1. MBMC Spending and Output in the Short Run Spending and Output in the Short Run

2. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 2 Introduction Spending, in the short run, may not be sufficient to support a normal level of output. Therefore, recessionary gaps are caused by insufficient aggregate spending.

3. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 3 Introduction John Maynard Keynes Economist, diplomat, financier, journalist, and patron of the arts Publications include:  The Economic Consequences of the Peace  The General Theory of Employment, Interest, and Money

4. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 4 Introduction John Maynard Keynes The General Theory:  Revolutionized economic policy  Predicted that a decrease in aggregate spending could create a recessionary gap  Suggests that government policy could be used to restore full employment

5. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 5 The Keynesian Model’s Crucial Assumption: Firms Meet Demand at Preset Prices In the short run, firms meet the demand for their products at preset prices. Firms do not respond to every change in the demand for their products by changing their prices. Instead, they typically set a price for some period, then meet the demand at that price.

6. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 6 The Keynesian Model’s Crucial Assumption: Firms Meet Demand at Preset Prices In the short run, firms meet the demand for their products at preset prices. By “meeting the demand,” we mean that firms produce just enough to satisfy their customers at the prices that have been set.

7. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 7 The Keynesian Model’s Crucial Assumption: Firms Meet Demand at Preset Prices Meeting Demand at Preset Prices: Is a logical management decision because of menu costs. Prices should be changed only if the benefit exceeds the menu cost. In the long run firms will change prices.

8. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 8 The Keynesian Model’s Crucial Assumption: Firms Meet Demand at Preset Prices Economic Naturalist Will new technologies eliminate menu costs?  Keynesian theory assumes that menu cost prevent firms from changing prices.  Many new technologies (bar codes) have reduced menu cost and increased price flexibility.

9. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 9 The Keynesian Model’s Crucial Assumption: Firms Meet Demand at Preset Prices Economic Naturalist Will new technologies eliminate menu costs?  Pricing decisions also require market analysis, strategic considerations, and cost analysis oThese factors are a component of menu costs.

10. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 10 Planned Aggregate Expenditure Total planned spending on final goods and services

11. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 11 Planned Aggregate Expenditure The Components of Planned Aggregate Expenditure Consumer expenditure or Consumption (C)  Household spending on durables, nondurables, and services

12. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 12 Planned Aggregate Expenditure The Components of Planned Aggregate Expenditure Investment (I)  New capital goods spending  New residential spending  Increases in inventories

13. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 13 Planned Aggregate Expenditure The Components of Planned Aggregate Expenditure Government purchases  Federal, state, and local spending on goods and services

14. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 14 Planned Aggregate Expenditure The Components of Planned Aggregate Expenditure Net exports  Exports - imports

15. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 15 Planned Aggregate Expenditure Planned Spending Versus Actual Spending In the Keynesian model, output is determined by PAE. Actual expenditures may not equal PAE.  If inventories are larger than expected: oI > planned Investment (I P )  If inventories are smaller than expected: oI < I P

16. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 16 Planned Aggregate Expenditure Example Actual and planned investment  Fly-by-Night Kite Co. produces $5 million of kites per year.  Expected sales = $4.8 million and planned inventory = $200,000  Capital expenditure = $1 million

17. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 17 Planned Aggregate Expenditure Example If actual sales are:  $4,600,000 instead of $4,800,000 oI P = $1,000,000 + $200,000 = $1,200,000 oI = $1,200,000 + $200,000 = $1,400,000 oI > I P  $4,800,000 oI P = $1.2 m. = I

18. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 18 Planned Aggregate Expenditure Example If actual sales are:  $5,000,000 oI P = $1,000,000 + $200,000 = $1,200,000 oI = $1,200,000 - $200,000 = $1,000,000 oI < I P

19. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 19 Planned Aggregate Expenditure

20. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 20 Planned Aggregate Expenditure Hey Big Spender! Consumer Spending and the Economy Consumption (C) accounts for two thirds of total spending The primary determinant of C is disposable income or Y - T

21. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 21 Planned Aggregate Expenditure Consumption Function The relationship between consumption spending and its determinants, in particular, disposable (after-tax) income

22. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 22 Planned Aggregate Expenditure Relating Consumption to Income and Other Determinants The consumption function: C = a constant; represents the non income determinants of C  Consumer optimism  Wealth  Real interest rates

23. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 23 Planned Aggregate Expenditure Economic Naturalist What effect did the 2000-2002 decline in the U.S. stock market values have on consumption spending?  From March 2000 to March 2002 the S&P 500 fell 49%.  Households lost $6.5 trillion of wealth in two years

24. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 24 Planned Aggregate Expenditure Economic Naturalist What effect did the 2000-2002 decline in the U.S. stock market values have on consumption spending?  $1 decrease in wealth reduces C by 3 to 7 cents/year  The $6.5 trillion loss could reduce C between $195 and $455 billion

25. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 25 Planned Aggregate Expenditure Economic Naturalist What effect did the 2000-2002 decline in the U.S. stock market values have on consumption spending?  C rose from 2000-2002 oHigher housing prices (greater wealth) oLower interest rates oIncrease in disposable income (Y – T)

26. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 26 Planned Aggregate Expenditure Consumption Function c = marginal propensity to consume c = the amount by which consumption rises when disposable income rises by $1; 0 < c < 1

27. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 27 A Consumption Function Disposable income Y-T Consumption spending C Consumption function Slope = c = MPC C

28. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 28 The U.S. Consumption Function, 1960-2001

29. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 29 Planned Aggregate Expenditure Planned Aggregate Expenditure and Output The relationship between changes in production and income and PAE  C is a large part of PAE  C depends on Y  PAE depends on Y

30. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 30 Planned Aggregate Expenditure Example PAE = C + I P + G + NX C = C + c(Y – T) PAE = C + c(Y – T) + I P + G + NX C = 620; c = 0.8; T = 250; I P = 220; G = 330; NX = 20

31. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 31 Planned Aggregate Expenditure Example Then:

32. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 32 Planned Aggregate Expenditure Example If Y increases by $1, C will increase by 80 cents (c = 0.80) C is part of PAE PAE increases by 80 cents ($1 X 0.80)

33. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 33 Planned Aggregate Expenditure Example There are two parts to PAE:  Autonomous expenditure (960) oIs independent of output oDoes not vary when output changes  Induced expenditure (0.8Y) oDepends on output (Y)

34. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 34 Planned Aggregate Expenditure Example PAE = autonomous expenditure + induced expenditure

35. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 35 Planned Aggregate Expenditure Short-run Equilibrium Output Keynesian Assumption  Producers meet demand at preset prices in the short-run  Short-run equilibrium: Y = PAE

36. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 36 Planned Aggregate Expenditure Short-run Equilibrium Output The level of output at which output Y equals planned aggregate expenditure PAE Short-run equilibrium output is the level of output that prevails during the period in which prices are predetermined

37. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 37 Numerical Determination of Short-Run Equilibrium Output (1) Output Y 4,0004,160-160No 4,2004,320-120No 4,4004,480-80No 4,6004,640-40No 4,8004,8000Yes 5,0004,96040No 5,2005,12080No (2) Planned aggregate expenditure PAE = 960 + 0.8Y (3) Y - PAE (4) Y = PAE? Equilibrium: Y = PAE; Y (4,800) = PAE (4,800) If Y = 4,000 < PAE = 960 +.8(4000) = 4,160 If Y = 5,000 > PAE = 960 +.8(5,000) = 4,960

38. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 38 Determination of Short-Run Equilibrium Output (Keynesian Cross) Output Y Planned aggregate expenditure PAE 960 Expenditure line PAE = 960 + 0.8Y Slope = 0.8 45 o Y = PAE 4,800 Equilibrium PAE intersects the 45 o line @ 4,800 Disequilibrium Y > 4,800, PAE < Y

39. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 39 A Decline In Planned Spending Leads To A Recession Output Y Planned aggregate expenditure PAE 960 E Expenditure line PAE = 960 + 0.8Y 45 o Y = PAE 4,800 Y* Recessionary gap F Expenditure line PAE = 950 + 0.8Y A decline in autonomous aggregate expenditure (C) shifts the expenditure line down 950 4,750

40. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 40 Determination of Short-Run Equilibrium Output After A Fall In Spending (1) Output Y 4,6004,630-30No 4,6504,670-20No 4,7004,710-10No 4,7504,7500Yes 4,8004,79010No 4,8504,83020No 4,9004,87030No 4,9504,91040No 5,0004,95050No (2) Planned aggregate expenditure PAE = 960 + 0.8Y (3) Y - PAE (4) Y – PAE? If Y = 4,800 > PAE = 4,790 Y = PAE @ 4,750 Output Gap: Y* (4,800) > Y (4,750)

41. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 41 Planned Aggregate Expenditure Observations Other factors remaining constant, a decline in autonomous spending causes short-run equilibrium output to fall and creates a recessionary gap. A decrease in autonomous spending can be caused by a reduction in C, I P, G, and/or NX.

42. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 42 Planned Aggregate Expenditure Economic Naturalist What caused the 1990-1991 recession?  Decline in consumer confidence  Credit crunch

43. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 43 Planned Aggregate Expenditure Economic Naturalist Why was the deep Japanese recession of the 1990s bad news for the rest of East Asia?  Recession in Japan reduced Japanese imports  The decline in East Asian exports to Japan reduced domestic spending in non-export sectors

44. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 44 Planned Aggregate Expenditure Economic Naturalist What caused the 2001 recession in the United States?  Reduction in investment spending

45. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 45 Planned Aggregate Expenditure Income-Expenditure Multiplier The effect of a 1-unit increase in autonomous expenditure on short-run equilibrium output For example, a multiplier of 5 means that a 10-unit decrease in autonomous expenditure reduces short-run equilibrium output by 50 units

46. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 46 Planned Aggregate Expenditure The Multiplier Recall  PAE = 960 + 0.8Y, equilibrium Y = 4,800  C fell by 10  PAE = 950 + 0.8Y, equilibrium Y = 4,750

47. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 47 Planned Aggregate Expenditure The Multiplier Effect The decrease in the equilibrium Y was 5 times the fall in C. The income-expenditure multiplier equaled 5. The size of the multiplier is influenced by the MPC.

48. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 48 Planned Aggregate Expenditure What Do You Think? Why is the change in equilibrium Y a multiple of the change in autonomous spending?

49. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 49 Stabilizing Planned Spending: The Role of Fiscal Policy In the Keynesian Model: Recessionary and expansionary gaps are caused by inadequate or excessive spending, respectively. Stabilization policies are used to affect planned aggregate expenditures to eliminate output gaps.

50. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 50 Stabilizing Planned Spending: The Role of Fiscal Policy Stabilization Policies Government policies that are used to affect planned aggregate expenditure, with the objective of eliminating output gaps

51. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 51 Stabilizing Planned Spending: The Role of Fiscal Policy Expansionary Policies Government policy actions intended to increase planned spending and output

52. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 52 Stabilizing Planned Spending: The Role of Fiscal Policy Contractionary Policies Government policy actions designed to reduce planned spending and output

53. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 53 Stabilizing Planned Spending: The Role of Fiscal Policy Tools of Stabilization Policy Monetary policy Fiscal policy

54. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 54 Stabilizing Planned Spending: The Role of Fiscal Policy Tools of fiscal policy Government spending  Direct effect on PAE Taxation  Indirect effect on PAE Transfer payments  Indirect effect on PAE

55. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 55 An Increase In Government Purchases Eliminates A Recessionary Gap Planned aggregate expenditure PAE 960 Expenditure line PAE = 960 + 0.8Y E An increase in G shifts the expenditure line upward Output Y Y = PAE F 45 o 4,800 Recessionary gap Expenditure line PAE = 950 + 0.8Y 950 4,750 Y*

56. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 56 Stabilizing Planned Spending: The Role of Fiscal Policy Economic Naturalist Why is Japan building roads nobody wants to use?  Japan has a recessionary gap  $1 trillion spending on public works  The policy has not been successful to date oWas not large enough oWasteful spending may have demoralized consumers

57. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 57 Stabilizing Planned Spending: The Role of Fiscal Policy Economic Naturalist Does military spending stimulate the economy?

58. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 58 U.S. Military Expenditures as a Share of GDP, 1940-2001

59. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 59 Stabilizing Planned Spending: The Role of Fiscal Policy Taxes, Transfers, and Aggregate Spending Taxes and transfers affect PAE indirectly

60. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 60 Stabilizing Planned Spending: The Role of Fiscal Policy Example Using a tax cut to close a recessionary gap

61. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 61 Stabilizing Planned Spending: The Role of Fiscal Policy Example Assume  Recessionary gap = 50  MPC = 0.8 Use a tax cut to eliminate the gap  The tax cut must increase PAE by 10  For every dollar reduction in taxes, consumption will increase by 80 cents (MPC = 0.8)

62. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 62 Stabilizing Planned Spending: The Role of Fiscal Policy Example Assume  Recessionary gap = 50  MPC = 0.8 Use a tax cut to eliminate the gap  Change in spending (10) = tax cut x MPC (0.8) oTax cut = change in spending/MPC = 10/0.8 = 12.5 An increase in transfers of 12.5 will also raise PAE by 10 (12.5 x 0.8) = 10

63. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 63 Stabilizing Planned Spending: The Role of Fiscal Policy Economic Naturalist Why did the federal government send out millions of $300 and $600 checks to households in 2001?  In the spring 2001, the U.S. economy was slowing.  Summer 2001, families received $38 billion in tax rebates.

64. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 64 Stabilizing Planned Spending: The Role of Fiscal Policy Economic Naturalist Why did the federal government send out millions of $300 and $600 checks to households in 2001?  Survey indicated that only 22% of the households anticipated spending most of their rebates.  Tax cuts were accompanied by increases in government spending to stimulate PAE.

65. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 65 Fiscal Policy as a Stabilization Tool: Three Qualifications Fiscal Policy and the Supply Side Fiscal policy may affect potential output as well as PAE.  Government spending and potential output oPublic capital oR & D oHuman Capital

66. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 66 Fiscal Policy as a Stabilization Tool: Three Qualifications Fiscal Policy and the Supply Side Fiscal policy may affect potential output as well as PAE.  Taxation and potential output oTax break for new investment oTax break on interest income may stimulate saving  Fiscal policy affects both PAE and Y*.

67. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 67 Fiscal Policy as a Stabilization Tool: Three Qualifications The Problem of Deficits Sustaining government deficits reduce saving and investment in new capital goods.

68. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 68 Fiscal Policy as a Stabilization Tool: Three Qualifications The Problem of Deficits The goal of keeping deficits low may reduce the incentive to use fiscal policy to control a recessionary gap.

69. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 69 Fiscal Policy as a Stabilization Tool: Three Qualifications The Relative Inflexibility of Fiscal Policy A lack of flexibility may reduce the effectiveness of fiscal policy  Two limits to fiscal policy flexibility oThe problem of time lags and the legislative process oCompeting political objectives

70. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 70 Fiscal Policy as a Stabilization Tool: Three Qualifications The Relative Inflexibility of Fiscal Policy A lack of flexibility may reduce the effectiveness of fiscal policy  Automatic stabilizers help offset the inflexibility of fiscal policy oTransfer payments oIncome tax collections  Fiscal policy may be useful to address prolonged periods of recession

71. MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Spending and Output in the Short Run Slide 71 Fiscal Policy as a Stabilization Tool: Three Qualifications Automatic Stabilizers Provisions in the law that imply automatic increases in government spending or decreases in taxes when real output declines

72. MBMC End of Chapter End of Chapter