Discuss the possible contribution of supply-side
reforms to achieving an improvement in the UK
balance of trade in goods (25 marks)
Supply-side reforms are macroeconomic policies that are aimed at improving the long-term
productive potential of an economy, in order to increase the long-run trend growth rate. As of 2017
Q1, the UK’s economy was running a deficit of £17bn on the current account of the balance of
payments, which means that the value of imported goods exceeded the value of exported goods.
Though this highlights the weaknesses in the UK manufacturing sector, there are both public sector
and private sector reforms that may aid the competitiveness of the UK’s export market, thus
improving their trade balance.
Investment in training and education is a supply-side policy that may improve the long-term labour
productivity of the UK’s economy. Investing in human capital provides workers with the necessary
skills, mobility and flexibility required for both an efficient labour force and better employment
prospects. In addition, improving the skills of workers makes the labour force more
productively efficient, which is likely to reduce the costs of production in export-based industries in
the long-term.
This is shown by diagram A, in which increased labour
productivity leads to an outward shift of the LRAS, from LRAS1
to LRAS2, increasing the long-term productive capacity of the
economy. In addition, an outward shift of supply leads to a fall
in the price level, from PL1 to PL2, which reduces the cost of
production for firms. As a result, UK firms can pass this saving
onto foreign consumers, making exports cheaper and more
price competitive. This may, in theory, increase the demand
for exports by foreign markets and lead to an overall
improvement in the balance of trade, as the value of exports
will be relatively higher. However, the issue with education
and training investments is that they are long-term policies
and the trade deficit of the UK, in the short-term, is likely to persist. In addition, it is uncertain as to
how these policies will be received, as people may be unwilling to participate in training schemes,
therefore preventing them from gaining the necessary skills to improve labour efficiency.
A fiscal supply-side policy of reducing corporation tax may improve the UK’s balance of trade, as a
reduction in corporation tax allows firms to have a greater retention of their profits. This, in turn,
provides firms with the opportunity to reinvest their profits into research and development projects,
allowing the UK export industry to produce innovative, higher quality goods. A perceived
improvement in the quality and range of UK exports may lead to an increase in export demand by
foreign markets, therefore improving the UK’s balance of trade, as the value of exports is relatively
higher. Similarly, like investment and training programmes, research and development projects are
time consuming and are associated with a time lag. In addition, the extent to which innovative goods
impact the UK’s balance of trade depends on the technological progress of competing economies.
For nations like South Korea, in which the manufacture of hi-tech products, by companies like
Samsung, exceed the UK, their sustained technological progress is likely to be higher than that of the
UK. Accompanied by the aid of cheap labour, high technology goods are likely to be cheaper to
produce in South Korea, and thus more price competitive than competing UK goods. Therefore,
while the quality of UK goods may increase export demand, the relative competitiveness of the UK
may not increase as other economies are advancing at faster rates than the UK.
reforms to achieving an improvement in the UK
balance of trade in goods (25 marks)
Supply-side reforms are macroeconomic policies that are aimed at improving the long-term
productive potential of an economy, in order to increase the long-run trend growth rate. As of 2017
Q1, the UK’s economy was running a deficit of £17bn on the current account of the balance of
payments, which means that the value of imported goods exceeded the value of exported goods.
Though this highlights the weaknesses in the UK manufacturing sector, there are both public sector
and private sector reforms that may aid the competitiveness of the UK’s export market, thus
improving their trade balance.
Investment in training and education is a supply-side policy that may improve the long-term labour
productivity of the UK’s economy. Investing in human capital provides workers with the necessary
skills, mobility and flexibility required for both an efficient labour force and better employment
prospects. In addition, improving the skills of workers makes the labour force more
productively efficient, which is likely to reduce the costs of production in export-based industries in
the long-term.
This is shown by diagram A, in which increased labour
productivity leads to an outward shift of the LRAS, from LRAS1
to LRAS2, increasing the long-term productive capacity of the
economy. In addition, an outward shift of supply leads to a fall
in the price level, from PL1 to PL2, which reduces the cost of
production for firms. As a result, UK firms can pass this saving
onto foreign consumers, making exports cheaper and more
price competitive. This may, in theory, increase the demand
for exports by foreign markets and lead to an overall
improvement in the balance of trade, as the value of exports
will be relatively higher. However, the issue with education
and training investments is that they are long-term policies
and the trade deficit of the UK, in the short-term, is likely to persist. In addition, it is uncertain as to
how these policies will be received, as people may be unwilling to participate in training schemes,
therefore preventing them from gaining the necessary skills to improve labour efficiency.
A fiscal supply-side policy of reducing corporation tax may improve the UK’s balance of trade, as a
reduction in corporation tax allows firms to have a greater retention of their profits. This, in turn,
provides firms with the opportunity to reinvest their profits into research and development projects,
allowing the UK export industry to produce innovative, higher quality goods. A perceived
improvement in the quality and range of UK exports may lead to an increase in export demand by
foreign markets, therefore improving the UK’s balance of trade, as the value of exports is relatively
higher. Similarly, like investment and training programmes, research and development projects are
time consuming and are associated with a time lag. In addition, the extent to which innovative goods
impact the UK’s balance of trade depends on the technological progress of competing economies.
For nations like South Korea, in which the manufacture of hi-tech products, by companies like
Samsung, exceed the UK, their sustained technological progress is likely to be higher than that of the
UK. Accompanied by the aid of cheap labour, high technology goods are likely to be cheaper to
produce in South Korea, and thus more price competitive than competing UK goods. Therefore,
while the quality of UK goods may increase export demand, the relative competitiveness of the UK
may not increase as other economies are advancing at faster rates than the UK.
