fiscal policy chapter 12. stabilization the united states government has 4 basic goals in terms of...
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Fiscal PolicyFiscal Policy
Chapter 12Chapter 12
StabilizationStabilization
The United States government has 4 basic The United States government has 4 basic goals in terms of economic policygoals in terms of economic policy
Full employmentFull employment
Price StabilityPrice Stability
High but sustainable growthHigh but sustainable growth
Balanced BudgetBalanced Budget
Legislative MandatesLegislative Mandates
Employment Act of 1946Employment Act of 1946Congress proclaims government’s role in Congress proclaims government’s role in promoting maximum employment, promoting maximum employment, production, & purchasing powerproduction, & purchasing powerCreates Council of Economic AdvisersCreates Council of Economic AdvisersReport to the PresidentReport to the PresidentJoint Economic Committee of Congress to Joint Economic Committee of Congress to investigate economic problem of national investigate economic problem of national interestinterest
Fiscal Policy & the AD/AS ModelFiscal Policy & the AD/AS Model
Discretionary fiscal policyDiscretionary fiscal policy – Deliberate – Deliberate manipulation of taxes and spending by manipulation of taxes and spending by Congress – the economic options of the Congress – the economic options of the Federal governmentFederal government
Expansionary fiscal policyExpansionary fiscal policy is needed to is needed to or used to combat recessionor used to combat recession
Ways to fight recessionWays to fight recession
Increase government spending (shifts AD Increase government spending (shifts AD to the right)to the right)
Decrease taxes (shifts right)Decrease taxes (shifts right)
Increased spending and reduced taxesIncreased spending and reduced taxes
This will create a budget deficit assuming This will create a budget deficit assuming it was balanced to startit was balanced to start
Contractionary Fiscal PolicyContractionary Fiscal Policy
What is Demand-Pull Inflation?What is Demand-Pull Inflation?
Fights by decreasing government Fights by decreasing government spending. The goal is to reduce price spending. The goal is to reduce price levels but maintain GDP (output)levels but maintain GDP (output)
Increase taxes Increase taxes
Financing DeficitsFinancing Deficits
BorrowingBorrowing – Government competes with – Government competes with private lending institutions for money. This private lending institutions for money. This however could drive up interest rateshowever could drive up interest rates
Print MoneyPrint Money – Federal Reserve loans – Federal Reserve loans directly to the US Government by directly to the US Government by purchasing bonds purchasing bonds
Disposing of SurplusesDisposing of Surpluses
Debt Reduction is good however it may Debt Reduction is good however it may cause interest rates to fall and spark cause interest rates to fall and spark inflationinflation
Saving the surplus (Not bloody likely)Saving the surplus (Not bloody likely)
Built In StabilityBuilt In Stability
Arises because net taxes (minus transfer Arises because net taxes (minus transfer & subsidies) change with GDP. Spending & subsidies) change with GDP. Spending needs to increase in a recession, needs to increase in a recession, decrease in an inflationary perioddecrease in an inflationary periodTaxes will automatically rise w/ GDP Taxes will automatically rise w/ GDP because incomes rise. In turn, they because incomes rise. In turn, they decrease when GDP fallsdecrease when GDP fallsTransfers and subsidies rise when GDP Transfers and subsidies rise when GDP fallsfalls
Automatic StabilizersAutomatic Stabilizers
Depends on how progressive the Depends on how progressive the corresponding tax system is. corresponding tax system is.
Automatic stability reduces instability but Automatic stability reduces instability but does not correct economic instabilitydoes not correct economic instability
In other words, it will not prevent the In other words, it will not prevent the problem from happening, but it will soften problem from happening, but it will soften the blow when it doesthe blow when it does
Problems of TimingProblems of Timing
Recognition LagRecognition Lag – Elapsed time between – Elapsed time between beginning of a recession or inflation and beginning of a recession or inflation and awareness of the occurrenceawareness of the occurrenceAdministrative LagAdministrative Lag – Difficulty in – Difficulty in changing policy once the problem has changing policy once the problem has been recognizedbeen recognizedOperational LagOperational Lag – Difference in time – Difference in time between change in policy and its between change in policy and its economic impact economic impact
Political ConsiderationsPolitical Considerations
Government has other goals other than Government has other goals other than economic stability and may conflict with economic stability and may conflict with stabilization. Examples?stabilization. Examples?
How do election cycles affect economic How do election cycles affect economic policy?policy?
State & Local finance policies may offset State & Local finance policies may offset Federal efforts – Think Texas and its Federal efforts – Think Texas and its refusal of Federal stimulus fundsrefusal of Federal stimulus funds
Deficit Spending ProblemsDeficit Spending Problems
““Crowding Out” may occur w/ government Crowding Out” may occur w/ government deficit spending. deficit spending.
Deficit spending will lead to higher interest Deficit spending will lead to higher interest rates which weakens spending which rates which weakens spending which could cancel out benefits of fiscal policycould cancel out benefits of fiscal policy
Most economists argue that this will not Most economists argue that this will not occur during a recessionoccur during a recession
Leading IndicatorsLeading Indicators
Average workweekAverage workweekUnemployment claimsUnemployment claimsOrders for consumer goodsOrders for consumer goodsVendor performanceVendor performanceNew orders for capital goodsNew orders for capital goodsBuilding permits for housesBuilding permits for housesStock market pricesStock market pricesMoney SupplyMoney SupplyInterest RatesInterest RatesConsumer ExpectationsConsumer Expectations