1. Fiscal Policy
Krugman Section 4
Modules 20 and 21

2. Fiscal Policy
Fiscal policy is done by CONGRESS—not the Federal Reserve
Stabilization = Tax (T) and Spend (G) Everything equal, what puts more money in the economy, G or a decrease in T?
G! People can SAVE some of a tax break

3. Discretionary Fiscal Policy
= changes to G or T are at the option of Congress—they must make a decision!
Two types :

4. Expansionary Policy Used to combat recession Increase G Decrease T
If budget is balanced, a budget deficit is created
Goal is to shift AD to the right PL
LRAS
SRAS
PL2
PL1
AD2 AD Y1 Y2
GDPr

5. Contractionary Policy
Used to lower inflation
A decrease in G
An increase in T
Goal is to shift AD to the left by taking money out of the system PL
LRAS
SRAS
PL1
PL2
AD2 AD Y2 YI
GDPr

6. Financing Deficit Spending
1. borrow from the public
Sell bonds to the public
Take out loans from the public
BIG GRAPH NUMBER 9
Loanable funds

7. Walter Mondale

8. 2. Money Creation
FED loans money directly to the gov’t or print more money
increases inflation
Quantity Theory of Money
(MV = PY)

9. What to do with a Surplus
1. Pay off public debt
Buy back bonds
Puts $ back into the system, increases consumption
May offset contractionary policy that created the surplus

10. 2. Stand Idle (or do nothing)
Withholds purchasing power
No chance of inflation

11. Automatic Policy--Built In Stability
1. Income Tax Brackets
As income increases, people pay more taxes. This limits the increase in DI and C.
2. Unemployment compensation
The income of unemployed does not fall to zero. UC provides a base level of income.
3. Stocks and Bonds
Dividends do not follow the swings of the business cycle. Bond payments are established at the time the bond is purchased

14. Loanable Funds Practice For Notes
1. Increase in domestic savings
What happens to the rir and the Q loans?
2. Foreign sector to borrow less.
3. Private sector to save less of their disposable income.
4. Increase in private borrowing

15. Crowding Out ADAS
If Congress deficit spends to get us out of a _________ gap, what happens to the rir?
So, what happens to Ig?
So, what happens to AD?
So, what happens to GDP?
This is called Crowding Out
Big graphs 10 and 11

16. Phillips Curve Compares inflation and unemployment
Inflation increases as U decreases
more people have money ready to spend so prices increase
Inflation decreases as U increases
less people have money to spend so prices decrease
Big Graphs 12 and 13

17. Phillips ADAS Practice
Draw the two graphs side by side and show the changes described.
Congress decreases personal income taxes.
Crude oil prices increase dramatically.
A new technology is introduced, immediately improving productivity.
Consumers have a rapid loss of confidence.