1. Chapter 11
Fiscal policy
Economics, 8th Edition
Boyes/Melvin

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Fiscal Policy
Fiscal policy (government spending and taxation) is one tool that government uses to guide the economy along an expansionary path.
By varying the level of government spending, policymakers can affect the level of real GDP.
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Multiplier effects
If the price level rises as real GDP increases, the multiplier effects of any given change in AE are smaller than they would be if the price level remained constant.
Government spending must be financed by some combination of taxing, borrowing, and creating money.
Government spending = taxes + change in government debt + change in government-issued money.
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10. Government Spending Financed by Tax Increases
Government increases spending, but finances it with tax increases. The increase in spending shifts AD to the right, but the increase in taxes reduces the incentive to work, shifting AS to the left.
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Crowding Out
An increase in government spending financed by borrowing can reduce consumption and investment.
As interest rates are driven higher by government borrowing, private investment is “crowded out” by debt-financed government spending.
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13. Expansionary Fiscal Policy: “Crowding-out” of Investment
When Government spending increases or Taxes decrease, the government must borrow in order to continue spending. This leads to an increase in the demand for loanable funds or a decrease in the supply of loanable funds, which results in a r% increase. This change in r% leads to Investment Spending decreasing. Because Investment Spending is a direct component of AD, these decreases offset some of the increase in AD.
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16. Contractionary Fiscal Policy: “Crowding-in” of Investment
When Government spending decreases or Taxes increase, then the government develops a budget surplus. This leads to an decrease in the demand for loanable funds or a increase in the supply of loanable funds, which results in a r% decrease. This change in r% leads to Investment Spending increasing. Because Investment Spending is a direct component of AD, these increases offset some of the decrease in AD.
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Fiscal Policy
Discretionary Fiscal Policy: changes in government spending and/or taxation aimed at achieving a policy goal.
Automatic Stabilizer: an element of fiscal policy that changes automatically as income changes.
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18. Implications of Deficits and National Debt
Crowding out means a smaller future capital stock and lower output in the future.
Higher interest rates cause currency appreciation, leading to import increases and net export decreases, reducing GDP. This is international crowding out.
Higher national debt means higher interest payments paid by the government.
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20. Automatic Stabilizers
Progressive Taxes: a tax whose rate rises as income rises.
U.S. income taxes currently range from a rate of 10% to 39.6% depending upon annual income.
Transfer Payments: a payment to one person that is funded by taxing others
Employees and employers in the U.S. pay a 7.65% Fica tax (Social Security and Medicare) to fund a variety of benefits administered through the Social Security program
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The curve suggests that, as taxes increase from low levels, tax revenue collected by the government also increases. It also shows that tax rates increasing after a certain point (E) would cause people not to work as hard or not at all, thereby reducing tax revenue. Eventually, if tax rates reached 100% (the top of the curve), then all people would choose not to work because everything they earned would go to the government
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Taxation
Two types of taxes:
direct taxes: on individuals and firms. For example, income taxes and value-added taxes (VAT).
indirect taxes: on goods and services
Three types of tax rate structures:
progressive tax: rate increases with higher income.
regressive tax: rate falls with higher income.
proportional tax: rate is constant.
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23. Individual Income Tax 2015 Tax Bracket Single 10% Bracket $0 - $9,225
$9,226-37,450
25% Bracket
$37,451-90,750
28% Bracket
$90, ,300
33% Bracket
$189, ,500
35% Bracket
$411, ,200
39.6%
Over $413,200