Chapter 13
Non- discretionary fiscal policy
passive or automatic fiscal policy
state fiscal policy is ____________ because they have legal requirements to annually balance their budgets
pro-cyclical
The federal government can meet its obligations by
refinancing maturing treasury securities, increase taxes, and create money
When the federal government runs a budget deficit, it makes up the difference by having the Department of the Treasury issue new ___ _____________ _________________
US Treasury Securities
What is a built in stabilizer?
anything that increases the budget deficit during a recession, or anything that increases the budget surplus during a boom
Permanent change in taxes will ____________ taxes, ____________ income, and ______________ consumer spending
decrease, increase, increase
Temporary change in taxes will _____________ taxes, __________ income, and _______________ consumer spending
decrease, increase, increase
If C decreases, then real GDP ___________
decreases
If disposable income decreases by $x, then C ______________
decreases
If taxes increase by $x, then disposable income __________ by $x
decreases
How does a positive GDP gap, or economic boom, manipulate aggregate demand
decreases aggregate demand
non discretionary policy will automatically move the federal budget towards a ________________ during a recession and towards a __________________ during a boom
deficit, surplus
True or false: the public debt is the accumulation of household, business, and government debt over time
false; accumulation of federal budget deficits and surpluses over time
true or false: a budget deficit arises when the federal government expenditures are increasing
false; amount by which government expenditures exceed tax collections in a given year
True or false: fiscal policy refers to changing the level of government spend and taxes to achieve a greater equality in the distribution of income
false; change in level of government spending and taxes in order to stabilize the economy
True or false: a contractionary fiscal policy is designed to decrease short run aggregate supply
false; decrease aggregate demand
True or false: tax rates are an example of an automatic stabilizer
false; personal income tax, corporate income tax, ad payroll tax revenue
True or false: the primary objective of fiscal policy is to stabilize the size of the federal debt
false; stabilize the economy
what does the public debt consist of?
treasury bills, treasury notes, treasury bonds, and US savings bonds
if the government incurs a budget surplus, then the public debt will ________________
decrease
To get out of a boom what does Congress do?
decrease government spending, and increase taxes
Advantages of automatic stabilizers
1. they are built in, so dollar amounts change without action from Congress 2. no recognition lag and no administrative lag
Is public debt a burden to future generations?
1. it is a liability to taxpayers and an asset to the owners of government securities 2. if the debt is held internally, we would owe it to ourselves 3. if the debt is externally held, it would impact the economy negatively
Automatic stabilizers are
1. taxes/ revenues 2. unemployment compensation 3. welfare payments
How does contractionary fiscal policy effect the economy?
Aggregate demand decreases
How does expansionary fiscal policy effect the economy?
Aggregate demand increases
The economy is initially operating at its potential real GDP. Because of a deteriorating international political situation the federal government decides to increase military spending by $21 billion. At the same time policymakers decide to change the level of taxes to maintain full-employment, non-inflationary real GDP. Assume the MPC = 0.75 and the full multiplier effect is in effect. The level of taxes should be a. decreased by $28 billion. b. decreased by $15.75 billion. c. increased by $28 billion. d. increased by $21 billion.
C; 0.75 * x= 21 x=28
Assume the economy is at its full employment real GDP. which of the following would most likely result if the federal government increased spending without increasing tax revenues? A. decrease in potential real GDP B. decrease in the public debt C. an increase in the price level D. a recession
C; increase in the price level
During the past twelve months unemployment has been under 5%, and the GDP price index has increased by 2%. Total production of goods and services is projected to be 5% higher in the next twelve months. Which of the following policies would be most appropriate for short run stabilization purposes? A. increasing federal government spending B. decreasing federal income taxes C. passing new corporate tax incentives to encourage investment D. relying on the automatic stabilizers
D; relying on the automatic stabilizers
True or false: A large U.S. public debt cannot bankrupt the federal government, leaving it unable to meet its financial obligations, because the government can decrease interest rates which will increase investment spending
False; can meet obligations by refinancing maturing Treasury securities, increase taxes, and by creating money
True or false: the crowding out effect suggests that increases in consumption are usually at the expense of saving
False; crowding out of investment reduces aggregate demand and weakens fiscal policy
True or false: non- discretionary fiscal policy refers to congress changing the tax and transfer payments programs during a recession or inflationary boom to stabilize the size of government?
False; discretionary fiscal policy
True or false: a significant contributor to, or cause of, the large U.S. public debt is the financing of additional gross private domestic investment by businesses
False; wars, recession, and lack of fiscal discipline by congress cause a large public debt
Which is the most expansionary fiscal policy, a $10 billion increase in government spending or a $10 billion decrease in taxes?
Increase in government spending
formula to see how much C decreases
MPC* change in disposable income
Can the burden of war be shifted to future generations?
No. opportunity cost of the war is the forgone civilian goods and the lives lost
public debt
accumulation of federal budget deficits and surpluses over time
budget deficit
amount by which government spending exceeds tax collections in a given year
budget surplus
amount by which tax collections exceed government spending in a given year
The crowding out effect
an expansionary fiscal policy designed to increase aggregate demand, however the crowding out of investment reduces aggregate demand and weakens the impact of the expansionary fiscal policy
Certain government programs will ___________________ stabilize the economy
automatically
A wave of consumer and business optimism stimulates the economy. As a result GDP exceeds the economy's full-employment real GDP and the unemployment rate falls to 3%. The economic boom causes demand-pull inflation. In this situation proper counter-cyclical discretionary fiscal policy would involve: a. running a budget deficit. b. running a budget surplus. c. Congress increasing means-tested public assistance programs. d. Congress increasing tax revenues and government spending by the same amount.
b
Why is the economic impact of a $10 decrease in taxes smaller than the economic impact of a $10 increase in government spending?
because people will spend some of their savings, and save the rest
Crowding out of private investment is an economic _____________ to future generations
burden
Externally held debt is an economic _________ to Americans
burden
Objective of expansionary fiscal policy is to
close a recessionary gap by increasing aggregate demand
Objective of contractionary fiscal policy is to
close an inflationary gap by decreasing aggregate demand
Fiscal policy refers to
congress changing the levels of government spending and taxes to stabilize the economy
Discretionary fiscal policy
congress meets to change government expenses or taxes to close an output gap
Fiscal policy should be
counter-cycle
The greater the economy's built in stability, the larger __________ _____________ and _____________
cyclical deficits, surpluses
If the government incurs a budget deficit, then public debt will __________
increase
To get out of a recession what does Congress do?
increase government spending, and decrease taxes
Suppose the federal government had a budget deficit of $60 billion in year 1, a budget surplus of $20 billion in year 2, and a budget deficit of $90 billion in year 3. At the end of three years the federal government's public debt would have __________________ by $_______ billion
increase, $130
an expansionary fiscal policy is designed to ______________ aggregate _____________
increase, demand
How does a negative GDP gap, or recession, manipulate aggregate demand
increases aggregate demand
During an expansionary fiscal policy, what should congress do to the budget?
incur a budget deficit
During a contractionary fiscal policy, what should congress do to the budget?
incur a budget surplus
The less progressive the tax system, the ___________ __________ the economy
less stable
the ________________ __________________ the tax system, the _________ ___________ the economy
more progressive, more stable
Issue with fiscal policy in an open economy
net export effect arises , which weakens the impact of fiscal policy
Large public debt will ________ ______________________ the federal government
not bankrupt
If the government has a balanced budget, the the public debt will _________ _________
not change
The greater the economy's stability, the MPC becomes _______________, thus the multiplier becomes ______________
smaller, smaller
Operational lag
the time a policy action is taken and the time that the action has its effect on the economy
Administrative lag
time between recognition of the problem and the action taken to handle or solve it
Recognition lag
time lag between an actual economic shock occurs and when it is recognized by the government
Causes of a budget deficit and large public debt are
wars, recessions, and lack of fiscal discipline by Congress