1. Copyright ©2003, South-Western College Publishing Contemporary Economics: An Applications Approach By Robert J. Carbaugh 2nd Edition Chapter 13: Fiscal Policy and the Federal Budget

2. Carbaugh, Chap. 13 2 Expansionary fiscal policy Fiscal Policy AD 0 Price level (price index) AD 1 A AS 0 B Increase in output Full employment output

3. Carbaugh, Chap. 13 3 Expansionary fiscal policy and the multiplier Fiscal Policy AD 0 Price level (price index) AD 1 A AS 0 B Indirect effect of increased consumption spending C AD 2 Direct effect of an increase in government spending

4. Carbaugh, Chap. 13 4 Contractionary fiscal policy Fiscal Policy AD 0 Price level (price index) AD 1 A AS 0 B 900 1,100 Fall in price level Decrease in real output Full employment

5. Carbaugh, Chap. 13 5 Crowding-out effect Fiscal Policy Government spending exceeds taxes, resulting in a budget deficit. The government enters the loanable funds market and issues more securities. As the demand for loanable funds rises, interest rates increase. Firms and households purchase less machinery, equipment, autos, and homes. Thus government spending crowds out private sector spending.

6. Carbaugh, Chap. 13 6 A more dismal view of supply-side tax cuts AS 0 Price level (price index) AD 0 A B AS 1 Supply-side fiscal policy Fiscal Policy The goal of supply-side tax cuts AS 0 Price level (price index) AD 0 A B AS 1 Increase in real output Fall in prices AD 1

7. Carbaugh, Chap. 13 7 The Laffer Curve Fiscal Policy Tax revenue ($ billions) A 48 85 B 100

8. Carbaugh, Chap. 13 8 Federal debt held by the public Federal Deficit Source: Economic Report of the President, 2001 1940$42.8$96.544.3% 1945235.2221.4106.2 1950219.0273.680.1 1955226.6395.357.3 1960236.8518.245.7 1965260.8686.738.0 1970283.21,009.028.1 1975394.71,554.525.4 1980709.82,718.926.1 19851,499.94,102.136.6 19902,410.75,684.542.4 19953,603.47,194.850.1 20003,410.19,830.434.7 FederalGDPFederal debt as Yeardebt (bill.)(billions)a % of GDP

9. Carbaugh, Chap. 13 9 Government debt to GDP ratios for selected countries, 2000 Government Debt Source: IMF, International Financial Statistics, June 2001 Belgium115 Italy115 Canada76 Germany61 Sweden58 France58 United Kingdom50 Finland47 India44 Government debt as Countrya percent of GDP

10. Carbaugh, Chap. 13 10 Ownership of federal debt, 2000 Federal Debt Source: Federal Reserve Bulletin, June 2001