International Economic Questions
AmazingExpert
fiscal_policy.pptxFISCAL POLICY
CHAPTER 13
The GDP Bucket
Y = INCOME
Q = OUTPUT
E = EMPLOYMENT
PROBLEM 1: RECESSION “Man The Pumps! Control the Leaks!”
Y Q E
PROBLEM 2: INFLATION “Stop the Pumps! Open the Leaks!”
Y
Q
E
John Maynard Keynes
The Economy can be like an elevator…
In a Recession, it gets stuck at the bottom. (JMK)
How do you get the elevator to rise to the correct level?
PROBLEM 1: RECESSION “Man The Pumps! Control the Leaks!”
Y Q E
Whose money? Where does it come from?
1. Consumers? No.
Slow to spend. UR rising in a recession
2. Businesses? No.
Sales and Investment spending is slowing
3. Banks? No.
Unwilling to lend if C and B not spending
4. GovernmentBorrow! Borrow! Borrow!
G > T
Active Fiscal Policy
Use of government expenditures and taxes to reach specific macroeconomic goals:
Full Employment
Stable Prices
Economic Growth
FISCAL POLICY
How it is supposed to work…
“Use of government expenditures and taxes to reach specific macroeconomic goals”
If there is a recession…
A tax cut
and/or
increased government spending
[See Text, p. 299, Table 13.1]
Fiscal Policy Methods
Expansionary
Active increases in government spending and/or tax decreases
To increase real output, employment and incomes
Contractionary
Active decreases in government spending and/or tax increases
To decrease real output, employment and incomes
The Business Cycle Model
Peak
Recovery Recession
Trough Trough
Business Cycle w/ Fiscal Policy “Control the Pumps! Watch the Leaks!”
Peak
Recovery Recession
The AD/AS Model
Recession AS
PL
AD1 (C+I+G)
AD (C+I+G)
Q
Problems of Fiscal Policy
Time Lags
To decide tax cut? Spend more? How much?
To take effect through economy
Crowding Out
More borrowing by Gov’t, by selling bonds
Attract Investors… Investors not seek other investments …{See leakages in the Leaky Bucket]
Small businesses are crowded out of financial markets
Problems of Fiscal Policy
3. If a tax cut is used…
A. Will Congress raise taxes to pay off it’s debt?
B. Will Congress raise taxes to close deficit?
C. Will Congress members get re-elected if they vote to raise taxes?
Fiscal Policy: Tax Cut
If the economy grows…more E > Y > Q !
More tax $$$ !!! But…
Fiscal Policy: Tax Cut
Congress has more $$$ to spend!
More money for Research, Services, Education and Bureaucracy (more government!)
Problems of Fiscal Policy
4. More Government Spending is used?
A. Will people in Congressional districts benefit from government spending?
B. Will Congress cut spending on the program or project as the economy grows?
C. Do the programs and projects become “entitlements”?
D. Will Congress members get re-elected if programs are cut?
E. The possible results over time…
Fiscal Policy: More Government Spending
Budget Deficits become greater and
Government Debt gets larger and
Paying down the debt takes more tax money (Debt Service)
Therefore, Three Possible Scenarios
1. Pay more for the programs
RAISE TAXES!!
2. Reduce gov’t spending?
Education? Defense? Health Care? Research?
3. Do nothing until later..
“There Is No Such Thing As A Free Lunch”
Take-Home Quiz for 4/16
Freedonia! Freedonia!
You are a member of the Congress of Freedonia!
A staff member has handed you these indicators of the economy of Freedonia!
Use these indicators to answer the questions that follow.
Long Live Freedonia!
| INDICATOR | YEAR AGO QUARTER | LAST QUARTER | ESTIMATE FOR THIS QUARTER |
| REAL GDP (millions of Freedonia Dollars) | 1475 | 1395 | 1305 |
| CONSUMER PRICE INDEX (CPI) | 198 | 201 | 203 |
| UNEMPLOYMENT RATE (UR) | 7 % | 10.5 % | 11.7 % |
| GROSS PRIVATE DOMESTIC INVESTMENT | 217 | 189 | 160 |
QUESTIONS ( 50 pts)
What economic problem is the nation facing? (Use statistics, % change would make your answer more authoritative, in your answer)
What would be the goals of your Fiscal Policy?
What exact Fiscal Policy would you recommend? Why?
Use an AD/AS diagram to show the effects of your fiscal policy on the economy.
Explain the advantages of your expansionary Fiscal Policy? Take a positive stand! (next)
Describe the affect on Y, Q, E, and Prices.
BONUS QUESTION
6. a. Define the multiplier.
b. Freedonia has an MPC of 0.80. What is the MPS?
c. What is the value of the Multiplier?
d. If government spending increases by $50 million. How much will total spending increase? (Show your answer)
e. If prices increase by 10 %, how will this affect your fiscal policy?
