Nicole Li
4.1 The role of government
Name the 6 roles of the government Employer, producer, provider, consumer, law maker and regulator, tax setter and collector
Examples of public sector organisation Central and local government authorities (military), public corporations, NHS
1. Current expenditure (recurring spending that are consumed within each ifnancial year, e.g wages of public
sector workers, state pensions, welfare payments, running costs of government offices)
Give 2 types of public expenditure and explain 2. Capital expenditure (investments in long-lived assets to expand productive capacity, e.g. roads, dams,
their differences airports)
3 types of governments Local, regional, national
4.2 The macroeconomic aims of government
A measurement of the total amount of demand for all finished goods and services produced in an economy,
expressed as AD=C+I+G+(X-M) [aggregate demand=consumption+investment+government
Definition of aggregate demand spending+exports-imports].
Definition of aggregate supply A measurement of the total supply of goods and sercices available to a particular market from producers.
Indicators for aggregate supply Gross domestic product (GDP), gross national income (GNI), real national output (RNO)
Economic growth, high and stable employment, low and stable price inflation (2% UK), stable balance of
4 main focuses of macroeconomics payments
HIgh inflation will:
reduce the purchasing power of people's income,
Explain why low and stable price inflation is cause hardship for person on low income,
one of the 4 main macroeconomic aims (high increase business costs,
inflation will:) -4 make goods and services produced in the economy less competitve
High unemployment will:
Cause hardship for people who lose their jobs
Reduce spending on G&S can cause production to fall
Explain why high and stable employment is increase public spending welfare payments to support the unemployed and their families
one of the 4 main macroeconomic aims -4 Cause negative multiplier effect+cyclical unemployment
Growth will:
Boost firms' revenues and profits
Boost output, incomes, jobs (reduce unemployment), and living standards
Boost capital investments by firms
Explain why economic growth is one of the 4 Increase tax revenue for government to finance its spending
main macroeconomic aims -5 Lower inflation
Explain why a stable balance of payments is [trade of balance deficit: M>X]
one of the 4 main macroeconomic aims (If a It may run out of foreign currency to buy imports,
country has a deficit on its balance of The value of its currency may fall against other foreign currencies and make imports more expensive to buy
payments with the rest of the world:) -2 (causing imported inflation)
-Using expansionary MPFP to cure high unemployment (AD shifts out, and as labour is in derived demand,
demand for labour also shifts out)will cause demand-pull inflation.
-Using contractionary MPFP to cure demand-pull inflation will cause cyclical unemployment and stifle economic
growth.
-Faster rate of economic growth will reduce unemployment and increase wages, leading to an increase in
Explain how macroeconomic aims might people's disposable income and the consumption of imports. Thus, this affects the balance of trade payments
conflict. and reduces AD.
4.3 Fiscal policy
1. provide public goods and merit goods that are often underprovided to corrent complete and partial market
failure (education, street lighting etc) to correct complete market failure
2. invest in national infrastructure (airports, roads)
3. manage the economy with fiscal policy (and supply-side policy), e.g. expansionary FP to boost total spending
and AD during an economic recession to reduce cyclical unemployment
Reasons for government spending 4. reduce income inequality by income tax and welfare benefits
1. Tax revenues
2. Interest payments on government loans
3. rents from publicly owned land and property
Types of public revenues 4. Sale of gov-owned industries
Definition of national debt The total amount of money borrowed by the public sector of a country over time that has yet to be repaid.
When the rate of growth of the national debt is higher than the rate of economic growth (increase of
When does the national debt impose a concern? GDP/AS/RNO)
Tax burden definition Total tax revenue as a proportion of the national income of the country
Raise tax revenue
Manage the macroeconomy (Exp Cont FP)
Stifle economic growth
Reduce income inequality after progressive income tax
Discourage spending on imports with tariffs
Discourage consumption and production of demerit goods (excise duties) =correct partial market failure
7 reasons for taxation Protect the environment
Equity (fair)
Non-distortionary (e.g. income tax not too high to reduce incentives to work)
Certainty (stable tax rates)
Convenience (easy to pay)
Simplicity (easy to understand)
6 characteristics of a good tax Administrative efficiency (cheap and easy to collect)
2 taxes affecting elasticity of supply Specific tax (tax per unit constant at every Qt). Ad valorem tax (VAT tax per unit increases as Qt increases)
1. Direct tax (taxes collected directly from incomes and personal wealth, paid directly to the government) -
Income tax, corporation tax, inheritance tax
2. Indirect tax (taxes indirectly collected from incomes when they are spent on G&S, can be avoided. all
imposed on producers, but some will be burdened to the consumers) - Value Added Tax (VAT), excise duty,
tariffs
2 types of taxes, definitions and examples
(+2) National, local
, 3 tax systems Progessive (inc income inc % income tax), Regressive, Proportional
High revenue yield
Progressive to reduce income inequality
3 Advantages of direct tax Takes into account ability to pay
dec disposable income, dec consumption, dec AD, stifle economic growth
inc cost of production, dec demand for labour, inc unemployment
income tax dec work incentives, dec labour productivity and supply
corporation tax dec profits, dec innovation and enterprise
5 Disadvantages of direct tax inc tax evasion
discourage demerit goods
wide tax base
cost effective to collect
4 advantages of indirect tax flexible
regressive will worsen income inequality
cause cost push inflation
tax revenues less certain as they depend on spending patterns
4 disadvantages of indirect tax tariffs might not be effective as the tax incidence/burden falls more on consumers for demerit goods
Incentive to work, government tax revenues, income distribution, economic growth, inflation, trade balance,
7 main effects of change in tax rates business location
A demand-side policy by the government which uses government spending and taxation to influence aggregate
Definition of fiscal policy demand in the macroeconomy
Expansionary FP. Cutting tax=inc disposable income=more consumption=higher AD. =more profits and less
variable costs=more production=higher AS. less income tax=higher incentive to work=more labour
How does cutting tax promote economic growth? supplied=more AD.
A financial forecast set by the government to plan public spending and raise tax revenues for the financial year
Definition of the budget ahead
Explain what balanced budget, budget deficit Balance budget: Govt spending=Public revenue. Deficit= Govt spending>Public revenue. Surplus: Govt
and budget surplus are. spending<Public revenue
Spending targeted on specific industries, short time lag, redistributes income through taxation, increased
Strengths of fiscal policy consumption of merit and public goods, reduces negative externalities thorugh taxation, G can inc AS
Public spending can crowd out private spending
cumbersome to use
causes demand pull inflation
4 problems with fiscal policy high income and corporation tax can decrease work incentives and innovation=dec AS
4.4 Monetary policy
A demand-side policy used by the government to regulate the aggregate demand of the economy by changing
Definition of monetary policy the interest rate, exchange rate and money supply in the economy.
What is 'liquidity of money'? What will lead to How easy it is to convert a financial asset (bonds, bank deposits, stocks...) into cash without incurring a major
increase in liquidity of money? loss in value. Low interest rates.
There are 2 ways to increase money supply in an economy for expansionary fiscal policy; lowering interest
rates and quantitative easing (printing more notes and coins and buying more government bonds to decrease
yield and interest rates).
1. Lower IR=increase liquidity of money=more financial assets exchanged into cash=more money supply=more
consumption=more AD
2. central bank printing more money/creating new digital money->central bank buying more (government)
bonds from financial institutions (commercial banks) (public buy less govt bonds)=increase price of
bonds+decrease interest rates (yield) of bonds=firms loan this money or use it to invest in more riskier
stocks=increase price of stocks and decrease interest rates for households=more disposable income for
Explain how money supply affects AD. borrowers=more consumption=more AD
Expansionary monetary policy; lowering interest rates causes a decrease in value of local currency, which
decreases exchange rates. Depreciation of national currency causes exports to become cheaper and imports
more expensive, exports cheaper increases incentive for foreign economies to purchase, increase in X; imports
more expensive mean less incentive for locals to purchase imports, leading to a decrease in M. These two
combined cause a balance of trade payments surplus, which contributes to the increase in AD.
Explain how exchange rates affect AD. Contractionary vice versa.
The central bank printing more notes and coins and buying more government bonds to decrease yield and
Definition of quantitative easing interest rate, thus increasing money supply.
The rate at which one currency can be exchanged for another on the foreign exchange market. (lower
Definition of exchange rate exchange rate means depreciation of national currency)
Higher interest rates offer lenders in an economy a higher return relative to other countries. Therefore, higher
How do exchange rate and interest rate interest rates attract foreign capital and cause the exchange rate to rise as the demand for that currency
interact with each other? increases.
The exchange rate for US dollars from Indian currency increased=appreciation of US dollars (more Indian
currency is now required to purchase same amount of USD)=US exports expensive imports cheap=balance of
trade deficit=decrease in AD.
From India's perspective: (more expensive imports from US=inflation) Need to increase IR to inc foreign
Interpret "a fall in the value of the Indian exchange rate of rupee=higher demand for rupee (higher reward to exchange and save in India)=appreciation
currency against the US dollar". of rupee
Definition of hot money flow The flow of money between two economics to gain short-term profits on interest rate differences
The Bank of England operates independently from the Government,
and is able to consider the long-term outlook,
targets inflation and maintains stable prices,
Strengths of monetary policy depreciating the currency can increase exports
Conflicting goals (econ growth -> inflation), time lags, low consumer confidence will not repsond to low interest
rates, cheaper loans may inflate asset prices in the long term, interest rates has limitations on downward
Weaknesses of Monetary policy adjustments
4.5 Supply-side policy
Supply side policy definition Policies that aim to boost productive potential and increase aggregate supply
