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Fiscal Policy Fiscal Policy

Fiscal Policy - PowerPoint Presentation

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Fiscal Policy - PPT Presentation

Changes in federal taxes and purchases Where does the government spend its money Federal Government Spending 2010 Fiscal Policy An Overview of Government Spending and Taxes The Federal Governments Share of Total Government Expenditures ID: 254586

policy government tax fiscal government policy fiscal tax federal budget gdp aggregate taxes effects deficit spending purchases increase debt

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Slide1

Fiscal Policy

Changes in federal taxes and purchases Slide2

Where does the government spend its money?

Federal Government

Spending, 2010Slide3

Fiscal Policy

An Overview of Government Spending and Taxes

The Federal Government’s Share of Total Government Expenditures,

1929–2009Slide4

Fiscal Policy

An Overview of Government Spending and Taxes

Federal Purchases and Federal Expenditures as a Percentage of GDP,

1950–2010Slide5

Where does the government get its money?

Federal Government Revenue,

2010Slide6
Slide7

Laffer Curve (not in the book): there is optimal amount of taxation

Tax

Government revenueSlide8

Government spending/taxes and aggregate demandSlide9

The Effects of Fiscal Policy

on Real GDP and the Price Level

Expansionary and

Contractionary

Fiscal Policy: An Initial LookSlide10

Using Fiscal Policy to Influence Aggregate Demand:

A More Complete Account

An Expansionary Fiscal PolicySlide11

Using Fiscal Policy to Influence Aggregate Demand:

A More Complete Account

A

Contractionary

Fiscal PolicySlide12

A Summary of How Fiscal Policy Affects Aggregate Demand

Countercyclical Fiscal Policy

PROBLEM

TYPE OF POLICY

ACTIONS BY CONGRESS AND THE PRESIDENT

RESULT

Recession

Expansionary

Increase government

spending or cut taxes

Real GDP and the price level rise.

Rising Inflation

Contractionary

Decrease government

spending or raise taxes

Real GDP and the price level fall.

Don’t Let This Happen to

YOU!

Don’t Confuse Fiscal Policy and Monetary PolicySlide13

Multiplier (again)Slide14

The Government Purchases and Aggregate Demand

The Multiplier Effect and Aggregate DemandSlide15

Taking into Account the Effects of Aggregate Supply

The Multiplier Effect

and Aggregate SupplySlide16

The Government Purchases and Tax Multipliers

The Multiplier Effect

of an Increase in Government PurchasesSlide17

The Government Purchases and Tax Multipliers

The ratio of the change in equilibrium real GDP to the initial change in government purchases is known as the

government purchases multiplier

:

The expression for

the

tax multiplier is:Slide18

A cut in tax rates affects equilibrium real GDP through two channels:

A cut in tax rates increases the disposable income of households, which leads them to increase their consumption spending, and

a cut in tax rates increases the size of the multiplier effect. Slide19

Decrease and increases in government expenditure are multiplied

Decrease and increase in taxes are multiplied

The Multipliers Work in Both DirectionsSlide20

Solved

Problem

Fiscal Policy Multipliers

Briefly explain whether you agree or disagree with the following statement: “Real GDP is currently $12.2 trillion, and potential real GDP is $12.5 trillion. If Congress and the president would increase government purchases by $300 billion or cut taxes by $300 billion, the economy could be brought to equilibrium at potential GDP.”Slide21

Crowding out

A decline in private expenditures as a result of an increase in government purchases.Slide22

Crowding out limits Fiscal Policy in the short run.

Crowding Out in the Money Market

An Expansionary Fiscal Policy Increases Interest RatesSlide23

In the long run, the economy returns to potential GDP

.

Crowding Out in the Aggregate Demand and Aggregate Supply DiagramSlide24

Budget Deficit

Budget deficit

The situation in which the government’s expenditures are greater than its tax revenue.

Budget surplus

The situation in which the government’s expenditures are less than its tax revenue.Slide25

Deficits, Surpluses, and Federal Government Debt

The Federal Budget Deficit,

1901–2009Slide26

Solved

Problem

The Effect of Economic Fluctuations on the Budget Deficit

The federal government’s budget deficit was $207.8 billion in 1983 and $185.4 billion in 1984. A student comments, “The government must have acted during 1984 to raise taxes or cut spending or both.”

Do you agree? Briefly explain.Slide27

Cyclically adjusted budget deficit or

surplus:

The deficit or surplus in the federal government’s budget if the economy were at potential GDP.

Deficits, Surpluses, and Federal Government Debt

How the Federal Budget Can Serve as an Automatic StabilizerSlide28

Debt can be a problem for a government for the same reasons that debt can be a problem for a household or a business.

Deficits, Surpluses, and Federal Government Debt

Is Government Debt a Problem?Slide29

Although many economists believe that it is a good idea for the federal government to have a balanced budget when the economy is at potential GDP, few economists believe that the federal government should attempt to balance its budget every year.

Deficits, Surpluses, and Federal Government Debt

Should the Federal Budget Always Be Balanced?Slide30

Did Fiscal Policy Fail during

the Great Depression?

Making

the

Connection

Although government spending increased during the Great Depression, the cyclically adjusted budget was in surplus most years.

FEDERAL GOVERNMENT EXPENDITURES (BILLIONS OF DOLLARS

ACTUALFEDERAL BUDGET DEFICIT OR SURPLUS (BILLIONS OF DOLLARS)

CYCLICALLY ADJUSTED BUDGET DEFICIT OR SURPLUS (BILLIONS OF DOLLARS)

CYCLICALLY ADJUSTED BUDGET DEFICIT OR SURPLUS AS A PERCENTAGE OF GDP

1929

$2.6

$1.0

$1.24

1.20%

1930

2.7

0.2

0.81

0.89

1931

4.0

-2.1

-0.41

-0.54

1932

3.0

-1.3

0.50

0.85

1933

3.4

-0.9

1.06

1.88

1934

5.5

-2.2

0.09

0.14

1935

5.6

-1.9

0.54

0.74

1936

7.8

-3.2

0.47

0.56

1937

6.4

0.2

2.55

2.77

1938

7.3

-1.3

2.47

2.87

1939

8.4

-2.1

2.00

2.17Slide31

Tax wedge

The difference between the pretax and posttax return to an economic activity.

The Effects of Fiscal Policy in the Long Run

The Long-Run Effects of Tax Policy

• Individual income tax.

• Corporate income tax.

• Taxes on dividends and capital gains.

We can look briefly at the effects on aggregate supply of cutting each of the following taxes:

In addition to the potential gains from cutting individual taxes, there are also gains from tax simplification.

Tax SimplificationSlide32

The Effects of Fiscal Policy in the Long Run

The Economic Effect of Tax Reform

The Supply-Side Effects of a Tax ChangeSlide33

Most economists would agree that there are supply-side effects to reducing taxes: Decreasing marginal income tax rates will increase the quantity of labor supplied, cutting the corporate income tax will increase investment spending, and so on.

The magnitude of the effects is subject to considerable debate, however.

The Effects of Fiscal Policy in the Long Run

How Large Are Supply-Side Effects?