DEMAND-SIDE POLICY: FISCAL POLICY

[DEFINITION OF FISCAL POLICY]

Fiscal policy is the use of government expenditure and taxation policy to
influence the level of economic activity via the aggregate demand.

[EXAMPLES]
Such a policy has been employed by many countries to counter the
recession caused by the 2008 Global Financial Crisis. For example, the
Singapore Government put in place a SGD $20 billion Resilience Package,
while the United States introduced a stimulus package totaling USD $800
billion and their Chinese counterpart pump-primed a total of 2 trillion yuan
into the Chinese economy.

[EXPLAIN MULTIPLIER EFFECT]
Given an initial increase in autonomous government expenditure of SGD
10 billion in infrastructure like roads and port facilities, the national
income will expand by an initial increase in ten billion dollars. Firms in the
capital goods industry will experience an unexpected decrease in inventory
levels, hence leading to increase in production levels to meet higher levels
of demand, hence leading to increase hiring of labour, which is a derived
demand. Wage levels of households employed in the capital goods
industry rises, hence leading to an increase in induced consumption,
generating a second round of increase in national income. The spending on
consumption goods by households employed in the capital goods industry
will lead to the same unexpected decrease in inventory of firms in the
consumption goods industry, leading to more hiring of households in the
consumption goods industry, generating a third round of increase in
national income. With each successive round of increase in national
income, withdrawals in the form of savings, taxes and import expenditure
also increases. The multiplier effect is hence defined as the number of
times the national income increases as a result of the initial injection of
autonomous expenditure.

[LIMITATION OF FISCAL POLICY: SMALL K VALUE]


DEMAND-SIDE POLICY: MONETARY POLICY

[DEFINITION OF MONETARY POLICY]
Monetary policy is a demand-management tool that is used to influence
money supply and hence interest rates to influence aggregate demand.

[EXPLANATION]
Generally during recessionary times, the Federal Reserve of the United
States will lower interest rates by injecting liquidity into the economy via
the purchase of bonds from the public through the workings of the open
market operations, or lowering the liquidity ratio of commercial banks and
via an outright decrease in lending bank rate.

When interest rates are lowered, the cost of borrowing for firms and
households are lowered. Hence additional units of investments will
become profitable and firms will increase investment until the expected
rates of return equals the new interest rate.

For the household, interest rates represent the cost of borrowing for big
ticket items. When interest rates fall, households are more able to finance
their consumption, hence stimulating autonomous consumption.

When interest rates are lowered, households face higher opportunity cost
for saving in banks because of inflation that erodes the real value of the
money saved in banks. Therefore, households have more incentives to
spend the money.

Given that the United States adopts a freely-floating exchange rate system,
a fall in interest rates will result in short-term hot money outflow by
investors who convert USD for foreign currency to earn arbitrage from the
speculative exercise in the forex market. This leads to the increase in
supply of US currency in the forex market, leading to the fall in the value of
USD in terms of foreign currency. Assuming PED elastic for American made
goods, a fall in price of US made goods will lead to more than
proportionate increase in quantity demanded for US exports.

[LIMITATION OF THE POLICY]

SUPPLY-SIDE POLICY

[DEFINITION OF SUPPLY-SIDE POLICY]
Supply-side policies are policies that are used to increase aggregate supply
of the economy, hence the productive capacity of the economy. The
aggregate supply will increase when there is an increase in the size of the
capital stock, the productivity of the capital stock, the size of the labour
force or the productivity of the labour force.

[MARKET-ORIENTATED POLICY]

[INTERVENTIONIST POLICY]