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Flashcards by ALEXIS LEI YEE FAYE 3T, updated more than 1 year ago
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Created by ALEXIS LEI YEE FAYE 3T
about 7 years ago
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| Question | Answer |
| Define Fiscal Policy | Fiscal policy is the use of taxation and government expenditure strategies to influence the level of economic activity and macroeconomic objectives such as employment, economic growth, and control of inflation. Government spending to improve standards of living - more/better infrastructure, better housing, transport networks, railway lines etc. Fiscal policy is also used to redistribute income and wealth in the economy. Some countries have quite high rates of income tax to reallocate resources from wealthier individuals to the poorer members of society. |
| Uses of Fiscal Policy | Expansionary fiscal policy is used to stimulate the economy by increasing government spending and/or lowering taxes. It is often used to reduce the effects of an economic recession. Contractionary fiscal policy is often used to reduce the level of economic activity by decreasing government spending and/or increasing taxes due to excessive inflationary pressures. It helps to redistribute income and wealth by the use of progression taxation. |
| Progressive Taxation | A progressive tax in which the tax rate increases as the taxable amount increases. The term frequently applied in reference to personal income taxes, in which people with lower income pay a lower percentage of that income in tax than do those with higher income. Fiscal policy can be used in conjunction with supply-side policies to affect the productive capacity of the economy. It can thus contribute to long-term economic growth. |
| Examples of how Fiscal Policies can affect the Supply-Side of the Economy | Incentives to work: Cuts in income tax can be used to create incentives for people to seek employment and to work harder. Reducing social welfare programmes such as unemployment benefits might create incentives for people to seek employment. Increasing government expenditure: Government capital expenditure on infrastructure (such as roads, schools, hospitals etc.) helps to boost further investment expenditure in the economy; also lower rates of corporate taxes also help to attract foreign direct investment in the country. Increasing government expenditure on workforce by investing in education and training: This boosts the productivity of labour. This is also done in tandem with healthcare and transport policies to further boost the labour productivity. |
| Limitations of Fiscal Policy | Time lags: Recognition lags - there is a time lag in recognizing that government intervention is needed to affect the level of economic activity as governments do not necessarily know if the economy is growing too fast (or declining too fast) Administrative lags - there is a time delay between recognizing the need for fiscal policy intervention and actually implementing appropriate action, such as approving budget changes. Impact lags - time lag between implementing fiscal policy and seeing the actual effects on the economy for eg. a cut in income tax will take time to have a significant impact on the spending habits of people. |
| Limitations of Fiscal Policy (cont.) | Conflicting macroeconomic objectives - The use of expansionary fiscal policy can help to achieve economic growth, but a combination of tax cuts and increased government spending can fuel inflation. Vice-versa, a contractionary fiscal policy can help to control inflationary pressures but might cause unemployment in the economy. |
| Limitations of Fiscal Policy (cont.) | Political considerations: Expansionary fiscal policy might be used prior to a country's general election to boost the votes of the governing party, rather than to tackle fundamental economic problems. Such irresponsible practices can lead to higher government debts and can hurt the economy in the long-term. |
| Monetary Policy | It is the manipulation of interest rates, exchange rates, and the money supply to control the amount of spending and investment in an economy. Interest rates can refer to the price of borrowing money or the yield from saving money at a financial institution. The money supply refers to the entire quantity of money circulating an economy, including notes and coins, bank loans and bank deposits. |
| Interest Rate Policy | Direct control of money supply is relatively difficult (a country cannot print money excessively without suffering the consequences of high inflation) Manipulation of exchange rates is also relatively difficult if the country is trading with other countries and complies with the regulations of the World Trading Organisation (WTO). In most countries, the central bank or monetary authority (eg. MAS) is responsible for overseeing currency exchange rates but does not have direct control of it as most countries that trade will allow their currency rate to "float" at a comfortable range. Hence, many governments rely on interest rate policy to achieve economic stability. |
| Expansionary Monetary Policy | Expansionary monetary policy aims to boost economic activity by expanding the money supply. This is done mainly by lowering interest rates. It makes borrowing more attractive to households and firms because they are charged lower repayments on their loans. Those with existing loans and mortgages have more disposable income, so they have more money available to spend. |
| Contractionary Monetary Policy | Increase in interest rates tends to reduce spending and investments in the economy. This slows down economic activity and is also used to control the threat of inflation. However, it might create unwanted unemployment in the long-run. |
| Limitations of Monetary Policy | Time lags: People take time to react to interest rate changes Economic activity is not totally and only dependent on interest rates. There are other factors, such as consumer and business confidence levels. Use of monetary policy can be counterproductive because it restricts economic activity and discourages foreign direct investment. |
| Supply-side (SS) Policies | Supply-side policies are long-term strategies aimed at increasing the productive capacity of the economy by using policies to improve the quality and/or quantity of factors of production (land, capital, labour and enterprise) |
| Examples of SS Policies | Capital investment in R&D can help to increase productive capacity and productivity of the economy; expenditure on new technologies and R&D can help to generate new products for consumption, such as smartphones, tablet computers, and environmentally friendly cars. Human capital investment is used to improve the quality and/or quantity of the workforce in the economy; some examples include government-funded retraining schemes, education, and further training funded by government etc. Tax reforms, such as a lowering of taxes, can be used to create incentives for work; they can also encourage firms to invest in the economy. |
| Advantages of SS Policies | Improved economic growth - SS policies can be used to achieve sustainable economic growth by increasing the productive capacity of the economy. Lower inflation - an increase in the economy's productive capacity potential of the economy, they help to prevent the general price level from rising beyond control. Lower unemployment - an increase in the economy's productive capacity will tend to increase national output, thereby creating jobs in the economy in the long term. Also, SS policies can help to reduce both frictional and structural unemployment. Improved balance of payments - since SS policies can improve productivity and national output without increasing the general price level, the international competitiveness of the country should improve. For eg., firms should become more productive and competitive, which will help to boost the economy's export earnings. Therefore, supply-side policies tend to improve a country's balance of payments. |
| Disadvantages of SS Policies | The main criticism of SS policies is the time that it takes to reap the benefits. For example, it might take years or even decades for a nation to enjoy the benefits of improved labour force due to education or retraining efforts or constructing better infrastructure to improve efficiency of the country. |
| Real-life Examples of Government Policies in General | Expansionary Fiscal Policy: Singapore has a low corporate tax rate to attract investments, in particular, TNCs from overseas to invest in Singapore. In this manner, it has reduced its taxes to stimulate growth by increasing investment indirectly. Contractionary Fiscal Policy: In the UK, after a few years of expansionary fiscal policy to boost its economy after the economic crisis in 2008, there was a period of contractionary fiscal policy where UK decided to introduce various cuts in government spending as austerity measures and also to reduce the government deficit. Singapore has recently increased its personal income tax rates in a progressive manner to combat widening income disparity; it also increased its taxes on housing and other luxurious goods as a form of contractionary fiscal policy to tame inflationary pressures. |
| Real-life Examples of Government Policies in General (cont.) | Expansionary Monetary Policy: Japan has suffered a prolonged period of deflation and its economic growth has become stagnant over the years. Hence, it has pursued an expansionary monetary policy, using very low (or even negative real interest rates) or zero interest rates to attract more investment and spending to boost the economy. Contractionary Monetary Policy: The US Fed Reserve Rate had been adjusted upwards as a preemptive contractionary monetary policy and good years of recovery since the US subprime mortgage crisis in 2008/2009. SS Policy: Singapore has put in a lot of money for the training and education of its population in a bid to enhance its labour i.e. a large part of government expenditure is on education. Some other measures on retraining and enhancing the quality of its labour include schemes such as SkillsFuture Scheme, and Productivity and Innovation Credit (PIC) Scheme. |
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