Module 16.3: Fiscal Policy Flashcards
What is fiscal policy?
governments use of spending and taxation to meet macroeconomic goals.
What is discretionary fiscal policy vs. automatic stabilizers?
discretionary - refers to the spending and taxing decisions of a national government that are intended to stabilize the economy.
automatic stabilizers - built in fiscal devices triggered by the state of the economy.
What are the three main objectives of fiscal policy?
1) Influencing the level of economic activity and aggregate demand
2) Redistributing wealth and income among segments of the population
3) Allocating resources among economic agents and sectors in the economy.
What are the three spending tools for fiscal policy?
1) Transfer payments - aka unemployment benefits and entitlement programs. Not included in GDP calculations
2) Current spending - government purchases of goods and services
3) Capital spending - government spending on roads and infrastructure.
What are the two revenue tools for fiscal policy?
Direct taxes - levied on income and wealth. These include income taxes.
Indirect taxes - sales tax, VAT, excise taxes etc. (used to reduce consumption of something)
Is there a magnified effect on aggregate demand for government spending?
Yes, because those whose incomes increased will in turn increase their spending, which increases the incomes and spending of others.
What is the formula for fiscal multiplier?
1 / 1 - MPC( 1 - T )
MPC = marginal propensity to consume (pecentage) T = tax rate.
What is the Ricardian Equivalence?
Increases in current deficit mean greater taxes in the future. Taxpayers may then increase current savings in order to offset expected cost of higher taxes. if tax payers save just enough to cover principal and interest on the debt the government issued, there is no effect on aggregate demand.
What is a country’s debt ratio?
Ratio of aggregate debt to GDP. if the real growth rate of GDP is higher than the interest rate of the economy, the debt ratio will increase over time.
What are three main reasons to be concerned with size of the fiscal deficit?
1) Higher deficits lead to higher future taxes.
2) if markets lose confidence in the government, investors may not be willing to refinance the debt. Could lead to government defaulting and printing money which could cause inflation.
3) Increased gov borrowing will tend to increase interest rate and reduce spending of private businesses and individuals. “crowding out effect”.
What are some arguments against being concerned with the size of the fiscal deficit?
1) If the debt is primarily being held by domestic citizens, the scale of the problem is overstated
2) If the debt is used to finance productive capital investment, future economic gains will be sufficient to repay debt.
3) Fiscal deficits may prompt needed tax reform
4) Deficits would not matter if private sector savings in anticipation of future tax liabilities
5) Deficits could aid in increasing GDP and employment.
What are the three types of lag between economic conditions and fiscal policy changes?
Recognition lag - may take policymakers time to recognize the nature and extent of the economic problems
Action lag - takes time to discuss, vote, and enact fiscal policy changes
Impact lag - the time between the enactment of fiscal policy changes and when the impact of the changes in the economy take place.
When is fiscal policy expansionary vs. contractionary?
increase (decrease) in a revenue item (sales tax) should be considered contractionary (expansionary)
increase (decrease) in a spending item (construction of highways) should be considered expansionary (contractionary)
What occurs when both fiscal and monetary policy are expansionary?
Interest rates will be lower and the private and public sectors will both expand
What occurs when both fiscal and monetary policy are contractionary?
aggregate demand and GDP will be lower, and interest rates would be higher due to tight monetary policy. both public and private sectors will contract.
