With higher GDP the govt will collect more taxes; this is because people will pay more income tax and VAT. This is beneficial because the govt can use this increased revenues to reduce the level of government borrowing and/or spend more on public services and investment in the country infrastructure. Higher economic growth will lead to an increase in demand for labour as firms will be producing more. Therefore unemployment will fall, this has various advantages such as lower govt spending on benefits and less social problems. However economic growth has various costs.
Secondly high taxes create disincentives to work and this can be analysed through income and substitution effects. The substitute for work is leisure time and when taxes increase the opportunity cost for leisure time decreases, also people will have to work longer hours to earn the same post tax income causing disincentives as it reduces living standards as people must work longer and harder for the same incomes. This will create disincentives to work and so lead to a reduction in the labour force meaning less people in jobs and so less people paying income tax. Also as people earn less this way consumption in the economy falls therefore reducing the governments VAT recipts and corporate tax revenues and businesses make lower profits. This will lead to increases in the fiscal deficits as the government earns less and may be spending more in forms of social protection i.e.
A current account deficit means the country imports a greater value of goods and services than it exports. To reduce a current account deficit we need to either increase the value of exports and or reduce imports. Supply side policies aim to increase the productivity of the economy. If the manufacturing sector becomes more productive, the relative cost of British goods will fall and therefore they will become more competitive. This will help increase exports and reduce the current account deficit.
First, if the government increases its purchases but keeps taxes constant, it increases demand directly. Second, if the government cuts taxes or increases transfer payments, households’ disposable income rises, and they will spend more on consumption. This rise in consumption will in turn raise aggregate demand” (Weil, 2008, para. 4). Consumer income has a huge effect on aggregate supply and demand just as the aggregate supply and demand can affect consumer income.
Balance of payments is the difference in total value between payments into and out of a country over a given period. An appreciation means an increase in the value of a currency, and is worth more in terms of foreign currency. One impact of an appreciation on the current account is that exports are more expensive, so there is a fall in exports. Imports are cheaper so imports increase, creating a bigger deficit on the current account. This means that a strong real may lead to a worsening of the balance of trade – much depends on the value of price elasticity of demand for imports and exports.
Such policies aim to increase the capacity of the economy to produce more goods and services by increasing the quantity or quality of the factors of production. A supply-side improvement can be depicted as a positive rightwards shift of the LRAS curve (LRAS to LRAS1). Price level Real Output Y1 Y LRAS LRAS1 Price level Real Output Y1 Y LRAS LRAS1 AN1 AN1 AP1 AP1 AN1 AN1 AN1 AN1 AN1 AN1 AP1 AP1 AN1 AN1 One fiscal policy that might be used to bring about the supply-side improvement of a larger workforce is a reduction in income tax. A fall in the marginal rate of tax, for example a reduction in the additional rate of income tax from 50% to 45% for income earned above £150,000 or an increase in the Personal Allowance threshold from £10,000 to £10,500, will increase households disposable income (post-tax take home). The resultant decrease in households’ replacement ratio (disposable income out of work ÷ disposable income in work) will encourage more people to actively seek work and thus increase the participation rate (the proportion of all those of working age that comprise the labour force and in the UK this figure is 75%) and thus increase the size of the labour force.
This method of fiscal policy will stimulate economic activity and directly cause economic growth. (AD/AS diagram, with AD shifting outwards and a caption “the effect of cutting interest rates”) Secondly, the use of monetary policy can be utilized to aid fiscal policy in demand management of the economy A cut in the rate of interest raises peoples disposable income, due to lower mortgage and loan repayments, allowing them to spend more. This will raise consumption, and therefore aggregate demand. The effect of an increase in AD is an increase in real GDP – the total output of an economy – raising living standards through higher choice of goods and services to fulfill needs and wants. However, since the power of
The major task is to manage the money supply according to the needs of the economy. This involves making an amount of money available that is consistent with high and rising levels of output, employment and relatively constant price levels. Money supply has a direct relation with inflation, as money supply is increased the inflation rate goes up. When more money is in the market, the value of the money will remain the same but the goods and services in the market will increase. As situations happen around the world the internal economy is being affected, the price of oil increases and more money in the market should be created, but this will affect the inflation, as more money is in the market, the GDP keep growing and the unemployment is decreasing.
To what extent did Quantitative Easing improve economic growth in the UK? Central banks try to raise the amount of lending and activity in the economy indirectly, by cutting interest rates. Lower interest rates encourage people to spend, not save. But when interest rates can go no lower, a central bank's main option is to pump money into the economy directly. That process is known as Quantitative Easing (QE).
In order to help the economy’s growth in the future Government spending can be used if used for extra capital spending. This leads to an increase in the stock of national assets. For instance, an increase in the transport infrastructure will improve the supply-side capacity of the economy which will promote growth. This is estimated through the cost-benefit analysis. Another, way to establish growth in the future would be to use budget deficit as a tool or demand management.