Supply-Side Policies

Definition

• Government policies designed to shift the long-run aggregate supply curve to the right (increasing the quantity or quality of the factors of production), increasing potential output in the economy and achieving economic growth.

• Supply side policies always act in the long-run.
  

The Goals of Supply-Side Policies

• Long-term economic growth by increasing the quality/quantity of factors of production:

improving (international) competition

Increasing efficiency (productivity)

Decreasing unemployment and the cost of labor through increased labor Market flexibility

Low and stable inflation

• Increasing innovation by encouraging research and development.
  

Two Types of Supply-Side Policies

• Market based and interventionist policies.

Market Based

• Designed to increase LRAS indirectly by allowing the free-market to regulate itself through the invisible hand.
• Based on neoclassical thinking.

Interventionist

• Direct intervention by the government to improve the quality/quantity of factors of production.

Market-Based Policies

Policies to Increase Competition

• One of the central ideas behind supply-side policies is supporting operations of the free market and increasing competition.
• Increased competition incentivises lower prices and efficiency.

Policies aimed at increasing competition:

Deregulation

• Removing rules and restrictions so firms may behave freely.

Privatization

• This occurs when the government transfers ownership of a firm or industry to the private sector.

Trade Liberalization

• Removing barriers to trade with other nations to allow for free movement of imports/exports.

Anti-Monopoly Regulation

• Regulations that are designed to prevent one firm from dominating the market and reducing competition.

Labor Market Policies

• The government has a role in creating a more educated, efficient and skilled workforce.
• The labor market should be competitive and flexible.
  

Policies aimed at creating flexibility and competitiveness in the labor market:

Reducing or removing unemployment benefits

• This type of transfer payment could be reduced if they are high enough to discourage or disincentivize qualified or skilled individuals to pursue employment.

Removing Minimum Wages

• Minimum wages is a type of wage floor and therefore creates inefficiency in the labor market.
• Removing or reducing minimum wages allows for the free market to work properly.

Discouraging or Minimizing the Power of Labor Unions

• Labor unions always push for higher wages and may interfere with efficiency if workers choose to go on strike.

Incentive-Related Policies

• Implemented to encourage the aggregate supply with a focus on capital and labor.
• Increase in labor - incentives given to individuals.

Example

• Personal income tax cuts
• Incentivizing workers to work more hours as with tax decreases, they receive more disposable income.
• Incentivizing unemployed people to find jobs faster.
  
• If this policy is in effect permanently, long-run aggregate supply (LRAS) will increase (larger labor force) resulting in economic growth.
  
• Challenges are that the government receives minimal revenue when the tax rate is too low and workers are disincentivized to work more as they can work part-time with the same disposable income.
• If the government revenue is too low it cannot fund government spending sustainably.
  

Increase in Capital

• Incentives Given to Firms

Example

• Cuts to business and capital gains tax (the profit a firm makes from selling an asset).
• A decrease in business/corporate tax - Firms generate more profit
• A decrease in capital gains tax - incentivizes investments and improvement.

• Additional profit for firms leads to an increase in investment in production resulting in an increase of supply in the economy.
• A fall in capital gains tax incentivises firms to improve and update their assets including properties, factories, etc.
  

Interventionist Supply-Side Policies

• Interventionist policies involve the government directly intervening in the economy to increase the quality or quantity of the factors of production.
• Does not rely on incentives like market-based policies.
  

Interventionist policies:

• Education and training
• Improving healthcare
• Improving infrastructure (capital resources that facilitate economic activity typically produced by the government)
• Research and development
• Industrial policies
  

Education and Training

• Government spending on education is designed ot improve human capital which improves the quality of workers.
• Higher quality labor increases productivity and economic growth as the LRAS curve shifts to the right.

Healthcare

• Access to high quality healthcare ensures that workers are healthy and able to be productive leading to increased efficiency.

Research and Development

• Direct investment for innovation and new technology.
  These new innovations have the ability to increase efficiency.

Infrastructure Development

• Improvements in infrastructure include the development of roads, railroads, airports, public transportation, telephone networks, electrical supply, etc.
• Improvements in infrastructure allow for increased general productivity and efficiency.

Industrial Policies

• The targeting of development in specific industries or sectors in the economy.
• Most commonly, Import Substitution is used to subsidize industries to substitute products from abroad to domestic.