Chapter 15Fiscal Policy

Chapter 15Section 1

What is Fiscal Policy?

Fiscal Policy is the federal government’s use of taxing and spending to keep the economy stable

-Government spending has a large impact on the economy

What is Fiscal Policy?

Fiscal policy decisions, such as how much to spend and how much to tax, are among the most important decisions the federal government makes.

Fiscal Policy and the Federal Budget

A federal budget states how much money the government expects to get in that particular year and how much money the government can spend

Fiscal Policy and the Federal Budget

The federal governments prepares a new budget each fiscal year (12 month period)

The Budget Process

Federal agencies send request for

money to the Office of Management and

Budget

Office of Management work with President to

create a budget. President then sends it

to Congress

Congress makes changes to the budget, sends it

back to the President

President vetoes bill, Congress must override with 2/3 majority. If no majority, there must be compromise

President signs budget into law

Fiscal Policy and the Economy

Government spending can help increase or decrease the output of the economy

Expansionary policies-increase output

Contractionary policies-decrease output

Expansionary Fiscal Policy

If the federal government buys more goods and services, it raises output and creates jobs

When the government cuts taxes, consumers and businesses spend more/invest. This increases demand and output

Contractionary Fiscal Policies

If the federal government buys less goods and services, it leads to slower GDP growth

When the government raises taxes, consumers and businesses don’t spend as much or save. This also slows GDP growth

Limits of Fiscal Policy

Difficulty changing spending levels

-Significant changes in government spending must come from discretionary spendingPredicting the future

-Economists often disagree as to what’s best for the economy as well as predicting its current state

Limits of Fiscal Policy

Delayed Results-Change takes time

Political Pressures-Voters can effect fiscal policy,

such as decisions involving tax cuts and/or hikes

Coordinating Fiscal Policy

For fiscal policies to work, the judicial, executive and legislative branch must all work together

Need to look at state/regional economic differences

Fiscal policy must coordinate with monetary policies of the Federal Reserve

Chapter 15Section 2

Classical Economics

Classical economics is the idea that markets regulate themselves (i.e. Adam Smith)

The Great Depression challenged the ideas of classical economics

Keynesian Economics

Keynesian economics is the idea that the economy is composed of 3 sectors: individuals, businesses and government. Government actions can make up for changes in the other two

Keynesian Economics

Also argue that fiscal policy can fight recessions and depressions

Government could increase spending during a recession to make up for the decrease in consumer spending

The Multiplier Effect

The multiplier effect in fiscal policy means that every dollar in fiscal policy creates a greater than one dollar change in economic activity

The Multiplier Effect

Example: The government buys 10 billion dollars worth of guns from Company A. Not only did GDP increase because the government spent 10 billion, but now Company A has 10 billion dollars, some of that money which they will spend.

Automatic Stabalizers

A stable economy is one where there are no rapid changes in economic factors.

An automatic stabilizer is a government tax or spending category that changes in response to changes in GDP or income

Supply Side Economics

Supply Side Economics believe that taxes have a negative influence on output

The Laffer curve show how both high and low tax revenues can produce the same tax revenues.

Fiscal Policy in American History

The Great Depression-Increased government spending

World War II- Increased government spending

The 1960s- Proposed cuts to personal and business income taxes. Increased spending due to Vietnam War.

Supply side economics in the 1980s- Passed a bill to reduce taxes by 25% over 3 years

Chapter 15Section 3

Balancing the Budget

A balanced budget is a budget in which revenues are equal to spending

Balancing the Budget

A budget surplus occurs when revenues exceed spending

A budget deficit occurs when spending exceeds revenues

Resp0nding to Budget Deficits

Creating money- The government can pay for deficits by creating money, however, this can lead to inflation

Borrowing money- The government can also pay for deficits by borrowing money (ex. Bonds)

The National Debt

The national debt is the total amount of money the federal government owes. This money is owed to anyone who holds bonds.

The National Debt

The deficit is the money the government owes for one fiscal year. The national debt is the total amount the government owes.

In dollar terms, the debt is extremely large nearly

Is the Debt a Problem?

When money is spent on bonds, that money cannot be used for business investment. This is called the crowding-out effect.

The larger the national debt, the more money that is owed to bondholders and paying interest on the debt. That’s money that cannot be spend on other programs such as education

Is the Debt a Problem?

Keynesian economists argue that since government spending and borrowing help the economy, it outweighs the costs of having high debt

Deficit and Debt Reduction

There have been attempts by Congress to control deficits/budgets, but they have failed