Supply-Side Policy
SUPPLY-SIDE POLICIES
In the short-run, the Government is keen to promote economic stability and smooth out rapid
changes in AD. This is why demand-side policy is important.
Using the PPF below, show why government policy purely focused on the demand-side
ultimately insufficient? And show what supply-side policies are trying to do.
Capital
goods
- Demand side policies are about using what you
have to get nearer to what you want to
produce
- Supply side policies aim to increase QQFP and
by that increase the PPF
Consumer goods
In light of this inherent limitation, it is not surprising that demand-side policies generally
involve conflicts (in terms of their impact on macroeconomic objectives). Some examples…
Objectives Achieved: And Yet:
Growth Inflation
Unemployment Inflation
This is not to say that demand-side policies do not have a purpose. Controlling AD is very
important, and there are circumstances when these conflicts can probably be largely avoided: in
a downturn, for instance, a reduction in the interest rate might boost economic growth and help
avoid unemployment, without generating inflation or damaging the current account of the
balance of payments.
However, the analysis above should help us to identify two principal advantages of supply-
side policies…
1 It can be conflict free (non-inflationary growth)
2 They are long run
Of course, it is important to remember that there is overlap between demand and supply
side policy – remember, for instance, from your work on fiscal policy, it should be clear
that many changes in government spending and/or tax are undertaken with supply-side
objectives in mind.
Supply-Side Policy
The Aim of Supply-Side Policy
In the space below, draw an AD/LRAS diagram to show how supply-side policies can deliver
non-inflationary growth. I would encourage you to use the classical LRAS curve for this.
LRAS growth is essentially
your economy’s speed limit
What are Supply-Side Policies?
There are essentially economic measures that are designed to improve the quantity and/or
quality of an economy’s factors of production, and through this improve a country’s
competitiveness. For example, they seek to:
improve incentive s for people to seek and accept work;
increase the productivity (in the UK its about 2%) of labour and capital;
What is productivity?
increase the mobility of labour;
increase the level of investment and research and development spending by firms;
increase business efficiency by promoting competition;
stimulate a faster pace of invention and innovation.
In essence, they seek to ensure that the economic system works efficiently, with incentives
provided for workers and firms alike; and they seek to ensure that in a global economy,
countries are exploiting their comparative advantage. (free trade)
What is comparative advantage?
With that in mind, list some possible supply-side policies in the space below.
T- trade union
R- R&D
I- Incentives/infrastructure
P- privatisation
E- education/training
Approaches to Supply-Side Policies
All economists accept that the supply-side is important – but there are differing approaches to
how the supply-side of the economy can best be improved.
The supply-side approach of George Osborne or Philip Hammond, who believe in the power of
the free market, would be very different from the supply-side approach of John McDonnell, who
thinks that markets are likely to fail.
Supply-Side Policy
There is some scope to use this for the purposes of evaluation. Distinguish between these two
approaches in the space below.
THE LIBERAL APPROACH THE INTERVENTIONIST APPROACH
Supply side approaches should The approach focuses on policy
focus on reform which involves intervening in
Government intervenes less to free markets to correct failures and
the market and release power of increase capacity
incentives
Evaluation of Supply-Side Policies
Log run rather than Short run
Political motives
Still involve conflicts
