the economy from overheating.

Question 6

What’s the effectiveness of fiscal policy?

Answer 6

It depends on how fast it works, whether it leads to too much debt, and how businesses and consumers react.

Question 7

What are the constraints on fiscal policy?

Answer 7

• It can take time to work.
• Too much spending can create debt.
• Higher taxes can slow growth.

Question 8

Why is a sustainable level of government debt a macroeconomic objective?

Answer 8

If debt gets too high, the government may struggle to pay it back, leading to higher interest rates and less money for important services.

Question 9

What are the potential costs of a high level of government debt?

Answer 9

• The government must spend more on interest payments.
• Higher debt can lead to higher taxes in the future.
• It can reduce investor confidence in the economy.

Question 10

What is the multiplier effect?

Answer 10

A small increase in spending can lead to a much bigger increase in total income and demand in the economy.

Question 11

Explain and calculate the Keynesian multiplier

Answer 11

The multiplier = 1 / (1 - MPC). If people spend 80% of what they earn (MPC = 0.8), the multiplier is 1 / (1 - 0.8) = 5, meaning a $1 increase in spending leads to a $5 increase in total demand.

Question 12

Define monetary policy

Answer 12

Monetary policy is when the central bank changes interest rates or the money supply to control inflation and help the economy grow.

Question 13

Explain the goals of monetary policy

Answer 13

The main goals are to keep prices stable, help the economy grow, and reduce unemployment.

Question 14

What is expansionary monetary policy?

Answer 14

The central bank lowers interest rates or increases the money supply to encourage borrowing and spending.

Question 15

What is contractionary monetary policy?

Answer 15

The central bank raises interest rates or reduces the money supply to slow inflation.

Question 16

What’s the effectiveness of monetary policy?

Answer 16

It works well if people and businesses respond to interest rate changes, but it can be less effective if banks don’t lend money or if people don’t want to borrow.

Question 17

Explain the process of money creation by commercial banks

Answer 17

Banks keep a small part of deposits and lend out the rest. This creates more money in the economy as loans turn into deposits for others.

Question 18

What tools are available to governments to control the money supply?

Answer 18

• Changing interest rates
• Buying/selling government bonds
• Changing the amount of money banks must keep in reserves

Question 19

Explain the tools of monetary policy

Answer 19

• Open market operations: The central bank buys or sells bonds to control money in the economy.
• Reserve requirements: It sets how much money banks must keep instead of lending.
• Interest rates: Lowering rates makes borrowing cheaper; raising them makes borrowing more expensive.

Question 20

Explain the determination of the equilibrium nominal interest rate

Answer 20

The interest rate is set where the demand for money equals the supply of money in the economy.

Question 21

Explain and calculate the difference between the nominal interest rate and the real interest rate

Answer 21

Real interest rate = Nominal interest rate - Inflation rate. If the nominal rate is 6% and inflation is 2%, the real rate is 4%.

Question 22

How can the government use fiscal/monetary policy to alter the level of AD in the economy?

Answer 22

• Fiscal policy: Changing government spending or taxes.
• Monetary policy: Changing interest rates or the money supply.

Question 23

What are some real-world examples of the effectiveness of fiscal policy?

Answer 23

• The U.S. stimulus in 2008 helped the economy recover from the financial crisis.
• COVID-19 relief spending helped prevent an economic collapse.

Question 24

What are some real-world examples of the effectiveness of monetary policy?

Answer 24

• The Federal Reserve’s interest rate cuts in 2008 helped stabilize the economy.
• The European Central Bank’s policies after 2010 supported recovery.

Question 25

Define supply-side policies

Answer 25

Policies that help businesses and workers be more productive, increasing the economy’s long-term growth.

Question 26

Explain the goals of supply-side policies

Answer 26

The main goal is to make the economy more efficient so it can produce more goods and services.

Question 27

Explain different market-based supply-side policies

Answer 27

• Lower taxes: Encourages work and investment. • Deregulation: Reduces business costs. • Privatization: Makes businesses more competitive. • Labor market reforms: Increases flexibility and reduces unemployment benefits.

Question 28

What are the pros and cons of market-based supply-side policies?

Answer 28

• Pros: More competition, lower costs, more innovation. • Cons: Can increase inequality and reduce worker protections.

Question 29

What are different interventionist supply-side policies?

Answer 29

• Infrastructure investment: Roads, bridges, and technology improvements. • Education and training: Better skills for workers. • Healthcare investment: Keeps workers healthier and more productive.

Question 30

What are the pros and cons of interventionist supply-side policies?

Answer 30

• Pros: Boosts long-term growth, helps workers, improves equality. • Cons: Expensive, takes time, may lead to higher taxes.

Question 31

Explain how supply-side policies and demand-side policies may be connected

Answer 31

Some policies, like tax cuts or infrastructure spending, can boost demand in the short run and also increase long-term productivity.

Question 32

Explain how a reduction in taxes may be considered as both a demand-side policy and a supply-side policy.

Answer 32

• Demand-side: More disposable income means people spend more. • Supply-side: Encourages businesses to invest and people to work more.

Question 33

How might government spending on infrastructure be seen as both a demand-side policy and a supply-side policy?

Answer 33

• Demand-side: Creates jobs and boosts spending. • Supply-side: Improves transport and technology, making businesses more productive.

Question 34

What’s a real-world example of an effective interventionist policy that might be used to increase LRAS?

Answer 34

Germany’s investment in education and apprenticeships has improved skills and productivity.

Question 35

What’s a real-world example of an effective market-based policy that might be used to increase LRAS?

Answer 35

The UK’s privatization of industries in the 1980s increased efficiency and competition.