fiscal policy government actions and decisions to influence the economy reference 15.1
TRANSCRIPT
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Fiscal PolicyFiscal PolicyGovernment actions and Government actions and decisions to influence the decisions to influence the
economyeconomy
Reference 15.1
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Fiscal Policy
Government Action (Executive, Legislative)(not monetary policy conducted by FRB)
• Expansionary: Increase total spending to reduce unemployment
• Contractionary: Reduce total spending to reduce inflation
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When might the government employ Expansionary Fiscal Expansionary Fiscal
Policy Policy ??• During recessions
• During periods of high unemployment
• Maybe just before the next election“It’s the economy, Stupid”
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Expansionary Fiscal PolicyExpansionary Fiscal Policy
• The government can decide to:
1. Increase government spending (jobs)
2. Lower taxes (increase aggregate demand)
3. Do both
Will this policy achieve its goal????Will this policy achieve its goal????
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maybe…maybe…• Many variables
• Will additional government spending “crowd out”“crowd out” private spending?
• Crowding-outCrowding-out• Example: An additional $2,000,000 dollars spent on
education by government may result in consumers spending $2,000,000 less on private school tuition.
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John Maynard KeynesThe General Theory of Employment, Interest, and MoneyThe General Theory of Employment, Interest, and Money
• 1883-1946• Revolutionizes thinking about
the government’s role in the economy.– Influential to the “New Deal”
• Argued for expansionary fiscal policy in times of recession or depression
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• Increasing government spending will spur the economy to create more jobs
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Contractionary Fiscal PolicyContractionary Fiscal Policy
• The government can decide to:
1. Reduce government spending
2. Increase taxes
3. Do both
NOT VERY POPULAR…But will it work?NOT VERY POPULAR…But will it work?
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maybe…maybe…• Will private spending “crowd in”? Will
consumers spend more when faced with less government spending?
• Crowding-inCrowding-in• Example: The schools are so under-funded
that parents spend money to put their kids in private schools.
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How Taxes Can Affect Spending
• After-tax incomeAfter-tax income: what you have left to spend after you’ve paid income taxes.
• Higher after-tax income increases demand (expansionary) low tax rate
• Lower after-tax income decreases demand (contractionary) high tax rate
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Marginal Tax Rates
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• Current Issue: How will the repeal of the Bush tax cuts affect the economy?
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How Taxes Can Affect Supply
• If you were taxed at 100%, would you work?
• High tax rates can reduce productivityHigh tax rates can reduce productivity
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Tax Rates ….Tax Tax Rates ….Tax RevenuesRevenues
• Will higher tax rates give the government greater tax revenues?
• Will lower tax rates give the government smaller tax revenues?
Only if INCOME is constant.Only if INCOME is constant.
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Laffer CurveLaffer Curve
• controversial theory
• created by economist Arthur Laffer
• represents the relationship between tax rates and tax revenues.
• What is the ideal tax rate?What is the ideal tax rate?
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Review
• What is expansionary fiscal policy, and for what purpose is it likely to be implemented?
• What is contractionary fiscal policy, and for what purpose is it likely to be implemented?
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Review
• Is expansionary fiscal policy always effective at increasing total spending and decreasing unemployment?
• Explain your answer.
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Review
• Someone says, “If the federal government cut income tax rates, tax revenues will fall.” Might this person be wrong?
Explain your answer.
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Class/Homework:
• 16.2 Budget: Deficits and Surpluses– Read and note– Complete Section Review #1-5