Economics - Macroeconomic Policies

Overview of Macroeconomic Policies. NOTE: some supply-side policies are mentioned in fiscal and monetary policy as they cross over. AS Economics Unit 2 AQA

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  • Created by: Clodagh
  • Created on: 12-04-13 10:35
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  • Macroeconomic Policies
    • Fiscal Policy
      • Involves the use of taxation and government spending REMEMBER: Fizzy G+T
      • Fiscal policy fulfils demand management, supply-side policy, microeconomic objectives and the redistribution of income and wealth
      • It influences agregate demand (the toal demand within an economy). It is made up of consumption, investment, government spending and net exports
        • Increased government spending is known as expansionary or loosening fiscal policy. This increases AD
        • AD = C + I + G + (X - M)
      • Government spending is usually on merit goods and publics as it aims to correct market failures
        • Current spending: running the public sector e.g wages
        • Capital spending: looking to improve productive capacity e.g infrastructure
        • Transfer payments: no service in return for their spending e.g JSA
      • Also used to influence aggregate supply (the total value of goods and services in an economy). There are changes in taxation and government spending to create incentives for firms
      • Fiscal Policy and Demand Management
        • Before Keynes, governments aimed to balance their budgets with taxation equalling government spending so  G = T
        • In the 1930's economic growth was low and unemployment high so Keynes suggested a budget deficit where G > T
          • This is expansionary fiscal policy and increases AD and so boosts GDP
        • If inflation is high and the balance of payments in deficit, then a budget surplus where G < Twould take money out of the economy
          • This is an example of contractionary fiscal policy
        • Discretionary fiscal policy is the deliberate manipulation of the budget to achieve macroeconomic aims
          • This involves targeting budget deficits if economic growth and full employment are the main aims
          • This involves targeting a budget surplus if the priority is low inflation and better balance of payments
      • Fiscal Policy and Supply-side Policies
        • Examples of supply-side measures include reduced taxes, cuts in welfare benefits and spending on infrastruture
        • Tax increases and spending cuts are politically unpopular and so budget surpluses are less common
        • Since 1979 the aim of the government has been to provide a balanced budget over time
          • There has been 6 budget surpluses and 28 budget deficits
      • Microeconomic Aims
        • Government spending and taxation are used to avoid microeconomic market failure
        • Indirect taxes are imposed on demerit goods or goods that cause negative externalities, to reduce their consumption
        • Subsidies are given to producers of merit goods that create positive externalities, to increase their consumption
      • Redistribution of Income and Wealth
        • Spending on welfare benefits, pensions, the NHS  and state educations are examples of the aim to redistribute income and wealth
        • Progressive taxation, such as income tax (where a higher percentage is taken from high earners), helps redistribution
        • Redistribution conflicts with supply-side policies and so in recent decades inequalities have increased
    • Monetary Policy
      • The use of the banking system to achieve macroeconomic objectives and has three main strands: interest rates, money supply and the exchange rate
      • Interest Rates
        • The Bank of England is a public corporation owned by the government. The Monetary Policy Committee (MPC) of the Bank of England meets each month to set interest rates
        • Higher interest rates have two major influences on aggregate demand
          • They make borrowing more expensive and so lead to lower consumption (C)
          • They also lower investment (I) by firms as it is more expensive to borrow
            • This is known as contractionary monetary policy
              • They make borrowing more expensive and so lead to lower consumption (C)
        • The government's target for which the Bank of England is responsible is to achieve 2% CPI inflation. If inflation is expected to exceed 2% then the MPC is likely to set higher interest rates
        • Lower interest rates have the opposite effect to higher interest rates and encourage consumption and investment. This is expansionary monetary policy. This will be used if inflation is below 2%
        • Interest rates are currently at 0.5%
          • This makes it impossible to follow an expansionary monetary policy by reducing interest rates
            • Instead the Bank of England has used quantitative easing, which pushes more money into the economy
        • Changes in interest rates have a large effect on AD
          • It affects the housing market as higher interest rates increase the cost of mortgages
          • When businesses and consumers are worried about the risk of a recession, an interest rate cut can boost confidence and then boost AD
      • Money Supply
        • This is the total of monetary assets, such as cash and credit, available in an economy
        • Money is defined as 'anything that is widely accepted in exchange for goods and services'
          • Money performs four main functions: a medium of exchange, a store of value, a unit of account and a standard of deferred payments
        • If money, such as cash, bank deposits and credit cards, increases dramatically then it may cause inflation and so the government may wish to control the money supply
      • The Exchange Rate
        • It is the rate at which one currency exchanges for another
        • The increase in value of sterling means that UK exports are more expensive in Europe as euro countries need to pay more euros for each pound
          • TIP: Remember the term SPICED, meaning Strong Pound, Imports Cheaper, Exports Dearer
          • A depreciation in the pound would make it cheaper for foreign buyers to purchase UK goods
        • A strong pound will lower aggregate demand due to the worsening of the balance of payments  (X - M)
        • Exchange rates are set by market forces, but governments are major buyers of currency and so can exert some influence on rates to further their economic aims
        • A strong pound also means lower costs of production for firms, but it does mean slower economic growth
      • The main objective is stablising prices and therefore inflation
      • It has little direct impact on long run aggregate supply
    • Supply-side Policies
      • These are measures intended to increase the productive capacity of the economy
      • Cutting taxes: to encourage effort as firms, entrepreneurs and workers will keep a larger percentage of their gross income
      • Reducing welfare benefits: to discourage people from relying on the state, and pressure them to seek employment
      • Improving factor mobility: measures to overcome factor immobility will improve the working of the market
      • Expanding education and training: this will improve labour productivity and the flexibility of the work force
      • Promoting enterprise and innovation: to provide more choice, competition and new ideas





WOW! this is amazing, thank you


This mind map covers all macroeconomic policy. I found it a little complicated as there were many strands but for students who like to learn from mind maps and who have the patience to follow it through, this would be valuable

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