Supply-side Policies Flashcards
(23 cards)
What are supply-side policies?
Policies aimed at improving the productive capacity of the economy by improving the quantity, quality and/ or mobility of the factors of production
What are free market supply side policies?
- free market economists believe allocative efficiency is best when the free market is left to its own devices
- e.g. deregulation, tax/ benefit reform, corporation tax reform, privatisation
What are interventionist supply side policies?
- interventionists argue that the government in some cases has to intervene in the economy as a whole and individual markets
- e.g. education and training (government spending), redefine labour markets (change legislation)
Deregulation explanation
- labour markets are highly regulated with things such as maternity pay
- ^free market economists argue this reduces productivity, makes it more difficult and expensive to find labour and drives firms away from the country
- a deregulated labour market will increase the quantity of labour and enterprise (more firms incentivised to set up and hire workers)
- also environmental regulations increase costs for firms/ barriers to entry
Deregulation evaluation
- deregulation increases inequality (owners of the firm will have more profit but workers have lower and insecure incomes)
- insecure incomes will decrease MPC which reduces aggregate demand
- likely fall in tax revenue if deregulated labour markets are scaled up as they are less formal
Tax/ benefit reform explanation
- reduced income tax at the lower end incentivises people to join the labour force, especially true if out of work benefits are also reduced or made harder to claim
- the voluntarily unemployed will join the labour force which increases the quantity of labour
- reduced income tax at the top end will incentivise the most talented workers to stay in the country and improve their performance
- ^this increases quality of labour and a ‘trickle down effect’ as high income individuals spend more creating a multiplier effect
Tax/ benefit reform evaluation
- government receives less tax revenue and so will either cut public services or run a larger deficit
- ^free market economists would counter this by saying it’s true in the short run but in the long run more employment and lower benefits will improve the budget position
- this assumes there are jobs available/ there isn’t geographical and occupational immobility
- if benefits are cut and people do not become employed then nothing is gained and poor people are made poorer
Corporation tax reform explanation
- cuts to corporation tax would mean firms have more retained profits for investment
- lower corporation tax incentivises firms to stay in the country and invest in human/ physical capital
- low corporate tax incentivises nee firms to set up and attracts foreign investment
- more investment by firms increases the quality of labour and capital/ more firms joining the economy increases quantity of enterprise
Corporation tax reform evaluation
- the Laffer curve predicts lower tax rate may increase tax revenue as fewer firms are incentivised to use ‘creative accounting’ to pay the full amount
- increased retained profit may not lead to more investment, firms could just pay higher dividends to shareholders
- firms may choose to invest in operations outside of the UK
- if the Laffer curve theory is incorrect, like most economists believe, then all that will happen is a tax revenue loss and increased budget deficit
The Laffer Curve
- the curve shows that as tax rates increase, tax revenue increases until a certain point
- after this certain point (at the peak of the curve) the revenue will decrease despite rates increasing
- this is because high rates will disincentivise firms from investing
- it also disincentivises workers from working harder for a pay rise
- it incentivises tax avoidance and emigration of skilled labour and firms outsourcing production
- the figure for the peak of the curve is arbitrary
Privatisation explanation
- some industries are state-owned enterprises, typically in strategic infrastructure sectors with high start- up costs such as transport
- the production costs are financed by the state and profits are reinvested or used to support government spending (state monopoly)
- free market economists argue nationalised enterprises are inefficient, no competition means they lack market discipline and no incentive to be more productive
- turning these into private markets will reintroduce competition and productive efficiency increasing quality of enterprise
Privatisation evaluation
- due to the sectors of nationalised industries having high barriers to entry/ start-up costs, only large firms are attracted
- most state monopolies then become private oligopolies with a lack of market disciplined, higher prices and poor service
- in order to maintain a surplus on the financial account the UK has to sell assets meaning many of these industries are run by foreign firms, e.g. Tata Steel
What is developing infrastructure? (Interventionist)
Infrastructure is large scale systems that facilitate the production of goods and services such as transport, energy supply etc
Improving infrastructure will improve productivity thus improve the supply side of the economy
Evaluation of infrastructure investments
They are expensive and may have a high opportunity cost. They have a long time-lag (positive effects aren’t felt until much later). Crowds out private enterprise
What is education & training improvements (interventionist)?
This improves the supply-side as the UK is a knowledge economy (tertiary and quaternary sector), therefore less occupational immobility of labour
Evaluation of education and training
Can have a high opportunity cost and has a significant time-lag and it may not be enough to resolve occupational immobility of labour
What are subsidies (interventionist)?
Subsidies are money given by the government to firms to reduce production costs which will allow them to sell at a lower price increasing their demand and taking market share from incumbent firms.
This improves the quality and quantity of enterprise
Evaluation of subsidies
Opportunity cost. Reduces incentive for firms to cut costs, disincentivising productive efficiency reducing the quality of enterprise
Allocative efficiency is more likely under a free market. Government may mistakenly subsidies an industry without capacity for growth or global competitiveness
What are changes in the labour force (interventionist)?
The government can increase the quantity of labour if there are labour shortages, e.g. encourage more women into the workforce by subsidising childcare or increase the retirement age
Evaluation of changing the labour force
Subsidising childcare will only work if increased demand is met by increased supply but supply is scarce. Increasing the retirement age assumes that it’s beneficial for older workers to remain in their jobs. Encouraging immigration may strain public services
When would it be better to use free market supply side policies?
If long-term growth is impeded by an over-regulated and immobile labour force/ markets (depends on what problem you’re trying to solve). If it won’t lead to significant inequalities (depends on how harmful the tradeoffs are).
When would it be better to use interventionist supply side policies?
If there is a need to improve general education levels (depends on what problems you’re trying to solve). If intervention won’t worsen the government’s budget position and make markets less efficient (depends on the tradeoffs)
