Fiscal policy: Changes in the expenditures or tax revenues of the federal government. It is enacted to promote our nation's economic goals: full employment, price stability, and economic growth.
Two tools of fiscal policy:
- Taxes: government can increase or decrease taxes
- Spending: government can increase or decrease spending
Deficits, Surpluses, and Debt
- Balanced budget
- Revenues = Expenditures
- Budget deficit
- Revenues < Expenditures
- Budget surplus
- Revenues > Expenditures
- Government debt
- Sum of all deficits - Sum of all surpluses
- The government must borrow money when it runs a budget deficit
- The government borrows from:
- Individuals
- Corporations
- Financial institutions
- Foreign entities or foreign governments
Fiscal Policy Two Options
- Discretionary fiscal policy (action)
- Expansionary fiscal policy- think deficit
- Contractionary fiscal policy- think surplus
- Non-discretionary fiscal policy (no action)
Discretionary vs. Automatic Fiscal Policies
Discretionary fiscal policies
- Increase or decreasing government spending and/or taxes in order to return the economy to full employment.
- It involves policymakers doing fiscal policy in response to an economic problem.
Automatic fiscal policies
- Unemployment compensation and marginal tax rates are examples of automatic policies that help mitigate the effects of recession and inflation.
- It takes place without policymakers having to respond to current economic problems.
Expansionary fiscal policy
- Recession is countered with expansionary policy
- Increase in government spending (G ↑)
- Decrease in taxes (T ↓)
- The price level is increased: this means that expansionary fiscal policy creates some inflation.
Contractionary fiscal policy
- Inflation is countered with contractionary policy
- Decrease in government spending (G ↓)
- Increase in taxes (T ↑)
- The unemployment rate is increased: this means that contractionary fiscal policy creates some unemployment.
Weaknesses of Fiscal Policy
- Lags
- Inside lags take time to recognize economic problems and to promote solutions to those problems
- Outside lags take time to implement solutions to problems
Supply Side Economics
- Stimulate production (supply) to spur output.
- Cut taxes and government regulations to increase incentives for businesses and individuals. Businesses invest and expand, creating jobs; people work, save, and spend more.
- An increase in investment and productivity lead to an increase in output.
Demand Side Economics
- Stimulate the consumption of goods and services (demand to spur output).
- Cut taxes or increase federal spending to put money into people's hands.
- With more money, people buy more.
- Businesses increase output to meet the growing demand.
Automatic or Built-In Stabilizers
- Anything that increases the government's budget deficit during a recession and increases its budget surplus during inflation without requiring explicit action by policymakers.
- Transfer Payments (a type of automatic stabilizers)
- Welfare checks
- Food stamps
- Unemployment checks
- Corporate dividends
- Social security
- Veteran's benefits
Tax Systems
- Progressive
- When the average tax rate (tax revenue/GDP) rises with GDP
- Proportional
- When the average tax rate remains constant as GDP changes
- Regressive tax systems.
- When the average tax rate falls with GDP
You said that with more money, people buy more. What if one day people stop buying and start saving? How bad would that hurt the economy? How would we fix the economy if something like that happened?
ReplyDeleteIf all of a sudden, the people lost trust in the government and they stop lending money to the government. What other actions the government can take to solve their budget deficit beside borrowing.
ReplyDeleteIn your Opinion, which policy is most efficient? Also, how long does it normally take to notice an economic policy?
ReplyDeleteWhat are some cons of increased fiscal policy? What would happen if the government gets too involved in the economy?
ReplyDelete