Supply-Side Policies

What Supply-Side Policies covers

Supply-side policies is examined in Unit AS 2, Managing the National Economy. It covers the nature of supply-side policy and tax cuts, deregulation and evaluating market-based supply-side policy, competition and innovation as supply-side policy, infrastructure as supply-side policy, labour market reform, education, training and the skills of the workforce, labour productivity: determinants and significance, supply-side policies in the AD-AS model and evaluating the impact of supply-side policies.

The 9 subtopics

Each one has its own page.

• The nature of supply-side policy and tax cutsSupply-side policies, cut in income tax increase the supply of labour and government cut taxes on small businesses and on entrepreneurship specifically.Open →
• Deregulation and evaluating market-based supply-side policyDeregulation lower firms’ costs, deregulation raise the contestability of a market and main risks of deregulation.Open →
• Competition and innovation as supply-side policyStronger competition tend to raise productivity, privatisation intended to work as a supply-side measure and innovation matter for the long-run aggregate supply curve.Open →
• Infrastructure as supply-side policyHow improved transport infrastructure raises aggregate supply, infrastructure improve the geographical mobility of labour and investment in digital infrastructure treated as a supply-side priority.Open →
• Labour market reformLabour market flexibility, occupational immobility of labour and geographical immobility of labour.Open →
• Education, training and the skills of the workforceApprenticeships and vocational training raise productive potential, spending on education raise long-run aggregate supply and improved skills reduce structural unemployment.Open →
• Labour productivity: determinants and significanceLabour productivity, difference between production and productivity and rising productivity allow wages to rise without adding to inflation.Open →
• Supply-side policies in the AD-AS modelDiagram showing a successful supply-side policy and successful supply-side policy affect the output gap.Open →
• Evaluating the impact of supply-side policiesEffect of successful supply-side policies on economic growth, supply-side policies help to control inflation and time lags such a serious limitation on supply-side policy.Open →

What you need to know

Answer each one before you reveal it.

Take Supply-Side Policies further

The same content, four other ways.

Commonly confused

Pairs that lose marks when they are blurred together.

• X-inefficiency vs Productive inefficiency

  X-inefficiency: operating above the cost curve altogether, because slack has raised costs beyond the technical minimum for that output. Productive inefficiency: producing at a point on the average cost curve that is not its minimum.

• Invention vs Innovation

  Invention: creating the idea. Innovation: bringing it to market successfully.

Questions from this topic

Each one with the model answer underneath.

1. 1

   What are supply-side policies?

   Model answer

   Supply-side policies are government measures designed to raise the productive potential of the economy by improving the quantity, quality, mobility and efficiency of the factors of production. Rather than trying to change how much is spent, they try to change how much can be produced, so that output can grow without generating inflation. Examples include cutting taxes to sharpen incentives, removing unnecessary regulation, promoting competition and innovation, reforming the labour market, raising skills and investing in infrastructure.

2. 2

   How do supply-side policies differ from demand-side policies in what they aim to do and which curve they move?

   Model answer

   Demand-side policies work through spending: they shift the aggregate demand curve, which changes the level of activity but cannot move the economy’s capacity ceiling. Supply-side policies work through the capacity to produce: they shift the short-run and long-run aggregate supply curves to the right, raising the maximum output the economy can sustain. Because supply-side policy raises output while lowering the price level, and demand-side policy raises output while raising the price level, only supply-side measures can deliver growth and lower inflation at the same time.

3. 3

   What is the difference between market-based and interventionist supply-side policies, and what are examples of each?

   Model answer

   Market-based measures try to raise output by allowing markets to work more freely, for example by cutting income and corporation tax, removing regulations, reducing trade union power, privatising state-owned firms and trimming welfare payments to sharpen work incentives. Interventionist measures accept that markets fail and use the state directly, for example by funding education and apprenticeships, building transport and digital infrastructure, subsidising research, and giving grants to firms locating in depressed regions. Most governments use a mixture, and the choice between them turns on whether the obstacle to higher output is weak incentives or the under-provision of goods with external benefits.

4. 4

   Why can a supply-side policy raise real output without raising the general price level?

   Model answer

   Supply-side measures increase the amount that can be produced at every price level, so on a diagram with the general price level on the vertical axis and real national output on the horizontal, the aggregate supply curve shifts right rather than the demand curve. With aggregate demand unchanged, the new equilibrium lies further to the right and lower down, so real output is higher and the price level is lower. Demand-side expansion, by contrast, moves the economy along an existing supply curve, so once output is close to capacity and the short-run aggregate supply curve is steep, the extra output comes with a higher price level, although where there is a great deal of spare capacity and that curve is flat, output can rise with little or no increase in prices.

5. 5

   How can a cut in income tax increase the supply of labour?

   Model answer

   A cut raises the take-home pay from each hour worked, so people already in work may choose to work longer hours or take on overtime, and some who were not working may find that a job now pays enough to be worth taking. It also raises the return to acquiring skills and to moving for a better job, because more of the extra earnings are kept. If the response is significant, the workforce grows and long-run aggregate supply shifts right.

6. 6

   Why is the effect of an income tax cut on the number of hours worked theoretically uncertain?

   Model answer

   The substitution effect says that a higher net wage makes an hour of leisure more expensive in terms of forgone earnings, so people substitute work for leisure and hours rise. The income effect says that the same take-home pay can now be earned in fewer hours, so someone content with their existing standard of living may work less and enjoy more leisure. Which dominates varies between individuals, and evidence suggests responses are modest for most employees, larger for second earners in a household and for people at the margin of entering work.

What is inside Levo

Six ways to work the same material.

Supply-Side Policies revision questions

What does Supply-Side Policies cover in CCEA A-Level Economics?

9 subtopics: the nature of supply-side policy and tax cuts, deregulation and evaluating market-based supply-side policy, competition and innovation as supply-side policy, infrastructure as supply-side policy, labour market reform, education, training and the skills of the workforce, labour productivity: determinants and significance, supply-side policies in the ad-as model and evaluating the impact of supply-side policies. Each one has its own page with questions and model answers.

How is Supply-Side Policies organised?

By the CCEA 4410 specification, subtopic by subtopic, so it matches the order you are taught it in.