Ch. 13 Fiscal Policy

What are some examples of automatic stabilizers?

- More people receiving unemployment insurance when the economy is depressed, and vis versa when it is booming - Medicaid - Food stamps

three ways Contractionary Fiscal Policy is implemented

1. A reduction in government purchases of goods and services 2. An increase in taxes 3. A reduction in government transfers

Three ways Expansionary Fiscal Policy is implemented

1. An increase in government purchases of goods and services 2. A cut in taxes 3. An increase in government transfers

Potential Dangers Posed by Rising Government Debt

1. Crowding out 2. Financial Pressure

Three main arguments against Expansionary fiscal policy

1. Government spending always crowds out private spending. 2. Government borrowing always crowds out private investment spending. 3. Government budget deficits lead to reduced private spending.

cyclically adjusted budget balance

An estimate of what the budget balance would be if real GDP were exactly equal to potential output. It takes into account the extra tax revenue the government would collect and the transfers it would save if a recessionary gap were eliminated — or the revenue the government would lose and the extra transfers it would make if an inflationary gap were eliminated.

Why do automatic changes in transfers tend to reduce the size of the multiplier?

Because the total change in disposable income that results from a given rise or fall in real GDP is smaller.

Contractionary Fiscal Policy (definition)

fiscal policy that reduces aggregate demand by decreasing government purchases, increasing taxes, or decreasing transfers.

Discretionary fiscal policy

Fiscal policy that is the direct result of deliberate actions by policy makers rather than automatic adjustments or rules.

basic equation of national income accounting

GDP = C + I + G + X - IM GDP = consumer spending + investment spending + government purchases of goods and services + the value of exports - value of imports

Automatic stabilizers

Government spending and taxation rules that cause fiscal policy to be automatically expansionary when the economy contracts and automatically contractionary when the economy expands without requiring any deliberate actions by policy makers. Taxes that depend on disposable income are the most important example of automatic stabilizers.

Implicit liabilities

Spending promises made by governments that are effectively a debt despite the fact that they are not included in the usual debt statistics. In the United States, the largest implicit liabilities arise from Social Security and Medicare, which promise transfer payments to current and future retirees (Social Security) and to the elderly (Medicare).

How do tax policy and government spending affect the economy?

Taxation and government spending have a strong effect on total aggregate spending in the economy.

Fiscal year

The time period used for much of government accounting, running from October 1 to September 30 in the United States. Fiscal years are labeled by the calendar year in which they end.

Debt Spiral

When interest on government debt drives that debt even higher

Lump-sum taxes

a tax that is the same for everyone, regardless of any actions people take

Fiscal policy

changes in taxes and government spending to stabilize the economy by shifting the aggregate demand curve

does a reduction in government transfers increase or decrease disposable income?

decrease

Contractionary Fiscal policy effects on AD curve

fiscal policies that shift the aggregate demand curve in

Expansionary Fiscal policy effects on AD curve

fiscal policies that shift the aggregate demand curve out

Expansionary Fiscal Policy (definition)

fiscal policy that increases aggregate demand by increasing government purchases, decreasing taxes, or increasing transfers.

Debt-GDP ratio

government debt as a percentage of GDP, frequently used as a measure of a government's ability to pay its debts.

Public debt

government debt held by individuals and institutions outside the government.

Social Insurance

government programs like Social Security, Medicare, unemployment insurance, and food stamps that are intended to protect families against economic hardship.

does a decrease in taxes reduce or increase disposable income?

increase

does an increase in government transfers increase or reduce disposable income?

increase

Is there a change in the multiplier when there are lump-sum taxes?

no

Does an increase in taxes reduce or increase disposable income?

reduce

Transfer payments tend to (rise/fall) when the economy is contracting, and (rise/fall) when the economy is expanding.

rise, fall Transfer payments tend to rise when the economy is contracting, and fall when the economy is expanding

Do contractionary fiscal policies reduce or increase the budget balance?

they increase it for the year.

Do contractionary fiscal policies make budget surpluses bigger or smaller?

they make it bigger

Do expansionary fiscal policies make budget deficits bigger or smaller?

they make it bigger

Do contractionary fiscal policies make budget deficits bigger or smaller?

they make it smaller

Do expansionary fiscal policies make budget surpluses bigger or smaller?

they make it smaller

Do expansionary fiscal policies reduce or increase the balance budget?

they reduce it for the year.

Non-lump-sum taxes reduce the size of the multiplier (true/false)

true