Fiscal Policy

1
Fiscal Policy

• Chapter 12

2
Stabilization

• The United States government has 4 basic goals in
  terms of economic policy
• Full employment
• Price Stability
• High but sustainable growth
• Balanced Budget

3
Legislative Mandates

• Employment Act of 1946
• Congress proclaims governments role in promoting
  maximum employment, production, purchasing
  power
• Creates Council of Economic Advisers
• Report to the President
• Joint Economic Committee of Congress to
  investigate economic problem of national interest

4
Fiscal Policy the AD/AS Model

• Discretionary fiscal policy Deliberate
  manipulation of taxes and spending by Congress
  the economic options of the Federal government
• Expansionary fiscal policy is needed to or used
  to combat recession

5
Ways to fight recession

• Increase government spending (shifts AD to the
  right)
• Decrease taxes (shifts right)
• Increased spending and reduced taxes
• This will create a budget deficit assuming it was
  balanced to start

6
Contractionary Fiscal Policy

• What is Demand-Pull Inflation?
• Fights by decreasing government spending. The
  goal is to reduce price levels but maintain GDP
  (output)
• Increase taxes

7
Financing Deficits

• Borrowing Government competes with private
  lending institutions for money. This however
  could drive up interest rates
• Print Money Federal Reserve loans directly to
  the US Government by purchasing bonds

8
Disposing of Surpluses

• Debt Reduction is good however it may cause
  interest rates to fall and spark inflation
• Saving the surplus (Not bloody likely)

9
Built In Stability

• Arises because net taxes (minus transfer
  subsidies) change with GDP. Spending needs to
  increase in a recession, decrease in an
  inflationary period
• Taxes will automatically rise w/ GDP because
  incomes rise. In turn, they decrease when GDP
  falls
• Transfers and subsidies rise when GDP falls

10
Automatic Stabilizers

• Depends on how progressive the corresponding tax
  system is.
• Automatic stability reduces instability but does
  not correct economic instability
• In other words, it will not prevent the problem
  from happening, but it will soften the blow when
  it does

11
Problems of Timing

• Recognition Lag Elapsed time between beginning
  of a recession or inflation and awareness of the
  occurrence
• Administrative Lag Difficulty in changing
  policy once the problem has been recognized
• Operational Lag Difference in time between
  change in policy and its economic impact

12
Political Considerations

• Government has other goals other than economic
  stability and may conflict with stabilization.
  Examples?
• How do election cycles affect economic policy?
• State Local finance policies may offset Federal
  efforts Think Texas and its refusal of Federal
  stimulus funds

13
Deficit Spending Problems

• Crowding Out may occur w/ government deficit
  spending.
• Deficit spending will lead to higher interest
  rates which weakens spending which could cancel
  out benefits of fiscal policy
• Most economists argue that this will not occur
  during a recession

14
Leading Indicators

• Average workweek
• Unemployment claims
• Orders for consumer goods
• Vendor performance
• New orders for capital goods
• Building permits for houses
• Stock market prices
• Money Supply
• Interest Rates
• Consumer Expectations