Question

All of the macroeconomic material is related to this model: GDP, inflation, unemployment. In chapter 12, you’ll read about how fiscal policy can affect the economy. The fiscal policy tools that you read about in this chapter are meant to adjust the aggregate demand side of the economy. But there is a debate about whether this is the side of the market that should be targeted. Some economists and policymakers would rather focus on policies that shift the aggregate supply (so-called “supply-side policies”). For this discussion board, explain one of the reasons why policymakers usually focus on demand-side policies to achieve their macroeconomic goals as opposed to the supply-side ones. Be sure to include concepts from the chapters. Provide one example of a demand-side policy and explain why and how it causes the aggregate demand to shift. Similarly for the supply side, you need to explain one of the reasons why some may prefer to use supply-side policies. Provide one example of a supply-side policy and explain why and how it causes the aggregate supply to shift. In both cases, make certain that you are giving reasons supporting the use of these policies as opposed to giving reasons against the opposite policies. Both supply-side and demand-side policies have impacts on inflation and unemployment. Explain what these impacts are for each type of policy (i.e. demand-side and supply-side policy). Knowing these impacts and the reasons you explained above, which type of policy do you favor and why?

Support your opinion with economic reasoning and concepts. If you use any other sources, be sure to cite them within the text as well as provide a bibliographical citation at the end.

Answer 1

There are two types of policies that state has : Demand side and supply side policies:

Demand side polcies comprise of fiscal and monetary policies.

Fiscal policy is a policy controlled by the government and it has two tools: taxes and govt. spending. During recessions govt. decreases taxes and increases govt. spending which is called expansionary fiscal policy. During inflation govt. increases taxes and decreases govt. spending which is called contractionary fiscal policy.

Monetary policy is a policy determined by central bank and has two tools; interest rates and money supply. When there is inflation and central bank wants to reduce over consumption in an economy then it increases interest rates and decreases money supply. This is called as contractionary monetary policy. When there is recession and central bank wants to boost economic activity then it decreases interest rates and increases money supply. This is called as expansionary monetary policy.

Expansionary policies create more aggregate demand, decrease unemployment. It can be inflationary if all resources are fully used and there is no spare capacity.

Supply side policies: This policy focuses on aggregate supply. It has two types- market based and interventionist based. market based policy focuses on incentives for businesses, labor market reforms and encouraging competition. Interventionist based policy focuses on human and physical capital.

If all these polices are used effectively along with focus on innovation then country may avoid recessionary impacts.

As shown in the diagram below, economy was at LRAS- long run aggregate supply which was also the full potential. Stimulus package helps to shift aggregate demand to right from AD1 to AD2, it might raise price levels but if it matched with shift in aggregate supply to right from AS1 to AS2 through supply side policies then Economy potential can shift to right from LRAS1 to LRAS2.This is how economic growth is achieved along with more employment and inflation control through proper policy implementation as explained above.

I prefer supply side policy as it has potential to better economy in the long run with less negative impact on sources.