3.4 Demand and Supply Side Policies

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3.4 Demand and Supply Side Policies
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3.4.1 Shift in Aggregate DemandDemand Side
Policies

• Shifting the AD Curve (changes in any components)
  C, I, G, X-M
• Expectations
• Inflationary
• Wealth and Income
• Profit and Revenue
• Policy
• Overall Outlook

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• International Issues
• Exhange Rates
• Trading Partners Income
• Relative Prices
• Fiscal Policies
• Taxes or Govt. Spending
• Monetary Policies
• Central Bank
• Interest Rates and Money Supply

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ADShort Run Vs. Long Run

• AD shift without increase in LRAS is INFLATIONARY
• A to B to C
• B Real wages drop, factor prices increase
  (causes supply shift)
• C Inflationary result

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Overview of Demand Management

• See Chart pg.380
• Overheating vs. Recessionary Economy
• Problem Fast rising inflation
• Solutions Monetary?? Fiscal??
• Problem High Unemployment
• Solutions Mon.?? Fisc.??

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Govt. Budgets

• Receipts Expenditures
• Which item under Receipts is the biggest future
  problem?
• Surplus vs. Deficit
• National Debt vs. Foreign Debt
• Foreign owed to other countries

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Built-In Safety Nets vs. Active Policies

• Automatic-Stabilisers (Built-In Safety Net)
• Progressive Taxes
• Expansion gt income paid less disposable
  income lt Consumption lt AD
• Recession lt income paid gt AD
• Social Benefits
• Expansion lt Unemployment, Welfare lt
  Consumption ltAD
• Recession gt social spending gtAD
• Both help to soften cycles, less volatile
• Dont solve or prevent cycles
• Graphs pg. 383

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• Discretionary Fiscal Policies (Active)
• Govt. Spending
• Expansion Less spending lt AD
• Recession More spending gt AD
• Focus on Unemployment
• Surpluses (Boom) used for gt Spending during bad
  times
• Does this really happen?
• Taxes
• Expansion gtTaxes ltC ltAD
• Recession ltTaxes gtC gtAD

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Interest Rates and Monetary Policy

• Definition
• Real Interest Nominal Inflation
• Ex. 2 real 5 nominal 3inflation
• Central Bank
• Interest Rates
• Influence C and I
• Inflation positively linked to interest rates
• Review pg. 346
• Used to minimize inflation.

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Functions of Central Bank

• Monetary policy-
• interest rates, money supply
• Lender of Last Resort
• To commercial banks
• Discount rate
• Key for other rates
• Affects bank profit and lending rates
• Regulate Lending
• Minimum reserve requirements

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• What could the Central Bank (Fed) do to tighten
  the money supply?
• When would the Fed do this?
• Time Lags
• Fed must try to be forward thinking
• 2-6 quarters to influence inflation
• Up to 2yrs to affect AD

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Relationship between Interest and Investment

• Investment Schedule
• Lower interest rates Higher investment
• 1. Opportunity Costs
• Investment increases when opportunity costs fall
• 2. Cost of Investment
• Lower rates lower cost of borrowing

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Supply and Demand for Moneypg. 388-389

• Demand for Money
• lt Dm shift left lower r
• Caused by factors other than price (r)
• Ex. Income levels, price levels (inflation)
• Supply of Money
• Feds most common methods
• Discount Rate
• Affects lending ability
• Open Market Operations
• Buying and Selling of govt. debt
• Bills and Bonds
• Controls on Bank Lending
• Reserve requirements

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• Final note from text
• Basic Theory
• Change in Sm Change in r
• Vice Versa
• Change in r Change in Sm
• Fed Cant do Both simultaneously

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Exchange Rate Policies

• Can be influenced by Fed (rate change)
• Fed raises rates greater demand for US currency
  gt currency appreciation lt X (US goods
  expensive) gtM (foreign goods cheaper) ltAD
• Falling r falling currency value
• gtexports
• (U.S. goods cheaper for other countries)
• lt imports
• (foreign goods more expensive)
• More on this in 4.6