External Economic Influences on Business Activity CH.

Government Support for Entrepreneurs

Financial Grants and Subsidies:

 Start-up grants to help entrepreneurs launch their businesses.

 Research and development grants to support innovation.
 Export subsidies to encourage international market expansion.
 Low-interest loans or loan guarantees for capital investment.

Tax Incentives:

 Tax credits for research and development activities.

 Tax deductions for qualified business expenses.
 Tax breaks or incentives for investing in economically disadvantaged areas.
 Reduced tax rates for small businesses.

Examples of Governments dealing with Failure

 Regulation and Oversight to reduce external costs

Enforcing regulations to correct negative externalities, such as pollution controls or safety standards.

Regulating natural monopolies to prevent price gouging and ensure fair access.

 Education and Workforce Development:

Investing in education and training programs to enhance human capital and reduce skills-related
market failures.

 Competition Policy(monopoly):

Enforcing antitrust laws to prevent monopolies and promote competition.

Regulating mergers and acquisitions to prevent anti-competitive behavior.

Macroeconomic 5 Objectives of Economic Growth (to prevent failures)

 Economic Growth:

Promoting sustained and stable economic growth is a fundamental objective. Governments aim to
increase the overall production of goods and services in the economy, leading to higher standards of
living and job creation thus increasing a country’s total level of output GDP.

 Price Stability:

Controlling inflation (the rate at which prices rise) is essential to maintain price stability. Moderate
and stable inflation ensures that the purchasing power of money remains relatively constant,
encouraging investment and consumer spending.
  Low Unemployment:

Governments seek to achieve full employment or a low level of unemployment by creating an

environment where job opportunities are widely available, leading to higher incomes and reduced
poverty.

 Balance of Payments Stability (BoP):

Maintaining a balance in international trade (imports/exports) and financial flows is important to

ensure a country's long-term economic stability. Governments aim to avoid chronic trade deficits or
surpluses.

 Exchange Rate Stability:

Governments may aim for exchange rate stability to facilitate international trade and investment.
Exchange rate policies can vary from fixed pegs to flexible exchange rate systems.

4 Stages of Business Cycle

BOOM (expansion):

 Rising economic activity.

 Increasing employment and income.
 High consumer and business confidence.
 Growing investments and spending.

Peak:

 Economic activity at its highest point.

 Low unemployment.
 High inflation.
 Maximum capacity utilization.

Recession:

 Declining economic activity.

 Rising unemployment.
 Reduced consumer and business spending.
 Falling GDP and industrial production.

Slump:

 Lowest point in economic activity.

 High unemployment.
 Low consumer and business confidence.
 Stabilization before the next expansion.

Causes of Inflation I, II

I. Cost-Push:
 Rising Production Costs: An increase in the cost of raw materials, labor, or energy can push up
production costs, forcing businesses to raise prices to maintain profit margins.
  Exchange Rate Movements: A depreciation of the national currency can lead to higher import
prices, affecting the costs of imported goods and potentially leading to inflation.
 Wage Increases: When workers demand higher wages, businesses may pass on those
increased labor costs to consumers through higher prices.
 Supply Shocks: Events such as natural disasters, geopolitical conflicts, or disruptions in the
supply chain can reduce the availability of goods and services, causing prices to rise due to
scarcity.

II. Demand-pull:
 Increased Consumer Spending: When consumers have more disposable income and increase
their spending on goods and services, it can lead to an increase in demand, driving prices up.
 Increased Business Investment: Businesses may invest heavily in expansion, equipment, or
technology, increasing their demand for resources and driving up production costs and prices.

Impact of LOW inflation on business

 Real value of debts owed by businesses falls

 Fixed assets such as land/equipment could rise, more financial stability
 Inventory Management: Lower inflation reduces the impact of inventory carrying costs,
inventories bought in advance and sold later resulting in increased profit margins.
 Investment Decisions: Creates a more predictable business environment, encouraging long-
term investments and expansion plans. Businesses may be more willing to invest in capital
projects with lower financing costs.

Impact of HIGH inflation on business

 Employees will demand higher wages to compensate for increased prices

 Consumer Demand: Erodes consumers' purchasing power, leading to reduced demand for
goods and services. Businesses may see declining sales and may need to adjust their product
offerings or marketing strategies.
 Higher rates of interests make it hard for businesses in debt to pay
 Lead to cash flow issues
 Suppliers will be reluctant to sell goods on credit, won’t offer extended credit periods
 Adds uncertainty to market aggravating the situation

Unemployment

1. Cyclical unemployment: Unemployment caused by economic downturns or fluctuations in the

business cycle. Example: During a recession, a car manufacturing plant lays off workers due to
reduced consumer demand for automobiles.

2. Structural unemployment: Unemployment resulting from a mismatch between job seekers' skills
and available job opportunities. Example: Technological advancements lead to job losses in traditional
printing, causing structural unemployment for skilled but displaced print workers.

3. Frictional unemployment: Temporary unemployment that occurs when individuals are in the
process of transitioning between jobs or entering the workforce. Example: Recent college graduates
searching for their first professional job experience frictional unemployment while they seek suitable
positions.
 Government Policies in Achieving Macroeconomic Objectives

1. Monetary Policy:

Price Stability: Central banks use monetary policy tools, like interest rates and open market
operations, to control inflation and maintain price stability.

Economic Growth: By adjusting interest rates, central banks can influence borrowing and spending,
which, in turn, affects economic growth.

Exchange Rate: Changes in interest rates can impact the exchange rate, influencing international
trade and competitiveness.

Example: A central bank increasing interest rates to combat high inflation or decreasing interest rates
to stimulate economic activity during a recession.

2. Fiscal Policy:

Economic Growth: Governments can stimulate economic growth by increasing government spending
or cutting taxes during recessions.

Full Employment: Fiscal policies can create jobs by investing in infrastructure or education and
training programs.

Income Distribution: Targeted fiscal policies can reduce income inequality by providing social welfare
programs and progressive taxation.

Budget Deficit/Surplus: Government spending and taxation decisions determine whether there's a
budget deficit or surplus, impacting overall economic health.

Example: The government implementing a stimulus package during an economic downturn, including
infrastructure spending and tax cuts.

3. Supply-Side Policy:

Economic Growth: Supply-side policies focus on enhancing the efficiency and productivity of the
economy, leading to long-term economic growth.

Full Employment: By reducing barriers to labor market participation and encouraging workforce skill
development, supply-side policies can help achieve full employment.

Innovation: Supply-side policies promote innovation through research and development incentives,
fostering technological progress.

Private Sector Investment: Policies that reduce regulatory burdens can encourage private sector
investment and entrepreneurship.

Ways to improve: reduce rates of income tax, corporate tax, increase labor market flexibility,
spending on infrastructure projects, make it easier to start a business.

Example: Reducing regulatory barriers to starting and running a business, which can encourage
entrepreneurship and boost economic growth.
 4. Exchange Rate Policy:

Balance of Payments: Exchange rate policies can influence a country's trade balance by making
exports more competitive (devaluation) or imports more expensive (appreciation).

Inflation: A stable exchange rate can help control imported inflation, while a flexible exchange rate
can adjust to external economic shocks.

Investment: Exchange rate stability can attract foreign investment by reducing currency risk.

Economic Growth: A favorable exchange rate can boost exports, contributing to economic growth.

Example: A government allowing its currency to depreciate to make exports more affordable for
foreign buyers and stimulate export-led growth.