Macroeconomic Policies

HideShow resource information
Define fiscal policy
the manipulation of public spending, taxation and borrowing to achieve the government's macroeconomic objectives
1 of 81
What are the main objectives of taxation? (5) (should be able to explain each)
Funding government spending, managing the economy as a whole, redistribution of income, correcting market failure, tariffs/custom duties to discourage imports
2 of 81
Give 9 principles of taxation. (should be able to explain at least 4)
Economical, equitable, convenient, certain, efficient, flexible, inflation adjusted, non-incentive-reducing, politically acceptable
3 of 81
Define indirect taxes.
a tax levied on good/service such as VAT or value excise duties
4 of 81
Define direct taxes.
A tax levied directly on an individual or organisation e.g. income tax
5 of 81
List 6 advantages of indirect taxes compared to direct taxes (should be able to explain/evaluate each)
Influences spending patterns, corrects externalities, incentive effects, flexibility, choice, people unaware what they're paying (=good for government)
6 of 81
List 4 disadvantages of indirect taxes compared to direct taxes (should be able to explain/evaluate each)
Distributional effects, inflationary effects, crime and lack of announcement effect
7 of 81
List 4 advantages of direct taxes compared to indirect taxes (should be able to explain/evaluate each)
Equitable, economical, certain and productive
8 of 81
List 3 disadvantages of direct taxes compared to indirect taxes (should be able to explain/evaluate each)
Inconvenient, evadable, disincentives
9 of 81
How else can taxes be separated (4 ways)
Progressive/regressive, macro/micro, demand/supply-side, automatic/sicretionary
10 of 81
What is a progressive tax?
when the proportion of a persons income paid in tax increases as income increases
11 of 81
What is a regressive tax?
When the proportion paid in tax falls as income increases e.g. VAT
12 of 81
Proportional tax
When the proportion of income paid in tax stays the same as income increases
13 of 81
What are the 5 purposes of government spending
To improve the productive capacity of the economy, to influence AD, to provide public goods, to subsidise merit goods, to improve the distribution of income and reduce poverty
14 of 81
What are the three types of government spending?
Current- day to day salaries e.g. policeman, capital investment projects e.g. HS2, transfer payments- payments for which there is no corresponding output e.g. welfare benefits
15 of 81
Give the 6 factors effecting the level and distribution of government spending
size of deficit, size and age of population, stage of business cycle (automatic stabiliser), discretionary fiscal policy (i.e. manipulation of AD), changing priorities e.g. spending on defence during the war, level of interest on debt
16 of 81
What is a cyclical budget deficit?
The component of the deficit which rises and falls with the economic cycle
17 of 81
What is the structural budget deficit?
The component of the deficit which will not change throughout the economic cycle
18 of 81
What is public sector borrowing equal to?
The difference between public expenditure and revenue
19 of 81
What is public debt?
The cumulative total of past borrowing
20 of 81
What is the public deficit?
A flow, changes every month
21 of 81
Give 5 causes of an increase in borrowing in recent years
stimulus to get out of recession in 2008, public sector employment increased in 2000-2010, government bailed out the banks, the war (funding troops in Iraq), large amount of tax evasion
22 of 81
What are the two main rules in the code for Fiscal Stability (1998-2008)
The golden rule and the sustainable investment rule
23 of 81
What is the golden rule?
Governments should only borrow money to incest in new social capital e.g. schools and hospitals
24 of 81
What is the sustainable investment rule?
Over the economic cycle, public sector debt is to be held at a 'stable and prudent' level of less than 40% of GDP
25 of 81
What did the publication of this code signal?
That fiscal policy should NOT generally be used as a demand-management tool.
26 of 81
what is a condition of membership of European Monetary Union? (stability and growth pact)
Borrowing cannot exceed 3% of GDP and debt cannot exceed 60% of GDP (note UK do not have to stick to these rules, giving our gov. more flexibility in terms of how much we can borrow)
27 of 81
Up until 2013 what was the Chancellor's reason for cutting borrowing?
To keep our AAA credit rating
28 of 81
What do free-market economists argue?
The private sector is more efficient than the public sector therefore the economy works best when public borrowing+spending is low
29 of 81
What does whether government borrowing matters depend on? (4 things)
How its spent, how it will be financed, the proportion of GDP, whether its structural or cyclical
30 of 81
Give 5 arguments for why government borrowing matters (should be able to explain/evaluate each)
Inflation, crowding out effect, growing national debt, cost for future generations, if debt is growing faster than national income
31 of 81
Give 5 arguments for why government borrowing doesn't matter (should be able to explain/evaluate each)
If spent on investment, if used to manage demand, if its cyclical, a method of 'spreading out', its been higher in the past
32 of 81
What are supply-side policies?
Policies used to increase the productive capacity of the economy. They do this by increasing the quality and quantity of the factors of production, and the efficiency with which they are combined.
33 of 81
If successful...
...output can increase without inflationary pressure
34 of 81
They are ____-term in nature
35 of 81
They can be split into what three categories?
Labour market, product market and enterprise
36 of 81
Give 4 examples of labour market measures (should be able to explain/evaluate each)
lowering rates of income taxes, reducing state welfare benefits, education and training, trade union reforms
37 of 81
What are product market measures designed to do?
Increase the competition and efficiency of an industry
38 of 81
Give 2 examples of product market measures
privatisation, competition policy
39 of 81
Give 4 examples of policies to encourage enterprise.
cutting corporation tax for small businesses, allowing tax relief on capital spending, loan guarantees for new start-ups, and reduced regulation of businesses.
40 of 81
Give 3 examples of current and recent supply-side policies
Top rate of income tax cut to 45%, HS2- construction set to begin in 2017, 'New Deal'= programme of active labour market policies introduced in 1998 to reduce unemployment by providing training, subsidised employment and voluntary work to unemployed
41 of 81
Give 4 advantages of supply-side policies (should be able to explain evaluate each)
Reduces inflationary pressure, positive effect on labour productivity + competitiveness, less conflicts between the main objectives, allows enterprises to flourish (why UK has had steady growth)
42 of 81
Give 4 disadvantages of supply-side policies (should be able to explain each)
time-lags, costly, resisted by interest groups, negative impact on equity
43 of 81
Give 4 examples of ineffectiveness or lack of success of supply-side policies
not effective in a recession e.g. cutting benefits won't make people work if there aren't jobs. Productivity + int. comp. haven't improved noticeably in UK despite yrs of SS policies- UK labour market still has structural weaknesses
44 of 81
What is monetary policy?
The manipulation of the money supply, interest rates and exchange rates in order to achieve the government's macroeconomic objectives
45 of 81
What 3 things does a contractionary/tight monetary policy involve?
High interest rates, strong exchange rate, restricted money supply
46 of 81
What are the 4 functions of money? (should be able to explain each briefly)
Medium of exchange, a unit of account, store of value, standard of deferred payment
47 of 81
give 5 characteristics of money
divisible, durable, scarce, difficult to forge, portable
48 of 81
What is liquidity a measure of?
The ease at which an asset can be turned into cash
49 of 81
What are the two main measures of the money supply?
M0 (narrow money) --> consists of notes, coins and current accounts. M4 (broad money) --> consists of money that is not immediately accessible e.g. deposits held by private sector for transaction and saving purposes
50 of 81
What do interest rates measure?
The rate of return on savings and the cost of borrowed money. Therefore they affect both demand of, and supply for, money
51 of 81
What does the B of E do?
Sets the official base rate for the economy, which influences other interest rates
52 of 81
Draw the demand and supply curves for money
(see page 38 of macro notes)
53 of 81
A fall in interest rates tends to increase demand for money. However...
...people won't necessarily borrow more money (depends on consumer confidence), even if bank of england lowers their rates- commercial banks may not follow
54 of 81
What does a rise in interest rates do to a) consumption, b) investment
a) FALLS- due to a rise in saving, fall in effective disposable incomes due to higher mortgage payments, fall in demand for consumer durables purchased on credit. b)FALLS- cost of investment increases relative to yield (some projects = unprofitable)
55 of 81
c)confidence and d) X-M
c) FALLS, d) FALLS- due to a rise in the exchange rate
56 of 81
All these mechanisms are known as? and will?
the transmission mechanism, affect AD
57 of 81
What is quantitative easing?
When the central bank buys assets from commercial banks using 'new' money that it has created electronically in order to pump money directly into the financial system
58 of 81
The hope is that: (4 things)
bank lending starts to flow again --> confidence rises , AD increases and economy moves out of recession, inflation target achieved, high money supply lowers interest rates, which reduce exchange rate and UK more internationally competitive
59 of 81
What do critics say about QE? HOWEVER? BUT?
concerns that banks would just sit on money, and about high inflation. HOWEVER to this date this had not happened (inflation has actually continued to fall). BUT there would be a time lag
60 of 81
What is funding for lending and when was it introduced?
July 2012- a scheme which allows banks and building societies to borrow from the Bank of England at cheaper than market rates, on the condition that they will lend onto businesses and house-buyers
61 of 81
How many sessions of QE have we had?
3 since 2009
62 of 81
What is is thought to have done?
Prevented the UK from going into double-dip recession, despite us not having a rapid revovery
63 of 81
How have they used QE in America?
A steady programme of QE each month, which has been successful so far- known as 'drip feeding'
64 of 81
Where else has QE proven to be effective?
In Japan- economy has been stagnant for over 20yrs. One of Shinzo Abe's (the president of Japan's) policies (3 arrows) is an attempt to reflate economy = QE (initial signs of success as CPI up to 0.3%)
65 of 81
How are interest rates and exchange rates interlinked?
If interest rates rise higher than in other countries, there is likely to be an inflow of 'hot money'. This will boost demand for the currency and cause an appreciation of the exchange rate
66 of 81
What effects does this have?
fall in AD (restricted demand-pull inflation), and raw materials are cheaper (restricted cost-push inflation)
67 of 81
What are the 2 main objectives of monetary policy?
an instrument of demand management (prevents economy from overheating/there being spare capacity), to control inflation
68 of 81
History of monetary policy: What did they target in a) 1979-mid80's, b) late80's-1992, c) 1992
a) the money supply (monetarists who believed in fisher equation influenced the government)- but they found it too difficult to control how much banks lend, so inflation came down due to massive recession instead. b) exchange rate c) inflation
69 of 81
what happened in 1997?
The bank of england became independent and monetary policy committee was set up
70 of 81
What has happened very recently?
FORWARD GUIDANCE- Mark Carney (governor of B of E) said the Bank wouldn't consider raising interest rates until unemployment had fallen to 7%- gives companies and mortgage holders a feel for how long interest rates will be at their current low levels
71 of 81
What does this suggest that monetary policy is now targeting?
bank will keep all the main macroeconomic indicators within reasonable bounds rather than trying to hit a precise target
72 of 81
What does the MPC consider when making decisions about interest rates? (7 things- should be able to explain)
Growth rate in relation to long-run trend (2.5% a year) and position in economic cycle, labour market, commodity prices, movements in the exchange rate, recent inflation performance and forecast, monetary growth and asset prices
73 of 81
What have the outcomes been of independence of B of E?
Up to 2007, very successful at keeping within inflation target
74 of 81
Evaluation of this success... may have been due to? (4 things)
globalisation, greater labour market flexibility, technological change, role of the internet
75 of 81
When has the inflation target been overshot?
september 2008 at 5.8% and in september 2011 at 5.2%- due to oil and commodity prices BUT may have beendue to an attempt to boost AD to recover from recession
76 of 81
Summary: why MP effective (should be able to explain)
flexible (monthly), affect AD (C and I and X through exchange rate), Affect most people (lenders and borrowers)- effect on housing market particularly important, successful 1997-2008 (not open to political manipulation, credibility), no debt
77 of 81
very influential on confidence, QE may have prevented UK going into double/triple recession, success in Japan and america, funding for lending (but shouldn't be helping people buy houses- should increase supply)
78 of 81
takes time to take effect- 1yr to reduce demand, another to reduce inflation, difficult to control lending by banks, undesirable side-effects e.g. interest rates up, people unable to pay mortgages-repossessions + deters investment
79 of 81
Uncertain results- e.g. string can't push or liquidity trap, QE may be inflationary, can't achieve all objectives at once, change in exchange rate may not have an effect, banks might sit on money,
80 of 81
Evaluation points/questions (5) (should be able to explain)
Is inflation targeting most appropriate in a prolonged recession or would unemployment/GDP targets be better? how effective is loose monetary policy with tight fiscal? strong SS policies needed for sustainable recovery. Is growth achieved balanced?
81 of 81

Other cards in this set

Card 2


What are the main objectives of taxation? (5) (should be able to explain each)


Funding government spending, managing the economy as a whole, redistribution of income, correcting market failure, tariffs/custom duties to discourage imports

Card 3


Give 9 principles of taxation. (should be able to explain at least 4)


Preview of the front of card 3

Card 4


Define indirect taxes.


Preview of the front of card 4

Card 5


Define direct taxes.


Preview of the front of card 5
View more cards


No comments have yet been made

Similar Economics resources:

See all Economics resources »See all Fiscal policy resources »