Fiscal policy

Changes in the expenditures or tax revenues of the federal government

-2 tools of fiscal policy:

Taxes: government can increase/ decrease taxes

Spending: government can increase/ decrease spending

Fiscal policy controlled by the gov not the pres.

Deficits, surpluses, and debt

·         Balanced budget: revenues = expenditures

·         Budget deficit: revenues< expenditures

·         Budget surplus: revenues> expenditures

·         Government debt: sum of all deficits- sum of all surpluses

Government borrows money from:

·         Individuals

·         Corporations

·         Financial institutions

·         Foreign entities or foreign governments

Two options:

Discretionary fiscal policy (action)

-          Expansionary fiscal policy (deficit)

-          Contractionary fiscal policy (surplus)

Non-discretionary fiscal policy (no action)

Discretionary v. automatic fiscal policies

Discretionary : increasing or decreasing government spending and or taxes in order to return the economy to full employment. Discretionary policy involves makers doing fiscal policy in response to an economic problem.

Automatic: unemployment compensation and marginal tax rates are examples of automatic policies that help mitigate the effects of recession and inflation. Automatic fiscal policy takes place without policy makers having to respond to current economic problems.

Contractionary vs expansionary fiscal policy

Contractionary fiscal policy: policy designed to decrease aggregate demand

-          Strategy for controlling inflation

-          Decreasing gov spending, increasing taxes

Expansionary fiscal policy: policy designed to increase aggregate demand

-          strategy for increasing GDP, combatting a recession, and reducing unemployment

-           increases gov spending and decreases taxes

Automatic or built in stabilizers

Things that occur within the economy without government intervention

Anything that increases the gov budget deficit during a recession and increases budget surplus during inflation without requiring explicit action by policy makers

Nondicretionary fiscal policy (automatic stabilizers)

Transfer payments: welfare checks, food stamps, unemployment checks

Progressive income taxes: corporate dividends, social security, veterans benefits

Tax systems

Progressive: average tax rate (tax revenue / GDP) rises with GDP

Proportional: average tax rate remains constant as GDP changes

Regressive: average tax rate falls with GDP