PowerPoint Presentation

Session 4Demand Side policies(Fiscal and Monetary)34In this session we will consider how the Government of the UK uses fiscal and monetary policy to impact on their targets for the economy. We will look at the relative impact of some of the policies and discuss if any policies have conflicting outcomes.

A Level Economics Year 1 (AS) Revision WorkshopYour download link:www.tutor2u.net/asecon2016.pdf

A Level Economics Year 1 (AS) Revision Workshop8Ever used a Magic 8 Ball to answer your questions?One of our Magic 8 Balls has the correct answer to the questions you are about to be asked.Which Magic 8 Ball is correct? Be quick, you have only a few seconds!

8

A Level Economics Year 1 (AS) Revision Workshop

8

'Magic 8 Ball, is the Bank of England still going to create money using Quantitative Easing as a policy tool in 2016?'1

8

8

ABCNo, last time was 2009No, last time was 2012Yes, still ongoing

A Level Economics Year 1 (AS) Revision Workshop

8

2

8

8

ABCYesCant calculate accuratelyNo, the NHS

'Magic 8 Ball, will government spending on pensions be their single largest area of spending in 2016?'Predicted to be 153bn this year

A Level Economics Year 1 (AS) Revision Workshop

8

3

8

8

ABCNo, Govt SpendingPossiblyYes, easily!

'Magic 8 Ball, is household consumption likely to be the largest element of aggregate demand in the UK in 2016?'Predicted to be approximately 60% (ONS)

A Level Economics Year 1 (AS) Revision Workshop

8

4

8

8

ABC8.007.209.00

'Magic 8 Ball, what will be the National Living Wage rate per hour for anyone over 25 years old by 2020?7.20 is the current rate (as of Apl 2016)

A Level Economics Year 1 (AS) Revision WorkshopSession 4Demand Side policies(Fiscal and Monetary)34In this session we will consider how the Government of the UK uses fiscal and monetary policy to impact on their targets for the economy. We will look at the relative impact of some of the policies and discuss if any policies have conflicting outcomes.

A Level Economics Year 1 (AS) Revision WorkshopQuick definition time!34

The use of government spending, direct and indirect taxation and government borrowing to affect the level and growth of aggregate demand, output and jobsCorporation taxChanges in interest rates, the supply of money & credit and exchange rates to influence the economyTightening of credit supply You have 1 minute to define fiscal and monetary policies and give one example of each

A Level Economics Year 1 (AS) Revision WorkshopExamples from the Spending Review in November 2015Chancellor George Osborne delivered a detailed spending review in November 2015 as it was the first opportunity to set out policies since the General Election in May where the Conservative Party won an outright majority of seats.

For each of the policies that were highlighted in the Review, state which economic objective (inflation, unemployment, balance of payments or economic growth) is the primary target of the policy.

34

A Level Economics Year 1 (AS) Revision WorkshopExamples from the Spending Review in November 201534

Reduce costs to stimulate growthReduce dependency on state improve employmentImprove labour efficiency within the economy to promote growth

A Level Economics Year 1 (AS) Revision WorkshopSource: International Monetary Fund, data from 2015 onwards is a forecastTotal UK Government Spending and Tax Revenue

34

A Level Economics Year 1 (AS) Revision WorkshopFiscal Policy can either be contractionary or expansionary:ADExpansionaryDecrease Direct taxDecrease Indirect TaxIncrease Government borrowingContractionaryIncrease Direct taxIncrease Indirect TaxDecrease Government borrowingAD

35

A Level Economics Year 1 (AS) Revision WorkshopFiscal Policy SuggestionDepends on factorReduce UnemploymentReduce InflationSustainable increase in economic growthReduce Current Account Deficit

Choose an appropriate fiscal policy needed for each objective and suggest a depends on factor that can influence the success of the policy:Increase spending on basic skill trainingIncrease income tax to reduce spendingUse taxation to redistribute incomeHaving knowledge of skills needs of employers in the near futureHow concerning is current rate of unemployment?Ensuring redistribution does not reduce enterprise incentive35Reduce indirect taxation to make UK products more competitiveChanges in exchange rate

A Level Economics Year 1 (AS) Revision WorkshopIncome plus cash benefits by quintile groups for ALL households, 2000 and 201435

Calculate the missing numbers in the yellow boxes above. In each case, you are attempting to find a percentage figure which shows what proportion of total income is represented by cash benefits.68%57%2%4%

A Level Economics Year 1 (AS) Revision WorkshopEvaluation: Will the change in the way that income is distributed between 2000 and 2014 lead to an increase in aggregate demand?Argument forPointExplanationEvidenceEvaluationLink back

Lower income groups relying less on benefitsIf relying less on benefits, yet overall income is rising, suggests that people are working more and could be spending moreLowest quintile has 57% of income in benefits in 2014 compared to 68% in 2000.This depends on whether the total income in 2014 reflects a real increase in incomeReduced dependency on benefits and higher proportion of employed hours suggests higher incomes and therefore higher AD due to more consumption spending36

A Level Economics Year 1 (AS) Revision WorkshopEvaluation: Will the change in the way that income is distributed between 2000 and 2014 lead to an increase in aggregate demand?Argument againstPointExplanationEvidenceEvaluationLink back

Data suggests only a marginal change in the re-distribution of incomeWith marginal changes in re-distribution there is no evidence that AD will alterWhen calculating averages compared to overall the lowest fifth only increased by 4 % points (29% of avg in 2000, 33% of avg in 2014)This data could indicate that the lowest quintiles have a slightly higher income which is more likely to be spent than saved compared to higher quintilesThe data illustrates a small +ve change in benefits but a greater ve change in income distribution so may not show much change in AD.36

A Level Economics Year 1 (AS) Revision WorkshopThe Impact of Quantitative EasingQuantitative Easing (QE), as Monetary Policy, was tried in 2009, 2011 and 2012. We can now start to evaluate the impact it had on the economy.36

A Level Economics Year 1 (AS) Revision Workshop

assetsassetsassetsassetsassets%

BoE creates moneyThis is used to purchase assets mainly government bondsLower yields on assets leads to lower interest ratesyieldyieldyieldyieldyieldIncreased demand increases price of bonds and lowers their yield

Lower interest rates encourages greater borrowing

This should stimulate the economyBond costs 100, with a yield of 10%10% of 100 = 10Bond increases in value to 11010 as percentage of 110 = 9.1%Why?If yield percentage is lower, financial institutions less likely to buy bondsThey can make more money from loaning out their fundsBut will have to reduce interest rate to attract customHow does QE work?

EvaluationThe impact is meant to be both short and longer term. There are what are called an impact phase (the phase when the QE process is in place) and then the adjustment phase where the impact of QE continues to influence aspects of economic performance.

37

A Level Economics Year 1 (AS) Revision WorkshopWhat impact has QE actually had?Between March 2009 and March 2013, the CPI increased from 109.8 to 125.6, suggesting that QE had a positive impact on increasing prices during a period of economic difficultiesHowever, during the same 4 year period, economic growth was only 3.7%.During this period, real wages also decreased by an average of 8%Many pensions, relying on the interest payments on investments such as bonds also saw reduced yields.

37

A Level Economics Year 1 (AS) Revision WorkshopEvaluate the view that Quantitative Easing, as a Monetary Policy, has had no positive impact on the UK economy between 2009 and 2015.Argument forPointExplanationEvidenceEvaluationLink back

QE has led to worse inequality in UKQE has only helped to prop up the stock markets, which only benefits owners of assets who are mainly in the higher income groupsStandard and Poor report in Feb 2016 suggests value of financial assets has risen by 600bn whilst average real wage fell by 8%However, without the introduction of QE growth could have been worse during the period with a negative impact on all income groupsQE does not appear to have had a positive impact on the economy as it has contributed to increasing inequality.37

A Level Economics Year 1 (AS) Revision WorkshopEvaluate the view that Quantitative Easing, as a Monetary Policy, has had no positive impact on the UK economy between 2009 and 2015.Argument againstPointExplanationEvidenceEvaluationLink back

QE had higher impact compared to a further change in interest ratesAs a monetary policy, QE had more influence on the economy than a change in what was already an historically low level of interest ratesInterest rates have remained at 0.5% since March 2009 giving little scope to reduce them further Whilst QE has more impact than interest rate changes, it is difficult to measure the extent of its impact we do no know what would have happened without itThe economy has grown over the period of 2009 to 2012, so QE appears to have more impact than a further change in interest rates37

A Level Economics Year 1 (AS) Revision WorkshopAn alternative?Professor Steve Keen (from Kingston University) argues that the single biggest issue that causes deflation and depression in the economy is the overly-large debt to GDP level.

He argues for a different kind of QE that he calls The Peoples QE37

A Level Economics Year 1 (AS) Revision Workshop

37

A Level Economics Year 1 (AS) Revision Workshop

Whatever happened to Forward Guidance?Introduced by Mark Carney when he was first appointed as Governor of the Bank of England in 2013

Pre-warn people about possible interest changes

Individuals and firms could plan to adjust when changes were made.

Carney said that there would be no changes to interest rates whilst unemployment remained above 7%.

Unemployment dropped to this level within 6 months of his appointment.Strategy altered -there would be no change to interest rates whilst a range of measures (such as the output gap) were above set levels. 38

A Level Economics Year 1 (AS) Revision Workshop

Whatever happened to Forward Guidance?38Advantages of Forward Guidance

Impact of changes to Forward Guidance

If banks can see BoE forward policy they are more likely to alter their own interest rates in short run to match base rate.It gives guidance about expected inflation levels so can influence short term spending.Policy has less credibility as it changedHas more credibility (!) now a more sophisticated guidance tool

A Level Economics Year 1 (AS) Revision WorkshopBalance of UK trade, October 2013 to October 201539

A Level Economics Year 1 (AS) Revision WorkshopEvaluate the view that Monetary Policy in the UK has had a positive impact on the Balance of Trade in the UK since 2013.Argument forPointExplanationEvidenceEvaluationLink back

During the period the balance of trade in services has increasedExpansionary monetary policies have supported exports from UKs most successful sectors of finance and insuranceDuring the period balance of trade in services increased from between approximately 6.5bn to around 7bn However, overall trade in goods fluctuated much more, and has not improvedMonetary policy may have had a positive impact on the balance of trade in services, but not on the overall balance of trade.39

A Level Economics Year 1 (AS) Revision WorkshopEvaluate the view that Monetary Policy in the UK has had a positive impact on the Balance of Trade in the UK since 2013.Argument againstPointExplanationEvidenceEvaluationLink back

There is no evidence that monetary policy has improved the balance of tradeBalance of trade has remained consistent over the period, with a surplus for services and a deficit for goodsBetween 2013 and 2015, services remained a positive number (between approx. 6.5 and 7bn) and goods a negative number (between approx. 12 and 13bn) However, as Sterling has strengthened due to the Euros weakness, consistent policies may at least have prevented a level of deficit that could have been worse.The Balance of Trade has remained steadfastly negative, suggesting that any monetary policy has had little impact.39

A Level Economics Year 1 (AS) Revision WorkshopExtension activities

41

A Level Economics Year 1 (AS) Revision Workshop