Supply side policies are those policies that aim to shift the long run aggregate supply curve to the right. The policies will also shift the short run aggregate supply curve; however this won’t affect the level of long-term growth within an economy.
The same effect can also be demonstrated by a shift in an economy’s production possibility frontier, as shown below.
There are two main policy groups that supply side policies fit into: the labour market and the product market.
The Labour Market and Supply Side Policies
Supply side policies aimed at the labour market aim to improve the quality and quantity of the workers available in the economy. A rise in the number of people available to work in the UK will increase the productive potential of an economy. An increase in the quality of the labour force will lead to an improvement its in productivity or efficiency. There are a number of main supply side policies we can highlight:
- Reducing income tax and unemployment benefit reform.
- Improving education and training, for example, retraining be used to lower structural unemployment levels and raising the school-leaving age and increasing numbers of students that attend university.
- Reducing trade union power. The Conservative Government of the 1980s greatly reduced the power of the trade unions which diminished the unions ability of to increase wage rates in the labour market.
The Product Market and Supply Side Policies
Supply side policies in the product markets are designed to increase competition and productivity. Efficiency gains will enable the economy to produce more using the same resources, thereby shifting the long run aggregate supply curve to the right.
Privatisation involved the government selling state-run businesses to the private sector. Shares in companies such as British Telecom, British Gas and South West Water were sold in the hope that the businesses would be more efficient in the private sector. Regulators were set up to ensure the new monopoly businesses would not abuse their market power by charging excessively high prices.
It is argued that businesses will be more efficient in the private sector where shareholders are able to sack the directors of the business if they don’t make enough profits, rather than the public sector where the managers were answerable to the government.
Deregulation of markets often went hand-in-hand with privatisation. Deregulation is the opening up of markets to greater competition – many state owned monopolies now faced competition for the first time, such as British Telecom and the electric and gas companies. This led to a fall in the price as firms were forced to reduce costs and profit margins in order to be competitive.
Laws were introduced that ensured that competition could thrive in the market; businesses are not allowed to collude (agree to fix high prices), merge to form a monopoly or abuse monopoly power.
Free trade allows goods and services to be traded around the world without taxes being imposed on imports.
Encouraging entrepreneurial activity
The government encourages entrepreneurs to start up small businesses by offering tax breaks, loans and guidance and support.
Promoting investment spending
Encouraging investment will not only increase aggregate demand in the short run, but it will shift the aggregate supply outwards in the long run as well.
Supply-Side Fiscal Policy
In the previous chapter we looked at examples of supply-side fiscal policies that also shift the long run aggregate supply curve to the right, they were:
- Labour Market Incentives
- Capital Spending
- Research and Development and Innovation
- Improvements in Human Capital
The Private Sector and Supply Side Policies
Many of the policies highlighted in this chapter are also pursued by private sector businesses as they try and reduce costs, improve efficiency and become more competitive.
A Summary of Supply Side Policies
Any increase in the quality or quantity of any of the factors of production will lead to an outward shift of the long run aggregate supply curve