1. Unit 3 Aggregate Demand, Supply and Fiscal Policy
Chapter 29 Fiscal Policy

3. The Car Analogy The economy is like a car….
You can drive 120mph but it is not sustainable.
(Extremely low unemployment)
Driving 20 mph is too slow. The car can easily go faster.
(High unemployment)
70 mph is sustainable.
(Full employment)
Some cars have the capacity to drive faster than others.
(Industrial nations vs. 3rd world nations)
If the engine (technology) or the gas mileage (productivity) increase then the car can drive at even higher speeds (increase LRAS).
The government’s job is to brake or speed up when needed as well as promote things that will improve the engine.

4. I. Fiscal Policy
Use of taxes, government transfers, or government purchases of goods and services to shift the aggregate demand curve.

5. Keynes vs. Hayek Video 1

6. II. Contractionary Fiscal Policy (The BRAKE)
Laws that reduce inflation, decrease GDP to close a inflationary gap
Decrease Government Spending
Tax Increases on consumers
Combinations of the Two

7. III. Expansionary Fiscal Policy
Laws that reduce unemployment and increase GDP or close a recessionary gap.
Increase Government Spending
Decrease Taxes on Consumers
Combinations of the Two

8. III. Expansionary Fiscal Policy
What type of gap and what type of policy is best?
What should the government do to spending?
How much should the government spend?
- Why should they not spend $100 billion?

9. IV. The Multiplier Effect
Government Spending 1/(1-MPC)
Changes in Taxes MPC/(1-MPC)
Why is the multiplier for government purchases always going to be larger than the multiplier for a change in taxes?
Discretionary Fiscal Policy: deliberate actions from policy makers to influence the economy.

10. Fiscal Policy Practice
Assume the MPC = .8
What type of gap?
Contractionary or expansionary needed?
What are two options to fix the gap?
How much initial government spending is needed to close the gap?
$100 Billion

11. Fiscal Policy Practice
Assume the MPC = .5
What type of gap?
Contractionary or expansionary needed?
What are two options to fix the gap.
How much of a change in government spending is needed to close the gap?
-10 Billion

12. Fiscal Policy Practice
Assume the MPC = .8
What type of gap?
Contractionary or expansionary needed?
What are the two options to fix the gap?
How much money would the government have to decrease taxes by to close the gap?
$125 Billion

14. V. Automatic Stabilizers
Rules governing taxes and transfers that reduce the size of the multiplier automatically reducing the size of fluctuations in the business cycle.
Example: U.S. progressive income tax system acts counter cyclically to stabilize the economy
When GDP is down, the tax burden on consumers is low, promoting consumption.
When GDP is up, more tax burden on consumers, discouraging consumption.
The more progressive the tax system, the greater the economy’s built-in stability.

17. VI. Debt-GDP ratio
Widely used measure of fiscal health

19. Keynes vs. Hayek Round 2

20. Debate
Statement: Strong government spending and intervention is necessary in times of economic recession and depression.
Strongly Agree
Agree
Disagree
Strongly Disagree
At the end of this activity you will be required to write a ½ - 1 page paper on your stance.