In this video we’ll take a look at supply side policies and take a step away from demand
management policies for a moment.
Supply side policy includes government economic policy that aims to increase the productive
potential of the economy.
This can be achieved by increasing the quantity or the quality of the factors of production
(land, labor, capital and enterprise).
We can illustrate successful supply side policies on either the PPF or the long run aggregate
supply curve.
Let’s quickly review what shifts an economy’s PPF outwards.
Any of the factors listed will shift out an economy’s PPF from A to B. They do this
by increasing productive potential.
Relaxation of immigration restrictions increases the number of workers available to produce
goods and services.
Deregulation allows businesses to use resources more efficiently.
Increasing labour market participation results in more workers joining the workforce as opposed
to remaining outside of it.
Promoting the innovation of new ideas, goods and services allows industries to develop
and grow.
Additionally, investment by businesses drives efficiency and productivity gains.
Education provides higher skills to a workforce, although this may take time to take effect.
We an also replicate these changes here by shifting the LRAS rightward from LRAS to LRAS1.
You’ll notice the result of supply side policies differs from fiscal and monetary
policy in that AD doesn’t necessarily shift but the LRAS does.
In this case an increase in the LRAS shifts the original curve to LRAS1 resulting in a
falling price level and increasing output.
The price level is now PL1 and real GDP has risen to Y1.
Supply-side policies initially appear to be a magic bullet to new students of economics,
but you must understand that all policies have their costs and benefits.
Supply-side policies are not all equal and they also can take a long time to take effect.
I’ll explain what I mean in the next few slides.
Supply side policies can be interventionist or market-led in nature.
Interventionist policies are policies that involve increasing government intervention
in the development of the factors of production.
Examples include spending on education and investment in technology.
Of course an increase of government spending can increase AD, but in these specific instances
it can increase LRAS as well.
An example of an interventionist policy would be job search and retraining programmes funded
by the government with the intention of getting people back to work as well as retrained with
the skills necessary to find work.
This increases the mobility of the workforce and should increase productive potential.
Market-led policies are policies that involve decreasing government intervention or involvement
in markets.
Examples include deregulation and the reduction of welfare benefits.
By reducing the regulatory burden of companies, firms can focus on business as opposed to
meeting government regulations.
Additionally, reducing welfare benefits increases the incentive to work, thereby increasing
the labour force.
The reduction of corporation tax makes firms more profitable as they give up less profit
in the form of tax.
The reduction of income tax also provides individuals an incentive to work as they can
keep more of their income.
In this picture you see a businessman tied up in red tape being carried along by what
look like government bureaucrats.
The meaning behind this is that government regulations limit the ability of businesses
to conduct business and make profit.
By limiting regulations, businesses can focus on their core activities that generate profit.
However, deregulation is not always seen favourably by society as a whole.
Some argue that it allows for reckless behaviour, such as the behaviour of banks leading up
to the mortgage crisis.
It could also reduce the oversight of worker safety, possibly endangering the lives of
employees.
There are two sides to deregulation that must be kept in mind.
To evaluate supply side policies, three key points need to be raised.
First, some interventionist policies will increase aggregate demand as a result of increased
government spending.
If the government seeks to develop a highly skilled workforce, they may need to spend
to do so.
Secondly, other policies may have harmful effects on consumers, workers and the environment.
If environmental regulations are reduced, this could result in negative externalities
to society.
Thirdly, as mentioned before, supply-side policies tend to be effective at shifting
long run aggregate supply and may take years to show their results.
It is important to weight these factors in when considering how effective supply side
policy is at resolving underlying economic issues.
I hope by now you’ve got a solid understanding of the three types of policies that the government
uses to manage the economy.
If you have any questions or comments, leave them below or email me at enhancetuition@gmail.com.
You can visit me on my website, the link is included below in the video notes.
That’s us done for now and I will see you in the next one!