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Demand side policies Presentation Transcript

  • 1. DEMAND SIDE POLICIES
  • 2.
    • FISCAL POLICIES
    • MONETARY POLICIES
  • 3. 1. FISCAL POLICY
    • 1.1 Fiscal Tools:
    • Government Expenditure (G)
    • Taxes (T)
    • Government’s Fiscal Stance:
    • Expansionary v/s Contractionary
  • 4. 1.2 Purpose of Fiscal Policy
    • To correct disequilibrium in the economy
    • To reduce fluctuations during business cycles.
    • Hence, fiscal policies are also called
    • stabilisation policies.
  • 5.
    • Existing fiscal tools can act as automatic fiscal stabilisers.
    • OR
    • Government can adopt discretionary fiscal policies
    • NOTE: Government Expenditure multiplier
    • effect > Tax multiplier effect
    How do Fiscal Tools work?
  • 6. 1.3 Effectiveness of Automatic Fiscal Stabilisers
    • Main Benefit:
      • It acts instantly
    • Main Problems:
      • It does not eliminate fluctuations
      • High taxes offer stability but discourages workers and investors
      • Adverse effect of high unemployment benefits
  • 7.
    • Main Problems
    • Magnitude Timing
    1.4 Effectiveness of Discretionary Fiscal Policies
  • 8. Magnitude Problem
    • Difficult to predict the effect of a change in G
    • An increase in G by x% can lead to increase in injections
    • by less than x%. Why?
    • Difficult to predict the effect of a change in T
    • An increase in T affects consumers’ ability to spend and
    • save.
    • Outcome depends on whether consumers expect
    • this change to be temporary or permanent.
  • 9.
    • Difficult to predict the size of the multiplier
    • The effect on consumption or savings will depend on
    • future expectations.
    • It is also difficult to predict the increase in investment
    • through the accelerator.
    • Random shocks
    • Unpredictable events can undermine effectiveness of fiscal
    • policy.
  • 10. Timing Problem
    • Time lags are involved with fiscal policies. Why??
    • Government takes time to recognise the problem.
    • Government takes time to take the appropriate action.
    • It takes time for the change in policy to take effect.
  • 11.
    • The multiplier effect takes time to happen.
    • Consumption adjusts slowly to change in T
    • Note: If these time lags are long then fiscal
    • policies can destabilise the economy.
    • Example??
  • 12. Undesirable Effects of Discretionary Fiscal Policy
    • Cost Inflation
    • Distributive Justice
    • Disincentive Effects
  • 13. 2. MONETARY POLICY
    • 2.1 Monetary Tools
    • Interest Rates
    • The Monetary Policy Committee sets the
    • interest rate in UK.
    • Rationing of Credit
    • This tool is not used now
  • 14.
    • Growth of money supply
    • Central Bank can influence the money
    • supply through:
      • Open Market Operations (OMO)
      • Discount Rate
      • Reserve Ratio
  • 15. 2.2 Effectiveness of Monetary Policy
    • A) Effectiveness of credit rationing
    • Benefit: It can direct loans towards productive purposes.
    • Problems:
    • Banks may resist
    • Dampens growth of banks
    • SMEs can be adversely affected
    • Open world financial market reduces effectiveness of domestic policies
  • 16.
    • B) Effectiveness of changing interest rates
    • Benefit: No implementation time lag
    • Problems arise if:
    • Demand for Loans is fairly inelastic
    • Money demand is unstable
  • 17.
    • C) Effectiveness of controlling money supply:
    • OMO may not reduce liquidity. Why??
    • Increase in reserve ratio may not slow down credit creation process. Why??
    • Increase in discount rate may not affect amount of loans created. Why??
  • 18. POLICY MIX
    • If fiscal and monetary policies are used
    • together, they are more likely to be
    • successful.