Chapter 14 – Public Policy and the Economy

AP Government

Economic Policymaking

• The U.S government and economy have always been closely entwined.

• The American economy is based on the principles of capitalism and laissez-faire, but in practice it is a mixed economy because the government plays a regulatory role.

Economic Policymaking

• The regulatory role is evidenced by the activities of agencies like the Securities and Exchange Commission (SEC), which regulates stock fraud, and through the passage of laws such as the minimum wage law.

History – Government and the Economy

• Until 1929, most Americans believed the government had almost no role in economy.

• Adam Smith –

– Left to own devices, the economy will produce full employment and maximum production.

• Americans depended on self-reliance and personal effort.

Labor and Government

• Prior to the twentieth century, the government traditionally favored business over labor. In the 20th century, labor won some economic protection of the law

– Unions have the power of collective bargaining with management

– Unemployment compensation

– Minimum Wage

– Safety standards

– The regular workweek

Great Depression

• Great Depression changed this perception.– 20% Unemployment– Bank failures– Dispossessed farmers– Lost savings

• Congress was called upon to act.• FDR - Proposed measures to provide federal relief,

financed by the federal government but administered by the states.

• Since then, numerous examples of government involvement in economy and industries– Airlines– Automobile– Banking

Public Policies

• Public policies are authoritative government statements such as laws that express the governments goals and are backed by rewards and punishments.

• Examples of public policies include:

– Acts of Congress

– Executive orders

– Court rulings

Political Economy

• Though many think of markets as the natural order of things and take a capitalist economy for granted, our market economy is a political economy established, fostered, and otherwise affected by government policies.

Market Economy

At the most basic level, governmental involvement makes it possible for the economy to function by:

– establishing law and order – government’s primary role

– defining rules of property – trespass laws

– enforcing contracts – voluntary agreements

– governing rules of exchange – how and when can sell your property.

Market EconomyAt the most basic level, governmental involvement makes

it possible for the economy to function by:

– setting market standards – uniform weights and measures, common terminology, specification of qualities of goods.

– providing public goods – i.e. interstate highway system

– creating a labor force – compulsory education, vagrancy laws, poorhouses.

– ameliorating externalities – differences between private costs and social costs of economic behavior.

– Example – effects of pollution on society

– promoting competition and countering tendencies toward monopoly

Market Failure• When the market fails to produce an efficient

outcome.

• Inefficient allocation of society’s economic resources.

• Government forces businesses to

– Provide clear information on products

– Clean up pollution – property rights question

– Prevent free-riding on public goods

Government Policies

Promotional Policies• Promotional policies, because they highlight

policy “winners” and few people perceive that they are “losers”, generally have little or no conflict.

• Promotional policies therefore tend to follow the “mutual noninterference” or “logroll” politics characterized by deals made by elites to mute conflict.

• Homesteading –land grants to farms and railroads are examples of promotional policies.

– A national policy, also known as squatting, that permitted people to gain ownership of property by occupying public or unclaimed land, living on it for a specific period of time, and making certain minimal improvements on it.

Promotional Policies

• The tools of promotional policies (in which the government tries to “incentivize” behavior) include licenses, subsidies, and government contracts.

• Subsidies are government grants of cash or something else of value to encourage or promote activities desired by the government.

• Similarly, through its contracting power, the government can set conditions on companies also encouraging predetermined behaviors.

Regulation

Regulation

• Because regulatory policies generally affect a relatively small number of individuals and groups (but can affect them in important and often negative ways), they tend to be dominated by the intense but narrow conflicts characterized by pluralism.

These policies are used to impose restrictions on the conduct of private citizens.

Regulatory Tools

• The government also employs regulatory tools designed to discourage behaviors it deems undesirable.

• The government has instituted antitrust policiesto discourage monopolistic practices and other threats to market competition.

• The government also employs administrative regulations that impose restrictions and penalties on private actors to discourage other undesirable behaviors like pollution or indecency.

Deregulation

• Various legislative acts have been passed in an attempt to deregulate business and have less government oversight.

– Securities Act Amendment of 1975

– Railroad Revitalization Act of 1976

– Motor Carrier Act of 1980

– Executive Order 12291

Instruments for Controlling Economic Policy

Economic Policy

• American economic policy is the result of many different economic institutions and policy tools that direct, shape, and fine-tune the economy.

• Two Areas

– Monetary Policy

– Fiscal Policy

Monetary Policies• Monetary policies are the government’s

efforts to regulate the economy through the manipulation of the supply of money and credit.

• Monetary policy seeks to influence the economy by controlling the availability of money.

• The Federal Reserve System of twelve Federal Reserve Banks regulates member banks to affect the supply of money and credit in order to fight inflation and deflation in the American economy.

Federal Reserve

The Federal Reserve affects monetary policy through:

– the interest rates (discount rate) it offers member banks, which is a monetary technique used by the Fed.

– setting the reserve requirement of how much cash banks are required to hold at any given time

– The open-market operations (the buying and selling of government (Treasury) securities)

– setting the federal funds rate, an interest rate that banks charge each other

Federal Open Market Committee

• The Federal Open Market Committee is the most important body with the Federal Reserve; it decides how monetary policy is carried out. It regulates monetary policy by:

– Influencing the rate at which loans are given , which influences decisions about borrowing

– Controlling the amount of money bank have available and in turn the rate at which people can borrow

– Adding to the money supply by selling bonds

Fiscal Policies

• Fiscal policies include the government’s uses of taxation and spending to affect the economy.

• Fiscal Policy is regulating and expenditures through the federal budget; determined by Congress and the President

• Two Theories

– Keynesian economic theory

– Supply- side economics

Keynesian economic theory (Liberal)

• Encourages governments active participation in the economy

• Expansionary Fiscal Policy

– Government spending stimulates the economy by creating demand. Cutting taxes is another way the government can create demand.

• Contractionary Fiscal Policy

– The government can decrease demand by cutting spending and increasing taxes

Supply- side economics( Conservative)

• By decreasing government involvement in the economy , people will be forced to work and save more

• Cutting taxes increases the money supply

Redistributive Policies

• Although fiscal policies are used to affect economic growth, they can also be used to redistribute wealth in society.

– An estate tax is one way that wealth is redistributed and prevent a monied aristocracy.

Redistributive Policies

• Redistributive policies excite widespread conflict between large groups (such as those between the “haves” and the “have nots”)

• Almost everyone perceives that they are affected (either positively or negatively).

What are the sources of federal revenues and how do they reflect

political choices?

• A graduated income tax is used to redistribute wealth by making the wealthiest pay more in taxes.– Progressive taxation is taxation that hits upper

income brackets more heavily.• Graduated income tax

– Regressive taxation is taxation that hits lower income brackets more heavily.• Sales tax

U.S. Budget• The government’s spending and budgeting

decisions also have a large impact on the economy.

• The government can address priorities by directing resources toward a certain sector or problem.

• The government’s budget deficit can affect long-term growth and interest rates.

Federal Social Programs

• The bulk (and increasing proportion) of federal government spending is toward non-means-tested social insurance programs rather than welfare and other means-tested programs.

• Means-tested programs tend to create the greatest conflict and debate while Social Security and Medicare tend to be very popular.

Other Areas of Economic Policy

Business Policy• A few transnational corporations often formed

through mergers, control most of the country’s assets and play a large role in the world economy

• Antitrust laws allow the justice department to bring suit against companies that have monopolized a certain product or service. – It breaks up the company and opens the market to

competition.

• The government participates in the economy by assisting failing industries with subsides and loans and by funding product research.

• Business lobbies are well established and influential

Consumer Policy• Consumer groups are fairly new.

• They successfully lobbied for increased regulation over product safety and advertising

• The Federal Trade Commission regulates trade and now advertising claims.

• The Food and Drug Administration monitors the safety of food and approves new drugs for sale

Final Thoughts

Globalization• Events abroad can affect the economy.

• The U.S economy is affect by actions taken by international organizations such as the World Trade Organization (WTO) which regulates such things in international trade.

• Some policymakers support the idea of protectionism to protect the United States economy from imports

• U.S. economy is grounded in the private sector which is harder to regulate

Global Economy

• The economic concerns of the government are changing due to the growth of multinational corporations, which have created a global economy.

New Economy, New Policy Areas

• The internet is creating an economy based on information

• Budgetary items that are beyond the control of budgetary committees and can be controlled only by substantive legislative action in Congress.

• Some uncontrollables such as the interest on debt, are beyond the power of Congress because the terms of payments are set in contracts.

Uncontrollables

• The right of the government to take private property for public use, with reasonable compensation awarded for the property.

Eminent Domain

• The confiscation of property with or without compensation.

• Protections can be found in the 5th

Amendment

Expropriation