Fiscal Policy Simply putthe Governments use of taxing and spending to stimulateor contract the economy Background Terms Deficit results from an unbalanced budget 12 months Debtcontinues to buildwhat you owe ID: 1029190
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1. Fiscal PolicyChapter 17
2. Fiscal PolicySimply put…the Government’s use of taxing and spending to stimulateor contract the economy
3. Background TermsDeficit… results from an unbalanced budget (12 months)Debt…continues to build…what you oweBudget…plan for the fiscal yearFiscal Year…a 12 month period…does not have to be a calendar yearDefault…failure to pay back
4. TaxesRevenue brought into the governmentProgressive…the more you make, the higher the percentage you payProportional or Flat Tax…everyone pays the same percentageRegressive…there is a higher burden placed on those with less income
5. Primary Sources of RevenueFederal… federal income taxFICA, Corporate income tax, capital gains etc…State… state sales taxState income tax, fees and licensesLocal…property taxLocal sales tax, hotel tax etc…
6. Federal SpendingMandatory vs. Discretionary spendingMandatory...programs that need to be funded by law (interest on national debt and entitlement programs)Entitlement programs are those that people are entitled to and meet the requirements of...social security, Medicare etc...Discretionary spending...programs that can be adjustedDefense, education, environment etc...
7. Federal Spending
8. State SpendingEducationLaw enforcementTransportationPublic welfareRecreation
9. Local SpendingLike the state government, local governments need to tax to cover operating costsSchoolsFireLawTransportationElectionsRecreation
10. Federal Budget ProcessPresident submits proposed budget to CongressReviewed by House and SenateSmoothed out in committeePassed by House and SenateSigned by President
11. Fiscal PolicyWe can think of the Government’s budget at two levels: At the Micro LevelWhat or who is the Government taxing (and not taxing)?On what or whom is the Government spending (and on what or whom is it not spending)?
12. Fiscal PolicyAt the Macro Level:How much is the Government taxing (T)?How much is the Government spending (G)?What is the Government’s Budget Position?:(G-T)
13. Fiscal PolicyAs we learned earlier, ceteris paribus …(G – T) = 0 , a Balanced Budget, is neutral. It doesn’t shift AD(G – T) < 0 , a Budget Surplus, is contractionary. It shifts AD left.(G – T) > 0 , a Budget Deficit, is stimulative. It shifts AD right.
14. Federal Budget Position 1963-2016
15. PYYFLASFiscal PolicyASADP’Suppose we haveDemand Deficient UnemploymentY’
16. PYYFLASFiscal PolicyASADP’Should the Government run a deficit (G-T) to stimulate growth?Y’ADP’
17. Fiscal PolicyWhat is the “first response of a non-interventionist” to such a policy? They cite the “micro foundations under our nice assumptions” analysisFurthermore, the non-interventionist argue that such deficit spending can be counter productive …
18. Fiscal Policy Non-Interventionist viewPossible distortions caused by stimulative fiscal policy …Running deficits means more debtThe government borrows from the same market that investors do … the long term capital marketThis adds to the demand in that long term capital market resulting in the “crowding-out” effect…the government creates competition for private investment (driving up r)
19. Fiscal Policy Non-Interventionist viewGovernment borrowing and the Long Term Capital MarketrQ$SDIr0I0Q1Higher “r” attracts more financial capital, but it’s not for investment.r1Increasing demand increases the price of borrowing, “r”DG is added to the privatedemand for investment DID=DI+DG
20. Fiscal Policy Non-Interventionist viewGovernment borrowing and the Long Term Capital MarketrQ$SDIr0I0Q1r1Government not only gets the new the capital, D=DI+DGI1Because by bidding up the price of capital the Government “crowds out” some private investors. it also getssome of the existing capital that had been going to investors“Crowding out effect”
21. Fiscal Policy Non-Interventionist viewSo not only do non-interventionists say stimulative fiscal policy is not necessary, they also argue it “crowds out” Investment (I), so even as (G-T)>0 stimulates, I falls, putting a drag on AD and undermining the stimulus
22. Fiscal Policy Non-Interventionist viewThe higher interest rates caused by Government borrowing, ceteris paribus, attract foreign capital … which does what to the dollar?Ceteris paribus, higher interest rates attract foreign capital strengthening that dollar…Making the trade balance (X-M) more negative… another drag on AD
23. Fiscal Policy Non-Interventionist viewIn sum, the Non-Interventionists believe…Intervention is not necessaryIntervention is counterproductive
24. Fiscal Policy Interventionist viewIntervention is necessary because the long run isn’t going to arrive in any reasonable time, and in the meantime … many people sufferAny possible perverse effects depend on the elasticity of long term capital demand. As long as it’s reasonably elastic, these effects will be minimal.
25. Fiscal Policy Interventionist vs. Non-InterventionistWho’s right?Your answer depends on how much you are willing to trust …Markets to be efficient and just and/or government to be effective and just… and it may not be “a one size fits all”