Fiscal Policy

Chapter 15

Fiscal Policy Stabilization Policy: to prevent

recession, depression, inflation, stagflation Fiscal policy Monetary policy

Fisc: ‘basket’ or bag; pool of money Fiscal Policy

Government spending and taxing to influence the economy

Fiscal Policy Influences aggregate demand Federal Budget: a plan for the federal

government’s revenues and spending for the upcoming year Fiscal year: Oct. 1 to Sept. 30

Spending Proposals Executive Branch: Office of

Management and Budget (OMB) Legislative Branch: Congressional

Budget Office (CBO)

Congress House

House Budget Committee

Binding Resolution Appropriations

Committee

Passes Both: President

Senate Senate Budget

Committee Binding Resolution Appropriations

Committee

Fiscal Policy Economic Situation - Recession

Expansionary policy Increase G Decrease T

Increases AD

Economic Situation Inflation

Contractionary policy Decrease G Increase T

Decreases AD

Limits of Fiscal Policy Difficult to change spending levels Difficult to predict the future Delayed results

Time lags Recognition lags

Political pressures Coordinating fiscal policy

Fiscal Policy Options Classical Economics Keynesian Economics Supply Side (Reagonomics)

Classical Economics Adam Smith, David Ricardo, Thomas

Malthus Laissez Faire economics No market regulation

Keynesian Economics John Maynard Keynes 1936: The General Theory of Employment,

Interest, and Money Productivity capacity: full employment output

Demand side economics Government spending Taxation

Avoiding recessions & depressions Control inflation Countercyclical actions by government

Multiplier Effect Idea that every one dollar of government

spending creates more than one dollar in economic activity

Automatic Stabilizers Transfer payments: unemployment

benefits; Temporary Assistance for Needy Families (TANF)

Supply Side Economics Laffer Curve

Fiscal Policy & American History 1930 - Great Depression, WWII:

Keynesian economics 1960 - Keynesian economics 1980 - Reagonomics (supply side

economics) 2008 - 10 Keynesian economics

Obama’s stimulus package

Budget Deficits and the National Debt Budget Balance

DeficitRevenue < Spending

SurplusRevenue > Spending

Budget Deficits Responds

Print moneyhyperinflation

Borrow moneyTreasury bills- short term Treasury notes - 2 to 10 yearsTreasury bonds - 10 - 30 years

National Debt Each year’s deficit adds to the national

debt Crowding out effect Servicing the debt

discretionary spending

Deficits, Surpluses and National Debt mid 1980: Gramm Rudman Hollings Act -

automatic across the board cuts unconstitutional

Late 1990: surplus Clinton: increased taxes; reduced Government

spending Surplus options: new spending, reduce taxes,

stabilize social security 2000: deficit

War Reduced taxes Increased spending

Debt Commission 2010 Rough draft proposal to end projected deficits by

2020 Cut

defense spending Social security benefits Medicare Change calculations for CPI

Adjust social security -- independent of debt Retire at 70

Raise taxes by ending deductions Home mortgage interest rate deduction End business deduction for health costs Increase gas tax Changes in capital gains tax (?)

Lower overall tax rate