HIGHER GRADE ECONOMICS
GOVERNMENT POLICIES
Fiscal Policy
Definition:
Fiscal Policy involves the Government changing the levels
of Taxation (Income Tax, VAT and Corporation Tax) and
Government spending (on housing, education, defence etc)
in order to influence Aggregate Demand and therefore the
level of economic activity.
The purpose of Fiscal Policy:

Reduce the rate of inflation (currently the UK
government has an inflation target of 2%)

Stimulate economic growth in a period of recession.

Basically fiscal policy aims to stabilise economic
growth, avoiding the boom and bust economic cycle.
Expansionary Fiscal Policy
This involves increasing aggregate demand. The
government will increase government expenditure and cut
some/all taxation. Lower taxes will increase consumers
spending because they have more disposable income. This
will worsen the government budget deficit, ie, they are
spending more than they are receiving in tax revenues.
Expansionary fiscal policy should help achieve economic
growth and full employment.
Deflationary Fiscal Policy
This involves decreasing aggregate demand. The
government will decrease government expenditure and
increase some/all taxation. Higher taxes will reduce
consumer spending because they will have less disposable
income. This will lead to an improvement in the
government budget deficit, ie, they are spending less
than they are receiving in tax revenues.
Deflationary Fiscal Policy should help to reduce the
level of inflation with the economy.
Monetary Policy
Definition:
Monetary Policy is the process by which the government,
central bank (Bank of England), or monetary authority of
a country controls –
the supply of money
the availability of money
the rate of interest
in order to achieve growth and stability of the economy.
Monetary Policy is referred to as either being an
expansionary policy or a contractionary policy.
Expansionary monetary policy increases the total supply
of money in the economy and is traditionally used to
combat unemployment in a recession.
Contractionary monetary policy involves raising interest
rates in order to combat inflation.
Supply Side Policies
Definition:
Supply Side Policies is the branch of economics that
considers how to improve the Productive capacity of the
economy. Supply side policies focus on the benefits of
making markets, such as the labour market, more flexible.
Benefits of Supply Side Polices:
Lower inflation – by shifting the supply curve (or total
output) of the economy to the right will cause a lower
price level. By making the economy more efficient, ie,
increasing output per worker, supply side policies will
help reduce cost push inflation.
Lower unemployment – supply side polices, eg, re-training
schemes, provision of more job centres etc, can help
reduce structural and frictional unemployment and
therefore help reduce the natural rate of unemployment.
Improved economic growth – supply side polices such as
grants, cheap loans and research and development will
increase economic growth by increasing supply or total
output and pushing the production possibility curve to
the right.
Improved trade and Balance of Payments – by making firms
more competitive they will be able to export more. This
is important in light of the increased competition from
abroad.
All UK Governments have 4 main objectives/targets:

low unemployment

low inflation – target is 2%

a steady rate of economic growth

a positive balance of payments – to export more than we
import.
Other possible objectives:

to protect the environment

to reduce inequality in the country – to redistribute
income and wealth in order to help the very poor.