Fiscal Policy Chapter 15

Fiscal Policy Stabilization Policy: to prevent recession, depression, inflation, stagflation Fiscal policy Monetary policy Fisc: ‘basket’ or bag; pool of money Fiscal Policy Government spending and taxing to influence the economy

Fiscal Policy Influences aggregate demand Federal Budget: a plan for the federal government’s revenues and spending for the upcoming year Fiscal year: Oct. 1 to Sept. 30

Spending Proposals Executive Branch: Office of Management and Budget (OMB) Legislative Branch: Congressional Budget Office (CBO)

Congress House House Budget Committee Binding Resolution Appropriations Committee Passes Both: President Senate Senate Budget Committee Binding Resolution Appropriations Committee

Fiscal Policy Economic Situation - Recession Expansionary policy Increase G Decrease T Increases AD Economic Situation Inflation Contractionary policy Decrease G Increase T Decreases AD

Limits of Fiscal Policy Difficult to change spending levels Difficult to predict the future Delayed results Time lags Recognition lags Political pressures Coordinating fiscal policy

Fiscal Policy Options Classical Economics Keynesian Economics Supply Side (Reagonomics)

Classical Economics Adam Smith, David Ricardo, Thomas Malthus Laissez Faire economics No market regulation

Keynesian Economics John Maynard Keynes 1936: The General Theory of Employment, Interest, and Money Productivity capacity: full employment output Demand side economics Government spending Taxation Avoiding recessions & depressions Control inflation Countercyclical actions by government

Multiplier Effect Idea that every one dollar of government spending creates more than one dollar in economic activity Automatic Stabilizers Transfer payments: unemployment benefits; Temporary Assistance for Needy Families (TANF)

Supply Side Economics Laffer Curve

Fiscal Policy & American History Great Depression, WWII: Keynesian economics Keynesian economics Reagonomics (supply side economics) Keynesian economics Obama’s stimulus package

Budget Deficits and the National Debt Budget Balance Deficit Revenue < Spending Surplus Revenue > Spending

Budget Deficits Responds Print money hyperinflation Borrow money Treasury bills- short term Treasury notes - 2 to 10 years Treasury bonds years

National Debt Each year’s deficit adds to the national debt Crowding out effect Servicing the debt discretionary spending

Deficits, Surpluses and National Debt mid 1980: Gramm Rudman Hollings Act - automatic across the board cuts unconstitutional Late 1990: surplus Clinton: increased taxes; reduced Government spending Surplus options: new spending, reduce taxes, stabilize social security 2000: deficit War Reduced taxes Increased spending

Debt Commission 2010 Rough draft proposal to end projected deficits by 2020 Cut defense spending Social security benefits Medicare Change calculations for CPI Adjust social security -- independent of debt Retire at 70 Raise taxes by ending deductions Home mortgage interest rate deduction End business deduction for health costs Increase gas tax Changes in capital gains tax (?) Lower overall tax rate