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2018 GCE A Level Economics (9757) Macro Answers: Supply-Side Policies to Achieve Inclusive Growth

Discuss whether supply-side policies are the most appropriate policies to achieve inclusive economic growth in Bangladesh. [10]

Comments: For this question, the concept of inclusive economic growth has to be adapted to the context of Bangladesh, which entails rapid and sustained poverty reduction that allows people to contribute to and benefit from economic growth. This is unlike the context of SG where absolute poverty is not a concern and inclusive growth primarily involves productive employment of low-skilled workers. For supply-side policies, the focus is not only on how it may lead to a rise in productive capacity, not also how it can improve productivity of workers who have inadequate access to electricity, water, transport infrastructure. Also, when discussing fiscal and exchange rate policy to achieve inclusive growth in Bangladesh, there is a need to understand how the twin objectives of higher economic growth and lower income inequality can be achieved together.

Suggested Answer:

The concept of inclusive economic growth entails rapid and sustained poverty reduction that allows people to contribute to and benefit from economic growth. From Extract 4, there are evidence that Bangladesh’s economic growth has been very unequal, with “only about 1% makes up the privileged class and about 50 million people living below the poverty line”. Also, “for the female labour force they faced greater challenges accessing finance and information who make up nearly 45% of the working population”. From Extract 5, “unequal access to water, roads and energy” definitely poses issue of opportunities for growth and help to lift people out of poverty. This will require the government to intervene with appropriate policies, like supply side policies, fiscal policy or exchange rate policies to ensure inclusive economic growth can be achieved. Supply-side policies include short run AS and long run AS policies. SRAS policies are policies to increase SRAS by reducing cost of production and LRAS policies are policies to increase LRAS by increasing the quantity and quality of resources / productive capacity of a country. To increase SRAS, Bangladesh government can subsidise firms by paying part of the wages to “reduce the earning gaps between workers and owners” as mentioned in Extract 4. This will help to reduce the cost of production of firms and allow the SRAS to increase as firms increase their output. However, subsidy will put a strain on government’s budget which is already in deficit (Table 1) and it may breed complacency. To increase LRAS, the government can spend on infrastructure projects to increase its infrastructure and technology. From Extract 5, these spending can help the remaining 13% of the population to access to adequate to water resources, access to transport and nearly half of the population to access to electricity. This will increase the productivity of the workers and contribute to economic growth and productive capacity of Bangladesh. Also, spending can also be directed towards retraining of workers to upgrade their skills and productivity, allowing them to move up the value chain and improve their earnings. With higher productivity, the derived demand for labour can increase and hence wages can be increased. From Extract 4, the retraining spending can be targeted to the certain segments of the labour force, such as “the females as they face greater challenges accessing finance and information”. However, supply-side policies have a long effectiveness time lag and it may not be effective in encouraging inclusive growth in the short run. The Bangladesh government could adopt income redistributive fiscal policy. For example, higher direct taxes such as personal income tax, may be levied on the “1% of the privileged class” (Extract 4) and their family-owned businesses. This may reduce both their disposable income and after-tax profits. The revenue earned from the tax, therefore can be used to subsidise the poor in terms of paying for their training programmes or funding transfer payments to increase their after-transfer wages. The intent may be to reduce the economic opportunities of the country’s elite and improving them for the poor, and hence making economic growth in Bangladesh to be more inclusive. However, fiscal policy via a rise in personal and corporate income tax will cause a fall in consumption and investments. As demand for goods and services fall, firms will experience an unplanned increase in inventories and would reduce production, leading to unemployment. It is worth noting that this policy has to be coupled with increased government spending on power and transport infrastructure, financed by higher taxes on the country's elite to generate actual growth and reduce hardship on the poor who have inadequate access to basic infrastructure. However, increasing direct taxes is politically unfavourable for the government as the elites have an “ongoing domination of economic opportunities in terms control of vast amount of wealth and own most of the banks and other financial institutions in Bangladesh” (Extract 4). Finally, the Bangladesh government can consider using exchange rate policy. The government can depreciate its currency as net exports make up a significant proportion of its national income; “currently the second largest exporter of ready-made clothing in the world after China” and “record amounts of foreign remittances from its labour export (Extract 4). With its currency depreciated, the price of its exports in terms of foreign currency will fall and the quantity demanded of their export will increase. For its imports, it will become more expensive in foreign currency and hence the quantity demanded for imports to fall. The extent of the change in quantity exported and quantity imported will depend on PEDx and PEDm respectively. Assuming Marshall-Lerner Condition holds (i.e. PEDx + PEDm > 1), this will lead to an improvement in the country’s balance of trade. Given that Bangladesh has a comparative advantage (lower relative costs in production) in labour intensive industry such as clothing, it would allow firms to expand their production and hence allowing more Bangladeshis to participate in the economic growth and hence achieving inclusive economic growth. Also, the low-skilled Bangladeshi labourers working abroad and hence earning wages in foreign currency can also experience a rise in the their incomes when converted to the Bangladeshi domestic currency (i.e. Taka). In conclusion, to achieve inclusive economic growth, supply side policies could be the most appropriate policies as they improve the productivity and productive capacity of the country and hence allowing everyone to participate in the economic growth in the long run. It resolves the underlying problem of inadequate access to basic infrastructure by the very poor who will experienced reduce productivity and hence lower earnings potential, thereby perpetuating the poverty cycle. However, it should be complemented with policies such as income redistributive fiscal policy as it may help to ‘transfer’ income from the elites to the poor, bearing in mind that the policy may require careful consideration as the elites dominate Bangladesh’s economic and business activities and having strong influence in the political arena. At the same time given that the government faces high debt level, it may make it difficult to implement supply side policies hence increasing direct taxes for the elites may be one way to fund these policies. Lastly, exchange rate policies that depreciate Bangladesh currency may not be effective as it targets mainly export-oriented industries and it will erode the purchasing power of the citizens when importing goods and services from abroad and hence making it more difficult to achieve inclusive economic growth.



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