Supply-Side Policy

Introduction:

Supply-side economics focuses directly on the AS

When successful, the AS curve will shift outwards, increasing output for any given level of prices or reducing prices for any given level of output

Supply-side policies (SS pols) aim to:

• Encourage and reward individual enterprise and initiative, and to reduce the role of the government
• Put more reliance on market forces and competition, and less on government intervention and regulation

SS pols as remedy for Unemployment:

Structural Unemployment:

• Education system geared to the requirements of economic development
• Training facilities and institutions made available to workers who wish to upgrade skills / acquire new skills
• Training grants to encourage retraining and skills upgrading
• Reduce welfare benefits to encourage unemployed workers to take low paid jobs
• Evaluation:
  • Can impose burden on government budget
  • Great resistance in acquiring new skills, especially among older workers
  • Workers lacking in basic education and literacy may find the acquisition of new skills extremely difficult

Frictional Unemployment:

• Improve flow of information between employers and job applicants
• Establish labour exchanges, employment agencies, job centres, job fairs, career seminars and exhibitions
• Career guidance can be provided in schools so potential labour market entrants can acquire better understanding of potential jobs and suitable careers
• Make welfare benefits conditional on the recipient making an effort to find a job
• Evaluation:
  • There would still exist imperfect information as employers do not publish full list of skills or qualifications, slowing down search process

SS pols as remedy for Inflation:

Cost-push (wage-push and profit-push) inflation:

• Government can clamp down on the power of trade unions and/or firms with monopolistic power
• Evaluation:
  • Trade unions can be very powerful, making it difficult for the government to be triangulated with the management and the trade unions.
  • Trade union power threatened by outsourcing in recent years
  • Not feasible to restrain monopolistic multinational companies which are engines of growth to the economy
• Encourage increases in productivity through the retraining of labour / investment grants / tax incentives
• Evaluation:
  • Ensures productivity keeps up with rising wages
  • Difficult to retrain older workers who lack basic literacy and skills and usually have strong inertia to changes and learning

Prices and incomes policy:

• Any form of direct or indirect intervention by the government on wage-price setting with a view to influence the rate of inflation
• Operates through AS curve
• Includes price controls, price fixing, wage freeze, wage reduction in the public sector
• Effective against cost-push inflation only
• Can be removed once the target rate of inflation has been achieve and stabilised
• Evaluation:
  • Distorts market forces, expanding sectors will find it more difficult to attract labour, contract sectors will hang on to labour
  • Initial policy becomes ineffective once restraints are removed as wages and prices resume to unrestrained level
  • Difficult to enforce in the private sector
  • May result in black markets
  • Earnings (Wages + Overtime Pay + Bonuses) tend to rise faster than wage rates
  • Addition of fringe benefits by expanding sectors to overcome wage restraints may still add to the costs of production of the firms
• Policy in Singapore
  • Flexible wage structure in public sector to enable downward adjustments, recommended to the private sector
  • Central Provident Fund (CPF) contribution was cut during the Asian Financial Crisis from 20% to 10%
  • CPF cut may result in households being unable to finance housing loans since CPF is used to finance retirement consumption and housing loans
  • Government charges and fees often reduced during recessions, made easy since utilities are produced by government-linked corporations
  • Government also owns and rents out factory buildings and warehouses, enabling cuts in cost of running business to help firms survive recession, preventing unemployment due to business failure

Policies to encourage competition:

• Restrict mergers and takeovers
• Increase national output and reduce inflation
• Privatisation can lead to increase efficiency, more consumer choice and lower prices, more incentive to cut costs in the pursuit of profit maximisation
• If privatisation merely involves the transfer of a natural monopoly to private hands, scope for competition is limited, deregulation is necessary to introduce competition
• Evaluation:
  • Privatisation may lower costs through competition, but this may come at the expense of quality unless closely monitored
  • Effect of privatisation on unemployment is uncertain
  • Private firms may offer lower wages to use more labour, but may also use less labour to reduce costs

SS pols as remedy for Growth:

Some are also applicable to reduce cost-push inflation, especially improving productivity and quality of factors of production

Population and Labour Force:

• Imperative for countries facing aging population
• Inflow of both skilled and unskilled labour
• Pro-family stance employed by government, specific measures such as “baby bonuses”, longer maternity leave, five-day work week, better childcare facilities
• Evaluation:
  • Hiring foreign labour may face resentment from local labour pool
  • Foreign labour provide incentive for local workers to go for upgrading to make themselves more marketable to employers
  • Foreign labour may bring social problems like crime
  • Policies may slowdown restructuring of economy, since firms less likely to use capital-intensive method of production when cheap labour is available

Enhancing Human Capital:

• Advanced educational systems enable economic growth
• Produces workforce that is more flexible and occupationally mobile
• Government can subsidise education or intervene directly in its provision
• Government can subsidise training (e.g. Skills Development Fund)
• Tax deductions for training / educational courses
• Motivate workforce to upgrade skills and increase productivity
• Evaluation:
  • Education requires long gestation period, so new education policy will take long time to have effect
  • Usually great resistance in acquiring new skills, especially amongst older workers
  • Workers lacking basic education and literacy may find acquisition of skills difficult
  • Tertiary education important in Singapore since economy geared towards Knowledge-Based Economy (KBE)

Savings and Investment:

• Higher level of domestic savings results in greater capital accumulation
• Capital accumulation can be promoted by encouraging FDI (10-15 years of tax holidays in Singapore)
• Foreign companies also bring the latest technology into the market, and are the export engine of the economy
• This necessitates the need for Singapore to develop its own export markets, brand names, innovations and new products
• Investment also increases short-run Aggregate Demand (AD)
• Evaluation:
  • Indigenous sector may be neglected by government policy
  • Economic Development Board (EDB) attracts the foreign investors
  • Foreign investors helps local small and medium sized firms to develop and encourages entrepreneurship
  • Government is still concerned that people are not saving enough
  • CPF may be used for other purposes, such as expensive residential property, leading it to be insufficient for many people to live satisfactory retired life
  • Despite high domestic investment ratio, growth rate of GNP per capita is not much higher that some economies in the region
  • Singapore’s investment in housing and infrastructure does not link directly to growth rates
  • Need to improve the productivity of investment

Climbing the Technology Ladder:

• Improves the productivity of capital to achieve economic growth
• Requires Research and Development (R&D)
• Developing countries are taking away low value-added manufacturing opportunities from the Newly Industrialised Economies (NIEs)
• Advanced economies unlikely to give up lead in Science and Technology (S&T)
• Singapore needs to move up the ladder to sustain economic growth
• Non-rival nature of technology means technology often exhibits significant positive externalities
• Strong patent laws required to encourage R&D
• Subsidies and preferential tax treatment for firms engaging in R&D can help encourage R&D
• Governments also build industrial parks so that synergies derived from the proximity of various R&D personnel can be reaped
• R&D grants can promoted R&D at the various tertiary education institutions
• Requires not only physical infrastructure and fiscal incentives, but also human capital
• Developing local researchers and attracting foreign R&D labour is crucial
• Evaluation:
  • Size of Singapore poses serious challenge, because of relatively small absolute amount of resources that can be devoted to R&D
  • Needs to be selective in choosing niche areas in S&T
  • Selected areas should also enhance current industrial strengths and comparative advantage
  • Draw on larger international talent pool as cost-effective way to boost technological base in short time
  • Shortage of indigenous Small and Medium Enterprises (SMEs) is weakness
  • Efforts have been made to change curriculum to embrace Information Technology, and focus university admission policy on reasoning skills
  • Local firms need to absorb technology diffusion from Multinational Companies (MNCs) and foreign sources better

Interplay of Fiscal Policy (FP) and SS pols:

• Increased government spending on infrastructure and education investment not only boost SRAD, but also LRAS
• Expansionary FP in the form of reduction in direct taxes is believed to increase AD by encouraging consumption and investment
• Cutting personal income tax raises monetary returns to work, thereby increasing incentive to work
• Movement from income-based tax to expenditure based tax encourages people to work harder
• Cutting corporate tax raises profitability of firms, increasing incentive to invest