Fiscal Policy

How are taxes collected “Pay-as-you-earn” “Pay-as-you-earn” – Taxable income: income on which you can be taxed Personal exemptions and deductions subtracted from gross income Personal exemptions and deductions subtracted from gross income – Withholding: taking money from your pay check Paying Taxes Paying Taxes – Tax return: 1040 form – W-2: form from employer showing taxable income

Types of Common Federal Taxes Federal income tax – progressive income tax based on tax brackets Federal income tax – progressive income tax based on tax brackets Corporate income tax – subject to numerous deductions Corporate income tax – subject to numerous deductions Federal Insurance Contributions Act (FICA) Federal Insurance Contributions Act (FICA) – Requires withholding to fund Social Security and Medicare Unemployment taxes – collected from employers Unemployment taxes – collected from employers

The Fiscal Cliff

Other types of Taxes Excise tax – Consumer tax on a specific kind of merchandise, such as tobacco. Excise tax – Consumer tax on a specific kind of merchandise, such as tobacco. Tariff – Tax levied on imports to help protect the nation’s industries, labor, or farmers from foreign competition. Tariff – Tax levied on imports to help protect the nation’s industries, labor, or farmers from foreign competition. Sales tax – General tax on sales transactions, sometimes exempting food and drugs. Sales tax – General tax on sales transactions, sometimes exempting food and drugs. Estate Tax – tax on the total value of money and property when someone dies Estate Tax – tax on the total value of money and property when someone dies Value-added tax (VAT) – on increased value of the product at each stage of production and distribution rather than just at the point of sale. Value-added tax (VAT) – on increased value of the product at each stage of production and distribution rather than just at the point of sale. Tax Incentive – used to encourage or discourage behavior Tax Incentive – used to encourage or discourage behavior Tax expenditure – Loss of tax revenue due to Federal laws that provide special tax incentives or benefits to individuals or businesses. Tax expenditure – Loss of tax revenue due to Federal laws that provide special tax incentives or benefits to individuals or businesses.

Government Spending Deficit vs. Debt Deficit vs. Debt – Keynesian economics - Economic theory stating that government spending should increase during business slumps and be curbed during booms. The Federal Stimulus The Federal Stimulus – Laissez-faire economics – Theory that opposes governmental interference in economic affairs beyond what is necessary to protect life and property. Balanced budget Balanced budget Distributive policy vs. Redistributive policy Distributive policy vs. Redistributive policy Types of Spending Types of Spending – Direct benefit payments – entitlements such as social security – Discretionary spending government programs: environment, transportation, assistance programs government programs: environment, transportation, assistance programs Defense spending Defense spending

The Federal Reserve System’s 12 Federal Reserve Districts make up the central banking system of the United States All Nationally charter banks required to join All Nationally charter banks required to join State-chartered banks can join voluntarily State-chartered banks can join voluntarily

The Board of Governors The Board of Governors 1) fixes the discount rate 2) raises or lowers the reserve requirement 3) puts money into the economy through open market operations Federal Open Market Committee Federal Open Market Committee – Makes key decisions interest rates and growth of money supply Board of Governors Board of Governors – Appointed by the president – 14 year term, staggered – Chairman: 4 year term, renewable Ben Bernanke, Chairman of the Federal Reserve

Functions of the Federal Reserve Government Service Government’s Banker Issues Currency Regulating Banks Reserves Bank examinations Regulating the Money Supply Factors affecting demand for money 1.Cash needed on hand 2.Interest rates 3.Price levels in the economy 4.General level of income

Money SupplyValuePrices Inflation updownup Deflation downupdown

Monetary Policy Tools Money Creation Money created through normal operations Money created through normal operations Money Multiplier formula Money Multiplier formula – Initial Deposit x 1/RRR Reserve Requirements Reduction of the RRR allows more loans, increase supply Reduction of the RRR allows more loans, increase supply Increase in RRR requires higher reserves, decreases supply Increase in RRR requires higher reserves, decreases supply Setting rates Discount (Fed to Bank) Discount (Fed to Bank) Federal funds rate (bank to bank) Federal funds rate (bank to bank) Prime rate (Banks to top customers) Prime rate (Banks to top customers) Open Market Operations Buying government securities increases the money supply Buying government securities increases the money supply Selling government securities decreases the money supply Selling government securities decreases the money supply