4.4.4 The Impact of Macroeconomic Policies — Practice Questions

Six original multiple-choice questions on the impact of macroeconomic policies: comparing alternative approaches, setting criteria for success and evaluating how effective a policy has been. One is a calculation.

6 questions Edexcel B A-Level Multiple choice Model answers included

Not read the notes yet? Start with the 4.4.4 The Impact of Macroeconomic Policies revision notes.

1. 1. A government scheme to cut unemployment in a coastal town meets its target of 2,000 new jobs within a year, and the jobs are still there five years later. Each job cost the government £150,000, paid for with extra borrowing.
   Of the following criteria for success, the one on which the scheme scores worst is

   Definition in context

   Select one answer

   A Cost.

   B Lasting effect.

   C Speed.

   D Target met.
   Show model answer

   Answer: A (Cost.). Take each criterion in turn. Target met: yes, 2,000 jobs. Speed: within a year. Lasting effect: the jobs are still there five years later.
   Cost: £150,000 of borrowing for each job, or 2,000 × £150,000 = £300 million in all, which adds to the national debt. That is where the scheme is weakest.

   Why the other options are wrong

   • B — The jobs are still there five years later, so the scheme scores well on lasting.
   • C — The target was reached within a year, which is quick.
   • D — The scheme met its target of 2,000 jobs.

2. 2. Inflation in a country reaches 9%, driven mainly by a jump in world gas prices. The central bank raises its interest rate several times, and two years later inflation is back at its 2% target. Over the same two years, world gas prices halve.
   The strongest reason to doubt that the rate rises deserve full credit for the fall in inflation is that

   Applied reasoning

   Select one answer

   A Inflation data arrive late and are often revised later.

   B Part of the fall came from cheaper gas, not the higher rates.

   C Rate rises take far longer than two years to have any effect.

   D The rate rises also slowed growth and raised borrowers' costs.
   Show model answer

   Answer: B (Part of the fall came from cheaper gas, not the higher rates.). To judge a policy, separate what it did from what would have happened anyway.
   Higher interest rates work by cutting demand at home; they cannot lower world gas prices. Gas prices halved over the same two years, which on its own would pull inflation down. So part of the fall in inflation came from cheaper gas, and the rate rises cannot claim all of it.

   Why the other options are wrong

   • A — Late and revised data make policy harder to run, but a fall from 9% to 2% over two years is far too large to be a revision. It does not explain why the credit should be shared.
   • C — Monetary policy takes around 18 to 24 months to have its full effect, so rate rises can work within two years.
   • D — These are real side effects, and they count against the policy on cost. But they say nothing about whether the rate rises caused the fall in inflation.

3. 3. A sharp rise in energy bills is hitting low-income households hardest. The government wants to help them without adding much to spending across the whole economy.
   Of the following, the policy best suited to this aim is

   Applied reasoning

   Select one answer

   A A cut in Bank Rate, so that loans become cheaper.

   B A cut in the basic rate of income tax for all workers.

   C A round of quantitative easing to lower long-term rates.

   D Payments towards bills for low-income households only.
   Show model answer

   Answer: D (Payments towards bills for low-income households only.). The aim has two parts: reach one group, and keep the boost to total spending small.
   Fiscal policy can be aimed at a group. Payments to low-income households put the money where the problem is, and because only one group receives them, they add far less to spending across the economy than a policy that reaches everyone.

   Why the other options are wrong

   • A — Bank Rate is set by the Bank of England's MPC, not the government, and a cut reaches every household and firm alike, so it adds to spending across the whole economy.
   • B — A cut in the basic rate reaches every taxpayer, including high earners, so it adds to spending everywhere rather than helping one group.
   • C — QE is run by the Bank of England and lowers borrowing costs for everyone. It cannot be aimed at low-income households.

4. 4. A government spends £360 million on a scheme to create jobs in one region. The region gains 12,000 jobs, but an evaluation finds that 4,000 of them would have been created anyway, without the scheme.
   The cost to the government of each extra job the scheme created is

   Calculation

   Select one answer

   A £22,500

   B £30,000

   C £45,000

   D £90,000
   Show model answer

   Answer: C (£45,000). Only the jobs that would not have existed without the scheme count as its result: 12,000 − 4,000 = 8,000.
   Cost per extra job = £360 million ÷ 8,000 = £45,000.
   Judging a policy means comparing it with what would have happened anyway, and then asking what the result cost.

   Why the other options are wrong

   • A — £360 million ÷ 16,000 = £22,500 adds the 4,000 jobs that would have been created anyway, instead of taking them away. Only the 8,000 extra jobs are the scheme's result.
   • B — £360 million ÷ 12,000 = £30,000 counts all 12,000 jobs, including the 4,000 that would have been created anyway. That flatters the scheme.
   • D — £360 million ÷ 4,000 = £90,000 divides by the jobs that would have been created anyway, which are exactly the ones the scheme did not create.

5. 5. A government can spend no more than £10 billion, and wants the largest lasting rise in real GDP. It is willing to wait several years for the result. Table 1 shows forecasts for four policies.
   Using Table 1, the policy that best meets the government's aim is

   Data interpretation

   Table 1: Forecast effect of four policies on real GDP, compared with no policy

   Policy	Cost to the government	Year 1	Year 3	Year 6
   P: one-off cash payment to every household	£10bn	+1.2%	+0.1%	0.0%
   Q: cut in corporation tax for three years	£10bn	+0.3%	+0.6%	+0.2%
   R: national adult training programme	£10bn	+0.1%	+0.4%	+0.7%
   S: new high-speed rail line	£25bn	+0.2%	+0.5%	+1.0%

   Select one answer

   A Policy P.

   B Policy Q.

   C Policy R.

   D Policy S.
   Show model answer

   Answer: C (Policy R.). There are two tests: the policy must cost no more than £10 billion, and it must give the largest rise that lasts, which Year 6 shows best.
   Policy S has the largest Year 6 effect, +1.0%, but costs £25 billion, so it fails the first test.
   Of the three that cost £10 billion, Policy R has by far the largest Year 6 effect, +0.7%. It is slow, but the government is willing to wait. Training raises the economy's capacity, so its effect grows rather than fading.

   Why the other options are wrong

   • A — Policy P gives the biggest boost in Year 1, but it is a one-off rise in spending and has gone by Year 6. It scores on speed, not on lasting.
   • B — Policy Q has the largest Year 3 effect of the three £10 billion policies, but it fades once the tax cut ends, to +0.2% by Year 6.
   • D — Policy S has the largest lasting effect, but it costs £25 billion, two and a half times what the government has to spend.

6. 6. An economy is in recession, with weak spending by households and firms. Firms also report a long-running shortage of qualified engineers.
   Of the following, the combination best suited to both problems is

   Applied reasoning

   Select one answer

   A Cut Bank Rate now, and fund engineering training.

   B Cut Bank Rate now, and raise income tax as well.

   C Fund engineering training, and raise Bank Rate.

   D Raise Bank Rate now, and cut out-of-work benefits.
   Show model answer

   Answer: A (Cut Bank Rate now, and fund engineering training.). The two problems have different causes, so they need two kinds of policy.
   Weak spending is a demand-side problem: a cut in Bank Rate makes borrowing cheaper → more consumption and investment → AD rises, within two years or so.
   The engineer shortage is a supply-side problem: funded training adds to the skills of the labour force and raises capacity over time.
   This is the usual mix: demand-side policy to steady the economy now, and supply-side policy to raise its growth rate over time.

   Why the other options are wrong

   • B — The rate cut helps, but raising income tax takes spending out of the economy in a recession, and it does nothing for the engineer shortage.
   • C — Training addresses the skills shortage, but raising Bank Rate cuts spending further when it is already weak.
   • D — Raising Bank Rate cuts spending in a recession, and cutting benefits gives no one engineering skills.