Fiscal Policy

Chapter 15

Setting Fiscal Policy: The Federal Budget

$7.7 Billion a day spent by government

Fiscal Policy is the use of government spending and revenue collection to influence the economy

Federal Budget Basics

Fiscal year is any 12 month period used for budgeting purposes.

October 1st thru September 30th

The Four Steps

Agencies write spending proposals The Executive Branch Creates a

Budget Congress Debates and

Compromises President approves

The Economic Cycles

Expansionary Policy Increased

government spending

Decreases taxes Or both

Contractionary Policy Decrease spending Increase taxes Or both

Limits of Fiscal Policy

Difficulty of changing spending levels

Predicting the future Delayed results Political pressures Coordinating fiscal policy

Fiscal Policy Options

Chapter 15 Section 2

Classical Economics

Adam Smith Self-interest, leads to regulation of

the market and equilibrium. Prices and supply and demand all

work together

Does not address a time frame!!!

Keynesian Economics

John Maynard Keynes (CANES)

The General Theory of Employment, Interest, and Money (1936) Wants to have

government intervene during economic downfalls

Keynesian Economics

Productive Capacity is the maximum output that an economy can sustain over a period of time without increasing inflation Must find a way to increase demand to

get out of the depression

Federal government must spend enough to increase demand, and once recovered back out.

Demand-Side Economics

Avoiding Recession

FDR uses expansionary fiscal policy through the New Deal This principle still divides the political

parties today. Republicans = tax cuts Democrats = expansive government

programs

Automatic Stabilizers

A tool of fiscal policy that increases or decreases automatically depending on changes in GDP or personal income

This has helped stabilize the overall economy by not allowing such large fluctuations in real GDP from year to year

Supply Side Economics

A school of thought based on the idea that the supply of goods drives the economy

The Laffer Curve

Shows the relationship between tax rate and total tax revenue

Taxes and Output

The heart of supply side argument is that a tax cut increases total employment

Thus even with lower taxes more people work and more tax revenue is brought in

Fiscal Policy in American History

WWII = Keynesian used and worked Post WWII = tax cuts during

recession of 1960s. Highest individual income tax was 90%

Fiscal Policy in American History

1980s Reagan cuts taxes and spending, moving to supply side economic ideas. Improves economy Leads to an ever increasing deficit

Fiscal Policy in American History

President Obama elected in 2008 and proposed to increase government spending to repair nation’s infrastructure

Budget Deficits and the National Debt

Chapter 15 Section 3

Balancing the Budget

Has not been balanced in decades, almost always a surplus or a deficit.

The total deficit for fiscal year 2009 was $1.42 trillion, previous record $413 Billion in 2004 This is partially political

How to fix a deficit

Create Money For small deficits

can be fixed by creating money (print of electric)

Can lead to inflation

Borrow Money Borrows money by

selling bonds

The National Debt

Deficit is amount of money borrowed for one fiscal year

Debt is the total money borrowed from before the fiscal year.

Measuring National Debt

$10.6 trillion in 2008 $12.9 trillion 2010 http://www.brillig.com/debt_clock/

Is the Debt a Problem?

Reduces investment funds Interest payments to bondholders Foreign ownership of national debt 25% of debt held by foreign

countries

Homework

#3-6 on pages 398, 407, and 414