Chapter 13 - Fiscal Policy
Terms in this set (86)
The use of the federal budget to achieve macroeconomic objectives (full employment, sustained economic growth and price level stability)
Fiscal Policy is made by
the President and Congress on an annual timeline
The federal budget has two purposes:
1) to finance federal government programs and activities
2) to achieve macroeconomic objectives
annual statement of the outlays and receipts of the government of the United states together with the laws and regulations that approve and support them
The president _______ a budget to Congress each Feb. Congress _______ the proposed budget and passes the budget acts in September.
veto power to eliminate specific items in a budget bill and approve others
The Council of Economic Advisers write...
Economic Report of the President
Council of Economic Advisers
monitors the economy and keeps the President and the public informed about the current state o the economy and the best available forecasts of where it is heading
Which of the following statements illustrates fiscal policy?
A. The US government has proposed a hike in the corporate tax rate.
B. The Fed has increased its reserve requirement.
C. A rise in the expected future profits has increased US investments.
D. A stronger dollar has lowered US exports.
Answer is A
Receipts come from 4 sources; 1 being the largest
1. Personal income taxes
2. Social Security taxes
3. Corporate income taxes
4. Indirect taxes and other receipts
Receipts are the
government's tax revenues
Outlays are the
Deficit is the amount...
by which the government's outlays exceed its receipts
Personal income taxes are paid by...
individuals on their incomes
Social Security are paid by
workers and their employers to finance the government's Social Security programs
Corporate income taxes are paid by
companies on their profits
Indirect taxes are
on the sale of gasoline, alcoholic beverages and a few other items
Outlays are classified into 3 categories:
Expenditure on goods and services
Transfer payments is the payment to...
individuals, businesses other levels of government and the rest of the world
this includes capital transfers to bail out failing financial institutions
Expenditure on goods and services is the expenditure on...
final goods and services
includes national defense, homeland security, research on cures for AIDS, computers for the Internal Revenue Service
Debt interest is the interest on...
If tax revenues are $3,650 billion and outlays are $3,400 billion, calculate the budget surplus.
If tax revenues are $4,000 billion and outlays are $4,800 billion, calculate the budget deficit.
Government debt is the total amount that government
the sum of the past budget deficits minus the sum of past budget surplus
If the receipts exceed outlays, the government has a budget _______
If the outlays exceed receipts, the government has a budget ______
Budget balance is.....
receipts minus outlays
if receipts equal outlays
A tax on labor income would...
decrease the supply of labor and the equilibrium quantity of labor decreases
smaller potential GDP
but NO EFFECT ON DEMAND FOR LABOR
The before-tax wage rises and the after-tax age falls
Initially the full-employment quantity of labor is 250 billion hours and potential GDP is $13 trillion.
The government decides to tax labor income and a tax wedge is created.
What happens to the potential GDP?
It decreases, arrow on PF is backwards
A government budget deficit __________ government debt
more deficit; more increased borrowing, larger interest payments, larger deficit (feeds itself)
the gap created between the before-tax and after-tax wage rates
A tax on consumption adds to the tax wedge in the labor market because....
it raises the prices paid for consumption goods and services and is equivalent to a cut in the real wage rate
A tax on interest income has a ___________ impact than the same percentage tax on labor income
Suppose the real interest rate is 3 percent a year and the tax rate is 60 percent. The inflation rate is 2 percent a year.
What is the real after-tax interest rate?
The real after-tax interest rate is
0 percent a year, and the true tax rate is
A tax on interest income ______ the after-tax interest rate, _____ saving and ________ investment
lower, decreases, decreases
Real after-tax interest rate
interest rate that influences investment and saving plans
A tax on labor income ________ the quantity of labor employed and _______ potential GDP
This causes equilibrium level of employment to ________
At this level, the before-tax wage rate ________ and the after-tax wage rate ________
Thus, Potential GDP ___________
**DEMAND FOR LABOR DOES NOT CHANGE
A tax on capital income ___________ the quantity of savings and investment and _______ the growth rate of real GDP
moves the saving supply curve (SLF) to the left (decreases in supply of loanable funds)
**interest rate rises and after-tax interest rate falls
If there is a decrease in tax on capital income.... the real interest _________ and investment + economic growth would ________
Suppose that investment is $1, 500 billion, saving is $1 ,500 billion, government expenditure on goods and services is $1,600 billion, exports are $1,900 billion, and imports are $2 ,400 billion.
What is the amount of tax revenue and the government budget balance?
Tax revenue is
1100 billion dollars.
The government budget balance is
−500 billion dollars.
When a tax is applied to labor income, the result is a ______ full-employment quantity of labor and a ______ potential GDP.
A higher tax rate does not always bring greater tax revenue. True or False?
A higher tax rate brings in more revenue per dollar earned. BUT because a higher tax rate decreases the number of dollars earned, two forces operate in opposite directions on the tax revenue collected.
relationship between the tax rate (x) and the amount of tax revenue (y) collected
For rates below T --> increase in the tax rate increases tax revenue
A T is the max
For rates above T --> decreases tax revenue
The tax wedge is the gap created by the tax between what ______ and what _________
a buyer pays; a seller receives
Taxes and needs-tested spending work as automatic fiscal policy to dampen the business cycle because taxes ______ during an expansion, and needs-tested spending ______ during a recession.
A budget deficit that needs government action to remove it is a ______ deficit.
A ______ deficit will disappear when the economy moves back to full employment.
An economy is experiencing a recessionary gap. The government can ______.
increase expenditure or cut taxes to increase aggregate demand
Fiscal stimulus that increases an existing government budget deficit ______ loanable funds and ______ investment.
increases the demand for; decreases
an accounting system that measures the lifetime tax burden and benefits of each generation
Income taxes and Social Security taxes are paid by people who have _____
Social Security benefits are paid to people ______
after they retire
Concept of present value
amount of money that, if invested today, will grow to equal a given future amount when the interest that it earns is taken into account
The lower the interest rate, the ________ is the present value of a given future amount
the present value of the government's commitments to pay benefits minus the present value of its tax revenues
its an attempt to measure the scale of government's true liabilities
How would the federal government meet its Social Security obligations?
There are 4 alternatives:
Raise income taxes
Raise Social Security taxes
Cut Social Security benefits
Cut federal government discretionary spending
division of the fiscal imbalance between the current and future generations
The economy is in a boom and the inflationary gap is large.
Discretionary fiscal policy that might occur is ______.
Automatic fiscal policy that might occur is ______.
a decrease in government expenditure and an increase in taxes by a decision of Congress;
a decrease in transfer payments and an increase in taxes with no interference by Congress
A discretionary fiscal stimulation package that would avoid serious negative supply-side effects is a simultaneous and equal ______.
decrease in government expenditure and taxes
Implementation of a discretionary restraint package could suffer from ______ lag because each member of Congress has a different idea about what is the best program to change.
And implementation could suffer from ______ lag because of the speed with which government agencies can act.
a law-making; an impact
Automatic fiscal policy
a fiscal policy action that is triggered by the state of the economy with no action by government
Discretionary fiscal policy
a fiscal policy action initiated by an act of Congress
Whether automatic or discretionary, an increase in government outlays or a decrease in government receipts can ____________ production and jobs
An increase in expenditure on goods and services directly ___________ aggregate expenditure
This also ________ real GDP
An increase in transfer payments or a decrease in tax revenues _____________ disposable income
Lower taxes strengthen the incentives to _____________
work and invest
Cyclical Surpluses and Deficits
actual surplus or deficit minus the structural surplus or deficit
if real GDP is less than potential GDP, outlays exceed receipts and there is a cyclical deficit
if real GDP is more than potential GDP, receipts exceed outlays, cyclical surplus
structural deficit and surplus
the budget balance that would occur if the economy were at full employment
Pg. 337 for graph (just 3 vertical lines, most left is deficit and most right is surplus)
The economy is growing slowly, the inflationary gap is large, and there is a budget deficit.
The budget deficit is composed of ______.
Automatic fiscal policy is ______ aggregate demand.
a structural deficit and a cyclical surplus;
If a discretionary decrease in government expenditure occurs, the structural deficit will
2 items in the government budget change automatically in response to the state of the economy. They are....
tax revenues and needs-tested spending
Automatic Changes in Tax Revenues
depends on real GDP
real GDP increases in a business cycle --> tax revenues from income rises
real GDP decreases --> profits fall so tax revenues fall
spending of programs that pay benefits to qualified people and businesses
When the economy is in recession, unemployment is high and the number of people experiencing economic hardship increases, which increases needs-tested spending
helps shrink the recessionary gap if government receipts fall and outlays increase
A fall in real GDP that results in a decrease in personal income tax receipts is an example of ______.
automatic fiscal policy
Government expenditure multiplier
the quantitative effect of a change in government expenditure on real GDP
Expansionary Fiscal Policy
There is an increase in government expenditure on real GDP
With the multiplier, it moves further to the right
An increase in the income tax rate is an example of ______.
discretionary fiscal policy
When an increase in government expenditure increases real GDP,
income rise and the higher incomes bring an increase in consumption expenditure
An increase in government expenditure ____________ government borrowing or __________ government lending if there is a budget surplus
This would ________ the real interest rate
the quantitative effect of a change in taxes on real GDP
The demand side effects of a tax cut are likely to be ______________ than an equivalent increase in government expenditure because a tax cut influences aggregate demand by __________ disposable income
Expansionary fiscal policy when the economy is below full employment ______ aggregate demand and real GDP, and the price level ______.
Potential GDP is $10 trillion and actual real GDP is $8 trillion.
The economy has a structural deficit of $1.5 trillion and an actual deficit of $2 trillion.
The cyclical deficit is ______.
Discretionary fiscal policy is risky because.....
actual output gap is not known and can only be estimated with error
Discretionary fiscal stimulus actions are hampered by 3 time lags:
the time it takes to figure out that fiscal policy actions are needed. this involves assessing the current state of the economy and forecasting its future state
the time it takes Congress to pass the laws needed to change taxes or spending.
the time it takes from passing a tax or spending change to its effects on real GDP being felt
depends partly on the speed with which government agencies can act and partly on the timing of changes in spending plans by households and businesses