Fiscal Policy

Fiscal Policy

 Def. Government decisions on spending and taxation

that are intended to improve or maintain the
economy.
 Fiscal policy is the use of government spending and
revenue collection to influence the economy
 Because the government is so large and has such an
impact on business, the decisions it makes has a
HUGE influence on the economy.
What is the Federal Budget?

 Federal Budget…plan for the reception and spending of

government revenues
 The Federal budget is a written document that indicates
the amount of money the government expects to
receive for a certain year and authorizes the amount of
money the government can spend that year.
 Fiscal year…12 month period that begins on any date
the government makes a new budget. It may add to it
through supplementary budgets from time to time.
 What is the Federal Budget?

Budget Surplus
Income > Expenditure
Budget Deficit
Income < Expenditure
Balance budget
Income = Expenditure
 Budget Deficit

 Taxes are lower(expenditures will not cover)

 Government borrowing(its referred to as Public Sector Net
Borrowing PSNB)
• Borrowing may be domestic
• International
• Banks , State bank, Public Sector
 The objective is to reduce unemployment
 Economic growth(increase income , tax collection will increase)
 Close Deflationary GAP(the aggregate demand will increase &
meet to the aggregate supply)
 Actions of Fiscal Policy

 Full employment will occur

 This type of policy is called Expansionary policy
 Expansionary policy
 Fiscal policy that encourages economic growth
 Higher spending, tax cuts
 Budget Surplus

Budget Surplus
Income > Expenditure
• Instead of borrowing the government will invest
money or pay their debts
• Inflationary GAP occur due to high demand( AD >AS)
• Reduced the AD through budget surplus . HOW?
• Moving money from the economy
• This type of policy is called Contractionary policy
 Actions of Fiscal Policy

 Contractionary Policy
 Fiscal policy that reduces economic growth
 Lower spending, higher taxes
 Limits of Fiscal Policy

 Hard for the government to change spending levels

 Hard to predict the future
 Sometimes, action is too late
 Delayed time…changes don’t happen overnight
Fiscal Policy Options
 Fiscal Policy Options

 Classical Economics…the idea that the free market

regulates itself
 Great Depression pointed out the weakness of this
thought
 Keynesian Economics (John Maynard Keynes)
 The idea that the government should increase spending
to spark demand and help the economy
 Know as demand side economics
 Demand Side Economics

 Results in the multiplier effect

 Idea that $1 spending by the government results in many
more in the private sector
 Automatic Stabilizers
 If set up properly, fiscal policy can automatically
stabilize the economy
 Taxes
 Low income…lower taxes and more transfer payments
 High income…more taxes and fewer transfer payments
 Supply Side Economics

 Belief that the economy should work to increase

supply
 Too much government control will reduce productivity
 Taxes that are too high will discourage work
 Calls for less government spending and tax cuts
Budget Deficits and the
National Debt
 Deficits and National Debts

 The federal budget is rarely balanced

 Either running a surplus or a deficit
 Two ways to combat the deficit
 Create money
 May lead to hyperinflation
 Borrow money
 Sell bonds
 Borrowing increases the debt
Problems with the National Debt

 Borrowing money creates a national debt

 Debt is not the same as the deficit
 Problems arise with the national debt
 Creates investment competition for private business
 This is known as the crowding out effect
 Servicing the debt
 Paying off interest on the debt is an opportunity cost
 http://www.usdebtclock.org/