In the realm of international economics, managing a country's balance of payments is crucial for maintaining economic stability. Two primary policy approaches employed to address disequilibrium in the balance of payments are expenditure-switching and expenditure-reducing policies. This article delves into the intricacies of these policies, elucidating their mechanisms, applications, and implications for students of AS & A Level Economics (9708).

Key Concepts

Understanding Balance of Payments

The balance of payments (BOP) is a comprehensive record of a country's economic transactions with the rest of the world over a specific period. It comprises the current account, capital account, and financial account. Disequilibrium in the BOP occurs when a country experiences persistent deficits or surpluses, leading to economic instability. Addressing such imbalances is essential to ensure sustainable economic growth and stability.

Expenditure-Switching Policies Defined

Expenditure-switching policies aim to alter the relative prices of foreign and domestic goods to encourage consumers and businesses to switch their spending from foreign to domestic products. By making domestic goods more attractive through price adjustments, these policies strive to reduce imports and boost exports, thereby correcting a trade deficit.

Examples of Expenditure-Switching Policies

Common expenditure-switching policies include:

Exchange Rate Adjustments: Devaluing the national currency makes exports cheaper and imports more expensive, incentivizing a shift towards domestic goods.
Import Tariffs and Quotas: Imposing taxes or limits on imports raises their prices, making domestic products comparatively more affordable.
Subsidies for Exporters: Providing financial assistance to exporters lowers their production costs, enhancing competitiveness in international markets.

Expenditure-Reducing Policies Defined

Expenditure-reducing policies focus on lowering the overall level of domestic demand to mitigate a trade deficit. By curbing consumption and investment, these policies aim to reduce the demand for imported goods and services, thereby correcting the balance of payments.

Examples of Expenditure-Reducing Policies

Key expenditure-reducing policies include:

Fiscal Contraction: Reducing government spending or increasing taxes to decrease aggregate demand.
Monetary Tightening: Raising interest rates to make borrowing more expensive, thereby reducing investment and consumption.
Public Sector Austerity: Implementing budget cuts and reducing public sector wages to limit disposable income and consumption.

Theoretical Framework: Keynesian Perspective

From a Keynesian standpoint, when a country faces a balance of payments deficit, it implies that aggregate demand exceeds aggregate supply in the external sector. Expenditure-reducing policies are recommended to dampen this excess demand. Conversely, expenditure-switching policies adjust the composition of aggregate demand to favor domestic over foreign goods.

Mechanisms of Expenditure-Switching Policies

Expenditure-switching policies operate primarily through the exchange rate mechanism. For instance, a devaluation of the national currency increases the price of imports and decreases the price of exports in foreign markets. This relative price change makes domestic goods more competitive both domestically and internationally, leading to an increase in exports and a decrease in imports.

Mechanisms of Expenditure-Reducing Policies

Expenditure-reducing policies work by decreasing overall demand within the economy. For example, increasing interest rates through monetary policy makes borrowing more expensive, which can reduce consumer spending and business investment. Similarly, fiscal contraction through higher taxes or reduced government spending directly lowers disposable income and aggregate demand.

Short-Term vs Long-Term Effects

In the short term, expenditure-switching policies can rapidly adjust the balance of payments by altering trade flows. However, they may lead to inflationary pressures due to higher export demand. Expenditure-reducing policies can effectively reduce aggregate demand but may also result in lower economic growth and higher unemployment if implemented excessively.

Advantages of Expenditure-Switching Policies

Promotes Export Growth: By making exports cheaper, these policies can enhance the competitiveness of domestic industries abroad.
Reduces Import Dependence: Higher import prices discourage consumers from purchasing foreign goods, supporting local businesses.
Immediate Impact: Exchange rate adjustments can have a swift effect on trade balances.

Disadvantages of Expenditure-Switching Policies

Inflationary Pressures: Devaluation can lead to higher import prices, contributing to domestic inflation.
Retaliation Risks: Trade partners may respond with their own protectionist measures, potentially leading to trade wars.
Limited Effectiveness: In cases where demand is price inelastic, changes in relative prices may not significantly alter trade flows.

Advantages of Expenditure-Reducing Policies

Controlled Aggregate Demand: By reducing excess demand, these policies help stabilize the economy and prevent overheating.
Improved Trade Balance: Lower domestic consumption can lead to reduced imports, thereby improving the trade deficit.
Flexibility: Policymakers can adjust fiscal and monetary tools to achieve desired economic outcomes.

Disadvantages of Expenditure-Reducing Policies

Potential for Recession: Excessive reduction in demand can lead to lower economic growth and increased unemployment.
Implementation Lag: Fiscal and monetary policies may take time to materialize and affect the economy.
Political Resistance: Cutting government spending or increasing taxes is often unpopular and can face significant opposition.

Real-World Applications

Countries facing persistent trade deficits often employ a mix of expenditure-switching and expenditure-reducing policies. For example, during the 1980s, the United Kingdom implemented exchange rate adjustments alongside fiscal tightening to address its balance of payments issues. Similarly, Japan has used import tariffs and subsidies to manage its export competitiveness.

Mathematical Representation

The relationship between exchange rates and the trade balance can be expressed using the elasticity approach: $$\text{Percentage Change in Trade Balance} = \text{Elasticity of Exports} \times \text{Percentage Change in Exchange Rate} + \text{Elasticity of Imports} \times \text{Percentage Change in Exchange Rate}$$ This equation highlights how the responsiveness of exports and imports to exchange rate changes influences the overall trade balance.

Policy Coordination

Effective management of the balance of payments often requires coordination between expenditure-switching and expenditure-reducing policies. For instance, devaluing the currency (expenditure-switching) can be complemented by fiscal tightening (expenditure-reducing) to simultaneously boost exports and reduce imports while controlling domestic demand.

Case Study: India in the 1990s

In the early 1990s, India faced a severe balance of payments crisis. The government implemented a combination of expenditure-switching policies, such as devaluing the currency to make exports more competitive, and expenditure-reducing policies, including fiscal austerity measures to curb imports and reduce the deficit. This coordinated approach helped India stabilize its economy and set the stage for subsequent economic reforms.

Limitations and Challenges

Implementing expenditure-switching and expenditure-reducing policies is not without challenges. Policymakers must carefully balance the need to correct the balance of payments with potential side effects such as inflation, unemployment, and slowed economic growth. Additionally, the global economic environment and external factors can influence the effectiveness of these policies.

Advanced Concepts

Exchange Rate Pass-Through

Exchange rate pass-through refers to the extent to which changes in the exchange rate affect domestic prices of imported and exported goods. A higher pass-through means that exchange rate fluctuations have a more significant impact on prices, thereby making expenditure-switching policies more effective. Factors influencing pass-through include market structure, pricing strategies of firms, and the degree of competition in the market.

J-Curve Effect

The J-Curve effect describes the short-term deterioration and long-term improvement in a country's trade balance following a depreciation of its currency. Initially, the higher cost of imports can worsen the trade balance, but over time, as exports become cheaper and more competitive, the trade balance improves. This phenomenon illustrates the time lag between policy implementation and its desired effects.

Monetary Policy Transmission Mechanism

The monetary policy transmission mechanism explains how changes in monetary policy, such as interest rate adjustments, influence the overall economy. When central banks increase interest rates, borrowing becomes more expensive, leading to reduced investment and consumption. This decrease in aggregate demand can help alleviate a balance of payments deficit by lowering import demand.

Fiscal Multiplier

The fiscal multiplier measures the impact of government spending or taxation changes on the overall economic output. A fiscal multiplier greater than one indicates that fiscal policy actions have a magnified effect on GDP. Understanding the fiscal multiplier is crucial when designing expenditure-reducing policies, as it affects the extent to which such policies can influence aggregate demand and, consequently, the balance of payments.

Interest Rate Parity

Interest rate parity is a fundamental concept in international finance that relates interest rates between two countries to exchange rate movements. It posits that the difference in interest rates between two countries is equal to the expected change in exchange rates. This principle ensures that there are no arbitrage opportunities in the foreign exchange market, influencing the effectiveness of monetary policies aimed at correcting balance of payments.

Elasticity of Demand for Imports and Exports

The elasticity of demand measures the responsiveness of the quantity demanded of a good to a change in its price. In the context of balance of payments policies:

Export Elasticity: If the demand for exports is elastic, a decrease in export prices due to currency devaluation will significantly increase export volumes.
Import Elasticity: If the demand for imports is elastic, an increase in import prices will substantially reduce import volumes.

High elasticity amplifies the effectiveness of expenditure-switching policies, while low elasticity may limit their impact.

Global Supply Chain Considerations

In today's interconnected economies, global supply chains play a vital role in international trade. Expenditure-switching and expenditure-reducing policies must account for the complexity of supply chains, as changes in one country's policies can have ripple effects across multiple nations. For example, tariffs imposed by one country can lead to retaliatory measures from its trading partners, affecting global trade dynamics.

Exchange Rate Regimes and Policy Effectiveness

The choice of exchange rate regime—fixed, floating, or managed float—significantly influences the effectiveness of expenditure-switching policies. Under a fixed exchange rate, the central bank must actively intervene to maintain the currency peg, limiting the scope for policies like devaluation. Conversely, a floating exchange rate allows more flexibility, enabling policymakers to use exchange rate adjustments as a tool for correcting balance of payments disequilibrium.

External Shocks and Policy Responses

External shocks, such as sudden changes in global commodity prices or economic downturns in major trading partners, can disrupt a country's balance of payments. Policymakers must design expenditure-switching and expenditure-reducing policies that are robust and adaptable to such unforeseen events. For example, diversification of export markets and products can enhance resilience against demand shocks from individual trading partners.

Policy Mix and Complementarity

An effective policy mix involves combining expenditure-switching and expenditure-reducing measures to achieve a balanced approach to correcting balance of payments disequilibrium. These policies can complement each other; for instance, exchange rate adjustments can be paired with fiscal tightening to enhance the overall impact on the trade balance while mitigating potential inflationary effects.

Behavioral Responses and Policy Limitations

The success of expenditure-switching and expenditure-reducing policies depends on how consumers and firms respond to policy measures. Behavioral responses, such as preference for imported goods or resistance to higher taxes, can limit the effectiveness of these policies. Understanding and anticipating these responses is crucial for designing policies that are both effective and sustainable.

Case Study: United States in the 1980s

During the 1980s, the United States grappled with a significant balance of payments deficit. The Federal Reserve implemented tight monetary policies to curb inflation, leading to higher interest rates (expenditure-reducing policy). Concurrently, efforts were made to adjust exchange rates to boost export competitiveness (expenditure-switching policy). This combination helped reduce the deficit by decreasing import demand and increasing export revenues.

Impact on Employment and Income Distribution

Expenditure-reducing policies, particularly fiscal austerity, can have adverse effects on employment and income distribution. Reduced government spending and higher taxes may lead to job losses and decreased disposable income, disproportionately affecting lower-income households. Policymakers must consider these social implications and implement measures to mitigate negative impacts, such as targeted social programs or gradual policy implementation.

Sustainability of Policies

The long-term sustainability of expenditure-switching and expenditure-reducing policies depends on their integration into broader economic strategies. Relying solely on short-term adjustments without addressing underlying structural issues can lead to recurring balance of payments problems. Sustainable policies should promote economic diversification, enhance productivity, and foster competitive industries to ensure lasting balance of payments equilibrium.

Role of International Organizations

International organizations like the International Monetary Fund (IMF) and the World Bank play a pivotal role in advising countries on balance of payments policies. These institutions provide financial assistance, policy recommendations, and technical expertise to help nations implement effective expenditure-switching and expenditure-reducing measures. Collaborative efforts with international bodies can enhance the credibility and effectiveness of national policies.

Integration with Trade Policies

Balance of payments policies are closely intertwined with broader trade policies. Tariffs, trade agreements, and non-tariff barriers can influence the effectiveness of expenditure-switching measures. Harmonizing balance of payments policies with comprehensive trade strategies ensures a cohesive approach to managing international economic relations and promoting sustainable trade balances.

Comparison Table

Aspect	Expenditure-Switching Policies	Expenditure-Reducing Policies
Objective	Alter relative prices to encourage a shift from foreign to domestic goods.	Reduce overall domestic demand to lower import demand.
Main Tools	Exchange rate adjustments, import tariffs, export subsidies.	Fiscal contraction, monetary tightening, austerity measures.
Immediate Effect	Can quickly improve trade balance by boosting exports and reducing imports.	Gradually reduces aggregate demand, leading to decreased imports over time.
Potential Side Effects	Inflation, retaliation from trading partners.	Reduced economic growth, higher unemployment.
Policy Flexibility	Dependent on exchange rate regimes and external factors.	Requires careful calibration to balance demand reduction and economic health.
Suitability	Effective when demand for exports and imports is elastic.	Suitable for economies with excess aggregate demand and inflationary pressures.

Summary and Key Takeaways

Expenditure-switching and expenditure-reducing policies are vital tools for correcting balance of payments disequilibrium.
Expenditure-switching policies focus on altering relative prices to promote domestic over foreign goods, while expenditure-reducing policies aim to lower overall domestic demand.
Both policy types have distinct mechanisms, advantages, and challenges that must be carefully balanced to achieve economic stability.
Understanding the interplay between these policies and their broader economic implications is essential for effective policy formulation.

Examiner Tip

Tips

Use the mnemonic "SEMR" to remember the main tools: Subsidies, Exchange rate adjustments, Mtariffs, and Restrictions for expenditure-switching policies. To differentiate policies, remember: "Switch the spending, reduce the need." Practice drawing the J-Curve to understand currency devaluation effects. When tackling exam questions, identify whether a scenario involves switching from foreign to domestic goods or reducing overall demand, and apply the corresponding policy framework.

Did You Know

Expenditure-switching policies were significantly utilized by the United Kingdom in the 1980s to combat persistent trade deficits by devaluing the pound, making exports more competitive. Another interesting fact is that Japan has successfully maintained a strong export sector through strategic subsidies, illustrating the effectiveness of expenditure-switching measures in fostering economic growth. Additionally, the introduction of import quotas in Australia during the 1970s helped reduce import dependence, showcasing real-world applications of these policies.

Common Mistakes

One common mistake is confusing expenditure-switching with expenditure-reducing policies. For example, assuming that increasing taxes (an expenditure-reducing policy) directly boosts exports is incorrect. Another error is overlooking the elasticity of demand; students might not consider how elastic or inelastic demand for exports and imports affects policy effectiveness. Additionally, some may incorrectly believe that devaluation always leads to an improved trade balance immediately, neglecting the J-Curve effect and short-term adjustments.

FAQ

What is the primary goal of expenditure-switching policies?

The primary goal of expenditure-switching policies is to alter the relative prices of foreign and domestic goods to encourage consumers to switch their spending from foreign to domestic products, thereby improving the trade balance.

How does currency devaluation act as an expenditure-switching policy?

Currency devaluation reduces the value of a country's currency relative to others, making exports cheaper and imports more expensive. This encourages consumers to buy more domestic goods and fewer foreign imports, helping to correct a trade deficit.

Why might expenditure-reducing policies lead to higher unemployment?

Expenditure-reducing policies, such as increasing taxes or reducing government spending, lower overall demand in the economy. This decrease in demand can lead businesses to cut back on production and, consequently, reduce their workforce, resulting in higher unemployment.

Can expenditure-switching policies lead to inflation?

Yes, expenditure-switching policies like devaluing the currency can make imports more expensive, which may lead to higher overall price levels and contribute to inflationary pressures within the domestic economy.

How do fiscal and monetary policies serve as expenditure-reducing measures?

Fiscal policies reduce expenditure by decreasing government spending or increasing taxes, thus lowering aggregate demand. Monetary policies reduce expenditure by raising interest rates, making borrowing more costly and thereby reducing consumer spending and business investment.

What role does elasticity of demand play in the effectiveness of these policies?

Elasticity of demand determines how responsive the quantity demanded is to price changes. High elasticity for exports means that devaluation will significantly increase export volumes, making expenditure-switching policies more effective. Similarly, high elasticity for imports means increased import prices will substantially reduce import volumes.

1. The price system and the microeconomy

1.1 Types of cost, revenue and profit, short-run and long-run production

1.1.1 Short-run cost function: TC, AC, MC, TFC, TVC, AFC, AVC

1.1.2 Long-run production and returns to scale

1.1.3 Long-run cost curve and minimum efficient scale

1.1.4 Economies and diseconomies of scale

1.1.5 Revenue definitions and calculation: TR, AR, MR

1.1.6 Normal, subnormal and supernormal profit

1.1.7 Short-run production function and law of diminishing returns

1.2 Different market structures

1.2.1 Market types: perfect, monopoly, monopolistic, oligopoly, natural monopoly

1.2.2 Structure: number of firms, product type, barriers to entry

1.2.3 Performance in different markets: revenues, output, profit, supply curve, efficiency

1.2.4 Oligopoly: collusion, price/non-price competition, Prisoner's Dilemma

1.2.5 Concentration ratio

1.3 Growth and survival of firms

1.3.1 Reasons for different firm sizes

1.3.2 Internal and external growth: horizontal, vertical, conglomerate

1.3.3 Cartels and their consequences

1.3.4 Principal–agent problem

1.4 Differing objectives and policies of firms

1.4.1 Profit-maximisation and alternative objectives

1.4.2 Price discrimination: types, conditions, consequences

1.4.3 Other pricing policies: limit, predatory, price leadership

1.4.4 PED and firm revenue in different demand curves

1.5 Utility

1.5.1 Definition and calculation of total and marginal utility

1.5.2 Diminishing marginal utility

1.5.3 Equi-marginal principle

1.5.4 Derivation of individual demand curve

1.5.5 Limitations of marginal utility theory

1.6 Indifference curves and budget lines

1.6.1 Meaning of indifference curve and budget line

1.6.2 Causes of shifts in budget line

1.6.3 Income, substitution, and price effects

1.6.4 Limitations of indifference curve model

1.7 Efficiency and market failure

1.7.1 Productive and allocative efficiency

1.7.2 Pareto optimality and dynamic efficiency

1.7.3 Definition and causes of market failure

1.8 Private costs and benefits, externalities and social costs and benefits

1.8.1 Calculation of social, private and external costs and benefits

1.8.2 Positive and negative externalities in consumption and production

1.8.3 Deadweight welfare losses and asymmetric information

2. The Macroeconomy

2.1 Price stability

2.1.1 Consequences of inflation

2.1.2 Definition of inflation, deflation, disinflation

2.1.3 Measurement: CPI and difficulties

2.1.4 Nominal vs real values

2.1.5 Causes of inflation: cost-push and demand-pull

2.2 National income statistics

2.2.1 Meaning of national income

2.2.2 Measurement: GDP, GNI, NNI

2.2.3 Adjustment from market to basic prices

2.2.4 Adjustment from gross to net values

2.3 Circular flow of income

2.3.1 Circular flow in closed and open economies

2.3.2 Injections and leakages (multiplier not required)

2.3.3 Equilibrium and disequilibrium (no propensities)

2.4 Aggregate Demand and Aggregate Supply analysis

2.4.1 Definition and components of Aggregate Demand

2.4.2 Shape and shifts of AD curve

2.4.3 Definition and determinants of Aggregate Supply

2.4.4 Shape of AS in short run and long run

2.4.5 Shifts in AS in short and long run

2.4.6 Movement along vs shift in AD and AS

2.4.7 Establishing equilibrium in AD/AS model

2.4.8 Effects of AD/AS shifts on output, price level, and employment

2.5 Economic growth

2.5.1 Meaning and measurement of economic growth

2.5.2 Nominal vs real GDP growth

2.5.3 Causes and consequences of economic growth

2.6 Unemployment

2.6.1 Meaning and measures of unemployment

2.6.2 Causes and types: frictional, structural, cyclical, seasonal, technological

2.6.3 Consequences of unemployment

3. International economic issues

3.1 Relationship between countries at different levels of development

3.1.1 External debt: causes and consequences

3.1.2 Role of IMF and World Bank

3.1.3 International aid: forms, reasons, effects

3.1.4 Trade and investment

3.1.5 Multinational companies: definition, activities, consequences

3.1.6 Foreign Direct Investment: definition and consequences

3.2 Globalisation

3.2.1 Meaning, causes, and consequences of globalisation

3.2.2 Free trade area, customs union, monetary union, economic union

3.2.3 Trade creation and trade diversion

3.3 Policies to correct disequilibrium in the balance of payments

3.3.1 Balance of payments accounts: current, financial, and capital

3.3.2 Impact of fiscal, monetary, supply-side, protectionist and exchange rate policies

3.3.3 Expenditure-switching vs expenditure-reducing policies

3.4 Exchange rates

3.4.1 Measurement of exchange rates: nominal vs real

3.4.2 Trade-weighted exchange rates

3.4.3 Fixed and managed exchange rate determination

3.4.4 Revaluation vs devaluation of fixed exchange rate

3.4.5 Effects of exchange rate changes: Marshall-Lerner and J curve

3.5 Economic development

3.5.1 Classification by development and national income

3.5.2 Indicators of living standards and development: monetary, non-monetary, composite

3.5.3 Comparison of growth and living standards across countries and over time

3.6 Characteristics of countries at different levels of development

3.6.1 Population: birth/death rate, infant mortality, migration, urbanisation

3.6.2 Income distribution: Gini coefficient, Lorenz curve

3.6.3 Economic structure: employment sectors, trade patterns

4. The macroeconomy

4.1 Economic growth and sustainability

4.1.1 Positive and negative output gaps

4.1.2 Business (trade) cycle: phases, causes, stabilisers

4.1.3 Policies to promote economic growth and their effectiveness

4.1.4 Definition and effects of inclusive economic growth

4.1.5 Definition and effects of sustainable economic growth

4.1.6 Policies to mitigate impact of growth on environment

4.1.7 Actual vs potential growth

4.2 Employment/unemployment

4.2.1 Full employment: definition

4.2.2 Equilibrium and disequilibrium unemployment (including hysteresis)

4.2.3 Voluntary and involuntary unemployment

4.2.4 Natural rate of unemployment: definition, determinants, policy implications

4.2.5 Trends in employment and unemployment

4.2.6 Labour mobility: geographical and occupational

4.2.7 Policies to reduce unemployment and their effectiveness

4.3 Money and banking

4.3.1 Definition, functions, and characteristics of money

4.3.2 Definition of money supply and quantity theory of money (MV=PT)

4.3.3 Functions and objectives of commercial banks

4.3.4 Causes of changes in money supply in open economy

4.3.5 Credit creation, central bank role, government deficit financing, quantitative easing

4.3.6 Policies to reduce inflation and their effectiveness

4.3.7 Demand for money: liquidity preference theory

4.3.8 Interest rate determination: loanable funds and Keynesian theory

4.4 The circular flow of income

4.4.1 The multiplier: definition and calculation in different economies

4.4.2 Propensities: APS, MPS, APC, MPC, APM, MPM, ART, MRT

4.4.3 National income determination using AD and income approach

4.4.4 Effect of AD changes on national income using the multiplier

4.4.5 Components and determinants of AD: consumption, savings, investment, government spending, net export

4.4.6 Full employment and equilibrium level of national income

4.4.7 Inflationary and deflationary gaps

5. The price system and the microeconomy

5.1 Price elasticity of supply

5.1.1 Factors affecting PES

5.1.2 Implications for speed of response to market changes

5.1.3 Definition of PES

5.1.4 Formula and calculation of PES

5.1.5 Interpretation of PES coefficients

5.2 The interaction of demand and supply

5.2.1 Market equilibrium and disequilibrium

5.2.2 Shifts in demand and supply affecting equilibrium

5.2.3 Relationships between markets: complements, substitutes, derived demand, joint supply

5.2.4 Functions of price: rationing, signalling, incentivising

5.3 Consumer and producer surplus

5.3.1 Meaning and significance of consumer surplus

5.3.2 Meaning and significance of producer surplus

5.3.3 Causes of changes in consumer and producer surplus

5.3.4 Elasticity’s role in determining surplus changes

5.4 Demand and supply curves

5.4.1 Effective demand

5.4.2 Individual and market demand and supply

5.4.3 Determinants of demand

5.4.4 Determinants of supply

5.4.5 Causes of a shift in the demand curve

5.4.6 Causes of a shift in the supply curve

5.4.7 Shift vs movement along demand/supply curves

5.5 Price elasticity, income elasticity and cross elasticity of demand

5.5.1 Definitions of PED, YED, XED

5.5.2 Formulae and calculation of PED, YED, XED

5.5.3 Interpretation of elasticity coefficients

5.5.4 Types of elasticity: elastic, inelastic, unitary

5.5.5 Variation in PED along a straight-line demand curve

5.5.6 Factors affecting PED, YED, XED

5.5.7 Relationship between PED and total expenditure

5.5.8 Decision-making implications of PED, YED, XED

6. Government macroeconomic intervention

6.1 Government macroeconomic policy objectives

6.1.1 Using policy to achieve price stability, low unemployment, and economic growth

6.2 Fiscal policy

6.2.1 Meaning of government budget

6.2.2 Government budget deficit vs surplus

6.2.3 Meaning and significance of national debt

6.2.4 Types of taxes and tax rates

6.2.5 Reasons for taxation

6.2.6 Types and reasons for government spending

6.2.7 Expansionary vs contractionary fiscal policy

6.2.8 AD/AS analysis of fiscal policy impact

6.3 Monetary policy

6.3.1 Definition and tools of monetary policy

6.3.2 Expansionary vs contractionary monetary policy

6.3.3 AD/AS analysis of monetary policy impact

6.4 Supply-side policy

6.4.1 Meaning and objective of supply-side policy

6.4.2 Tools of supply-side policy

6.4.3 AD/AS analysis of supply-side policy impact

7. Basic economic ideas and resource allocation

7.1 Scarcity, choice and opportunity cost

7.1.1 Fundamental economic problem of scarcity

7.1.2 Need to make choices at all levels (individuals, firms, governments)

7.1.3 Nature and definition of opportunity cost, arising from choices

7.1.4 Basic questions of resource allocation: what, how, for whom

7.2 Economic methodology

7.2.1 Economics as a social science

7.2.2 Positive and normative statements

7.2.3 Meaning of the term ceteris paribus

7.2.4 Importance of the time period (short run, long run, very long run)

7.3 Factors of production

7.3.1 Definition of land, labour, capital and enterprise

7.3.2 Human capital vs physical capital

7.3.3 Rewards to the factors of production

7.3.4 Division of labour and specialisation

7.3.5 Role of the entrepreneur: risk and organisation

7.4 Resource allocation in different economic systems

7.4.1 Decision-making in market, planned and mixed economies

7.4.2 Resource allocation processes in different systems

7.5 Production possibility curves

7.5.1 Nature and meaning of a production possibility curve (PPC)

7.5.2 Shape of PPC: constant and increasing opportunity costs

7.5.3 Causes and consequences of shifts in a PPC

7.5.4 Significance of a position within a PPC

7.6 Classification of goods and services

7.6.1 Free goods and private goods (economic goods)

7.6.2 Public goods: nature and definition

7.6.3 Merit goods and under-consumption due to imperfect information

7.6.4 Demerit goods and over-consumption due to imperfect information

8. Government microeconomy intervention

8.1 Reasons for government intervention in markets

8.1.1 Addressing the non-provision of public goods

8.1.2 Addressing over-consumption of demerit goods and under-consumption of merit goods

8.1.3 Controlling prices in markets

8.2 Methods and effects of government intervention in markets

8.2.1 Impact and incidence of specific indirect taxes

8.2.2 Impact and incidence of subsidies

8.2.3 Direct provision of goods and services

8.2.4 Maximum and minimum prices

8.2.5 Buffer stock schemes

8.2.6 Provision of information

8.3 Addressing income and wealth inequality

8.3.1 Difference between income as a flow and wealth as a stock

8.3.2 Measuring inequality: Gini coefficient

8.3.3 Economic reasons for income and wealth inequality

8.3.4 Policies to redistribute income and wealth: minimum wage, transfer payments, progressive taxes, stat

9. International economic issues

9.1 The reasons for international trade

9.1.1 Absolute vs comparative advantage

9.1.2 Benefits of specialisation and free trade

9.1.3 Terms of trade: measurement, causes, impact

9.1.4 Limitations of trade theories

9.2 Protectionism

9.2.1 Meaning and context of protectionism

9.2.2 Tools of protection: tariffs, quotas, subsidies, embargoes, red tape

9.2.3 Arguments for and against protectionism

9.3 Current account of the balance of payments

9.3.1 Components of the current account

9.3.2 Calculation of trade balances and CAB

9.3.3 Causes and consequences of imbalances

9.4 Exchange rates

9.4.1 Definition and determination of floating exchange rates

9.4.2 Depreciation vs appreciation of exchange rates

9.4.3 Causes of exchange rate changes

9.4.4 Impact of exchange rate changes using AD/AS

9.5 Policies to correct imbalances in the current account

9.5.1 Objective of stability in current account

9.5.2 Use of fiscal, monetary, supply-side and protectionist policies

10. Government microeconomic intervention

10.1 Government policies to achieve efficient resource allocation and correct market failure

10.1.1 Application and effectiveness of taxes and subsidies

10.1.2 Use of price controls and production quotas

10.1.3 Prohibitions, licences, and direct provision

10.1.4 Pollution permits and property rights

10.1.5 Nationalisation and privatisation

10.1.6 Provision of information and behavioural insights

10.1.7 Definition, causes and consequences of government failure

10.2 Equity and redistribution of income and wealth

10.2.1 Equity vs equality

10.2.2 Equity vs efficiency

10.2.3 Absolute vs relative poverty

10.2.4 Poverty trap

10.2.5 Policies: negative income tax, universal and means-tested benefits, basic income

10.3 Labour market forces and government intervention

10.3.1 Derived demand and factors affecting labour demand

10.3.2 Shifts vs movement along labour demand curve

10.3.3 Marginal revenue product and labour demand

10.3.4 Factors affecting labour supply: wage and non-wage

10.3.5 Shifts vs movement along labour supply curve

10.3.6 Wage determination in perfect labour markets

10.3.7 Imperfect markets: trade unions, minimum wage, monopsony

10.3.8 Wage differentials from market forces

10.3.9 Transfer earnings and economic rent

11. Government macroeconomic intervention

11.1 Government macroeconomic policy objectives

11.1.1 Objectives: inflation, BoP, unemployment, growth, development, sustainability, redistribution

11.2 Links between macroeconomic problems and their interrelatedness

11.2.1 Internal vs external value of money

11.2.2 Balance of payments and inflation

11.2.3 Growth and inflation

11.2.4 Growth and balance of payments

11.2.5 Inflation and unemployment: traditional and expectations-augmented Phillips curve

11.3 Effectiveness of policy options to meet all macroeconomic objectives

11.3.1 Fiscal, monetary, supply-side, exchange rate and trade policies

11.3.2 Policy conflicts and problems

11.3.3 Macroeconomic government failure

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Expenditure-Switching vs Expenditure-Reducing Policies

Introduction