Fiscal Policy

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  Microeconomics and Macroeconomics

  • (Author)
  • 2014(Publication Date)
  • Orange Apple

    (Publisher)

  ____________________ WORLD TECHNOLOGIES ____________________ Chapter- 9 Fiscal Policy & Monetary Policy Fiscal Policy In economics, Fiscal Policy is the use of government expenditure and revenue collection to influence the economy. Fiscal Policy can be contrasted with the other main type of macroeconomic policy, monetary policy, which attempts to stabilize the economy by controlling interest rates and the money supply. The two main instruments of Fiscal Policy are government expenditure and taxation. Changes in the level and composition of taxation and government spending can impact on the following variables in the economy: • Aggregate demand and the level of economic activity; • The pattern of resource allocation; • The distribution of income. Fiscal Policy refers to the use of the government budget to influence the first of these: economic activity. Stances of Fiscal Policy The three possible stances of Fiscal Policy are neutral, expansionary and contractionary. The simplest definitions of these stances are as follows: • A neutral stance of Fiscal Policy implies a balanced economy. This results in a large tax revenue. Government spending is fully funded by tax revenue and overall the budget outcome has a neutral effect on the level of economic activity. • An expansionary stance of Fiscal Policy involves government spending exceeding tax revenue. • A contractionary Fiscal Policy occurs when government spending is lower than tax revenue. ____________________ WORLD TECHNOLOGIES ____________________ However, these definitions can be misleading because, even with no changes in spending or tax laws at all, cyclical fluctuations of the economy cause cyclical fluctuations of tax revenues and of some types of government spending, altering the deficit situation; these are not considered to be policy changes.

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  Economics

  A Contemporary Introduction

  • William A. McEachern(Author)
  • 2016(Publication Date)
  • Cengage Learning EMEA

    (Publisher)

  A more complex model of Fiscal Policy appears in the appendix to this chapter. Topics discussed in this chapter include: 25-1 Theory of Fiscal Policy Our macroeconomic model so far has viewed government as passive. But govern- ment purchases and transfer payments at all levels in the United States total more than $7.0 trillion a year, making government an important player in the economy. From highway construction to unemployment compensation to income taxes to federal defi- cits, Fiscal Policy affects the economy in myriad ways. We now move Fiscal Policy to center stage. As introduced in Chapter 3, Fiscal Policy refers to government purchases, transfer payments, taxes, and borrowing as they affect macroeconomic variables such as real GDP, employment, the price level, and economic growth. When economists study Fiscal Policy, they usually focus on the federal government, although governments at all levels affect the economy. 25-1a Fiscal Policy Tools The tools of Fiscal Policy sort into two broad categories: automatic stabilizers and dis- cretionary Fiscal Policy. Automatic stabilizers are revenue and spending programs in the federal budget that automatically adjust with the ups and downs of the economy to sta- bilize disposable income and, consequently, consumption and real GDP. For example, the federal income tax is an automatic stabilizer because (1) once adopted, it requires no congressional action to operate year after year, so it’s automatic, and (2) it reduces the drop in disposable income during recessions and reduces the jump in disposable income during expansions, so it’s a stabilizer, a smoother. Discretionary Fiscal Policy, on the other hand, requires the deliberate manipulation of government purchases, transfer payments, and taxes to promote macroeconomic goals like full employment, price sta- bility, and economic growth. President Obama’s 2009 stimulus plan, which was enacted by Congress, is an example of discretionary Fiscal Policy.

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  Macroeconomics

  A Contemporary Introduction

  • William A. McEachern(Author)
  • 2016(Publication Date)
  • Cengage Learning EMEA

    (Publisher)

  A more complex model of Fiscal Policy appears in the appendix to this chapter. Topics discussed in this chapter include: 11-1 Theory of Fiscal Policy Our macroeconomic model so far has viewed government as passive. But govern- ment purchases and transfer payments at all levels in the United States total more than $7.0 trillion a year, making government an important player in the economy. From highway construction to unemployment compensation to income taxes to federal defi- cits, Fiscal Policy affects the economy in myriad ways. We now move Fiscal Policy to center stage. As introduced in Chapter 3, Fiscal Policy refers to government purchases, transfer payments, taxes, and borrowing as they affect macroeconomic variables such as real GDP, employment, the price level, and economic growth. When economists study Fiscal Policy, they usually focus on the federal government, although governments at all levels affect the economy. 11-1a Fiscal Policy Tools The tools of Fiscal Policy sort into two broad categories: automatic stabilizers and dis- cretionary Fiscal Policy. Automatic stabilizers are revenue and spending programs in the federal budget that automatically adjust with the ups and downs of the economy to sta- bilize disposable income and, consequently, consumption and real GDP. For example, the federal income tax is an automatic stabilizer because (1) once adopted, it requires no congressional action to operate year after year, so it’s automatic, and (2) it reduces the drop in disposable income during recessions and reduces the jump in disposable income during expansions, so it’s a stabilizer, a smoother. Discretionary Fiscal Policy, on the other hand, requires the deliberate manipulation of government purchases, transfer payments, and taxes to promote macroeconomic goals like full employment, price sta- bility, and economic growth. President Obama’s 2009 stimulus plan, which was enacted by Congress, is an example of discretionary Fiscal Policy.

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  Economics, Politics and Budgets

  The Political Economy of Fiscal Consolidations in Europe

  • C. Mulas-Granados(Author)
  • 2006(Publication Date)
  • Palgrave Macmillan

    (Publisher)

  2 Economics, Politics and Fiscal Policy 17 ‘A crude distinction between economics and politics would be that economics is concerned with expanding the pie while politics is about distributing it.’ Alesina and Rodrik, 1994: 465 Any analysis of the use that governments make of fiscal policies would lack clarity if it were not understood in the broader context of economic policy- making. One cannot start discussing the variation of Fiscal Policy and fiscal adjustment strategies along time and among different European countries, without first outlining the main characteristics of this macroeconomic tool. The purpose of this chapter is to provide the reader with the general frame- work in which fiscal policies in general, and fiscal adjustments in particular, have to be understood. In the first section, Fiscal Policy will be placed in the broader context of macroeconomic policy as one of the most important policy instruments available to governments that want to intervene in the economy. The second section, once the nature of fiscal policies has been understood, will present empirical evidence on the strong variation of fiscal outcomes during the last forty years in the European Union. Once the macroeconomics of Fiscal Policy have been understood, and after a first consideration of the history of fiscal policies has been presented, I will then elaborate on different hypotheses that could explain the observed variability in Fiscal Policy outcomes, and strategies of fiscal adjustment. Section three of this chapter will present economic determinants of fiscal policies, section four will discuss the political factors and section five will group them in five hypotheses within a circular theoretical framework. Finally, the conclusion will summarize the main arguments of the chapter. 2.1 Governments and economic policy Traditionally, governments have seen how to predict and how to smooth economic fluctuations, how to increase employment and how to reduce C.

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  Macroeconomic Analysis and Policy

  A Systematic Approach

  • Joshua E Greene(Author)
  • 2017(Publication Date)
  • WSPC

    (Publisher)

  Chapter 7

  Fiscal Policy

  Fiscal Policy involves the use of the government budget to attain macroeconomic objectives. Although the overall budget balance — total revenues and grants minus total expenditures and net lending — has the greatest impact on macroeconomic activity, many specific elements of the budget, including the composition of revenues, expenditures, and financing, also have important macroeconomic implications.

  1. The amount of revenue and expenditure relative to the size of the economy — the ratios of revenue and expenditure to GDP — help determine the scope of the government sector in the economy. Small island economies typically have relatively high ratios of revenue to GDP, normally 35 percent or larger, because a small economy is funding a broad array of government functions. Revenue and expenditure ratios can also be high in advanced economies — above 40 percent of GDP in a number of European OECD countries, although ratios are lower in the United States, Japan, and the Republic of Korea. In many developing countries, revenue can be 15 percent of GDP or less, with expenditure a bit higher. In middle income countries, revenues average 25–30 percent of GDP, again with expenditure somewhat higher. Table 7.1 presents data for general government revenue in several groups of countries for the years 2013 through 2016, while Table 7.2 does the same for expenditure.

  TABLE 7.1 GENERAL GOVERNMENT REVENUE IN SELECTED GROUPS OF COUNTRIES, IN PERCENT OF GDP

  Source: IMF (2016), Fiscal Monitor, October 2016, Statistical Tables A5 and A13. The drop in revenue for Middle East, North Africa, and Pakistan in 2014 and 2015 reflects the plunge in world petroleum prices.

  TABLE 7.2 GENERAL GOVERNMENT EXPENDITURE IN SELECTED GROUPS OF COUNTRIES, IN PERCENT OF GDP

  Source: IMF (2016), Fiscal Monitor, October 2016, Statistical Tables A6 and A14.

  2. The composition of revenues can affect the economy’s productivity, because taxing income imposes a “double taxation” of savings (savings come from after-tax income, while the earnings from savings — interest, dividends, and capital gains — are also taxed) unless income from capital is tax-exempt, as in Singapore. Relying more on consumption taxes, such as value-added and sales taxes, avoids this problem, although consumption taxes typically fall more heavily on low- and middle-income households, which generally save less of their incomes than the rich. Complex revenue systems, with many exemptions and exclusions, can distort behavior, driving taxpayers into less-efficient but tax-sheltered investments and shifting purchases from high-tax to low-tax or tax-exempt goods and services.

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  Public Sector Economics

  Made Simple

  • D. I. Trotman-Dickenson(Author)
  • 2014(Publication Date)
  • Made Simple

    (Publisher)

  The fiscal, monetary and incomes and prices policies of each country have international repercussions. Summary Fiscal Policy to Stabilise an Economy 247 Hirsch, F., and Goldthorpe, ed., Political Economy of Inflation, Harvard University Press, Cambridge, USA, 1978. Hockley, G. C , Public Finance, Routledge and Kegan Paul, London, 1979. Llewellyn, D. T., et al, The Framework of UK Monetary Policy, Heinemann Educa-tional Books, London, 1982. Musgrave, R. Α., and Musgrave, P. B., Public Finance in Theory and Practice, McGraw-Hill, New York, 1980. Peacock, A. T., The Economic Analysis of Government and Related Themes, Martin Robertson, Oxford, 1979. Prest, A. R., and Barr, Ν. Α., Public Finance in Theory and Practice, Weidenfeld and Nicolson, London, 1979. Sandford, C. T., The Economics of Public Finance, Pergamon Press, Oxford, 1981. Samuelson, P. Α., Economics, McGraw-Hill, London, 1980. Tylecote, Α., The Cause of the Present Inflation, The Macmillan Press Ltd., 1981. Exercises 1 Consider why there is a need for a Fiscal Policy to stabilise an economy. 2 Suggest why fiscal measures may fail to stimulate economic activity. 3 Explain how income tax has a built-in stabiliser. 4 Outline a Fiscal Policy to achieve an expansionary effect and the problems involved. 5 Suggest how a prices and incomes policy can be used to reinforce Fiscal Policy to create a contractionary effect. 6 Distinguish between the two types of inflation and suggest appropriate fiscal measures to deal with each one. 7 Why does stagflation present such a serious problem for the chancellor of the exchequer? 8 Outline a policy for controlling the aggregate demand at a time of economic boom. 9 Why are capital taxes of little use in the controlling of an economy. 10 'Monetary policy and Fiscal Policy are not alternative but complementary policies.' Comment on this statement. 19 Full Employment Fiscal Policy to maintain full employment is equivalent to a policy to prevent unemployment.

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  Principles of Economics 3e

  • Steven A. Greenlaw, David Shapiro, Daniel MacDonald(Authors)
  • 2022(Publication Date)
  • Openstax

    (Publisher)

  30.4 Using Fiscal Policy to Fight Recession, Unemployment, and Inflation Expansionary Fiscal Policy increases the level of aggregate demand, either through increases in government spending or through reductions in taxes. Expansionary Fiscal Policy is most appropriate when an economy is in recession and producing below its potential GDP. Contractionary Fiscal Policy decreases the level of aggregate demand, either through cuts in government spending or increases in taxes. Contractionary Fiscal Policy is most appropriate when an economy is producing above its potential GDP. 30.5 Automatic Stabilizers Fiscal Policy is conducted both through discretionary Fiscal Policy, which occurs when the government enacts taxation or spending changes in response to economic events, or through automatic stabilizers, which are taxing and spending mechanisms that, by their design, shift in response to economic events without any further legislation. The standardized employment budget is the calculation of what the budget deficit or budget surplus would have been in a given year if the economy had been producing at its potential GDP in that year. Many economists and politicians criticize the use of Fiscal Policy for a variety of reasons, including concerns over time lags, the impact on interest rates, and the inherently political nature of Fiscal Policy. We cover the critique of Fiscal Policy in the next module. 30.6 Practical Problems with Discretionary Fiscal Policy Because Fiscal Policy affects the quantity of money that the government borrows in financial capital markets, it not only affects aggregate demand—it can also affect interest rates. If an expansionary Fiscal Policy also causes higher interest rates, then firms and households are discouraged from borrowing and spending, reducing aggregate demand in a situation called crowding out.

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  Applied Intermediate Macroeconomics

  • Kevin D. Hoover(Author)
  • 2011(Publication Date)
  • Cambridge University Press

    (Publisher)

  His defense was the reasonable one that, as circumstances change, the right policy surely changes. That is just the point: consumers, workers, and firms are well aware that circumstances change and that whenever they have changed in the past, Fiscal Policy has also changed. Tax cuts are not time-consistent (see Chapter 16, section 16.5.2). The younger George Bush successfully pushed Congress to cut estate taxes. He preferred that the tax cut be permanent, but in fact Congress explicitly limited it to ten years. And President Obama and a Democratic Congress chose not to extend the cuts, so that estate taxes return to their previous levels starting in 2011. State and Local Budgets Fiscal Policy is often described as if it involved only the Federal government. State and local governments account for about half of all government spend-ing in the United States. State and local governments do not typically con-duct countercyclical Fiscal Policy. One reason is that the states are so inter-connected that fiscal actions in one state would spill over into the other states and, as a result, may have little direct effect on employment in the originat-ing state. The same problem could, of course, occur for small countries with open economies – especially if, as many countries of the European Union now do, they share the same currency. State fiscal actions may nonetheless matter to the U.S. macroeconomy even if they are not used intentionally to smooth the business cycle. 696 Fiscal Policy Just as at the Federal level, state tax and transfer policies are part of the economy’s automatic Fiscal Policy. Unfortunately, they may often act as automatic destabilizers . When Federal expenditures outstrip revenues, the Federal government sells bonds to make up the difference. States are not in the same position. According to their constitutions, most states must – within some limits – balance their budgets.

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  Economics for Investment Decision Makers

  Micro, Macro, and International Economics

  • Christopher D. Piros, Jerald E. Pinto(Authors)
  • 2013(Publication Date)
  • Wiley

    (Publisher)

  4.1. Factors Influencing the Mix of Fiscal and Monetary Policy Although governments are concerned about stabilizing the level of aggregate demand at close to the full employment level, they are also concerned with the growth of potential output. To this end, encouraging private investment will be important. It may best be achieved by accommodative monetary policy with low interest rates and a tight Fiscal Policy to ensure free resources for a growing private sector. At other times, the lack of a good quality, trained workforce or perhaps a modern capital infrastructure will be seen as an impediment to growth; thus, an expansion in government spending in these areas may be seen as a high priority. If taxes are not raised to pay for this, then the fiscal stance will be expansionary. If a loose monetary policy is chosen to accompany this expansionary spending, then it is possible that inflation may be induced. Of course, it is an open question as to whether policy makers can judge the appropriate levels of interest rates or fiscal spending levels. Clearly, the mix of policies will be heavily influenced by the political context. A weak government may raise spending to accommodate the demands of competing vested interests (e.g., subsidies to particular sectors, such as agriculture), and thus a restrictive monetary policy may be needed to hold back the possibly inflationary growth in aggregate demand through raised interest rates and less credit availability. Both fiscal and monetary policies suffer from lack of precise knowledge of where the economy is today, because data appear initially subject to revision and with a time lag. However, Fiscal Policy suffers from two further issues with regard to its use in the short run. As we saw earlier, it is difficult to implement quickly because spending on capital projects takes time to plan, procure, and put into practice.

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  Demystifying Global Macroeconomics

  • John E. Marthinsen(Author)
  • 2020(Publication Date)
  • De Gruyter

    (Publisher)

  As a result of these three lags, the delay between when a fundamental change in economic activity occurs and fiscal policies to remedy them take full effect can last months or even years. By that time, the nation ’ s eco-nomic environment could completely change. Therefore, it is quite possible for a Fiscal Policy cure to turn into a Fiscal Policy toxin by the time it is passed and takes effect. For example, a government might impose contrac-tionary fiscal policies to fight rising inflation, but by the time they take ef-fect, the nation ’ s growth rate has already slowed and these contractionary policies accelerate the decline in economic activity — perhaps inducing a recession. Monetary Effects of Fiscal Policy Until now, we have discussed Fiscal Policy without regard to whether or not it affects a nation ’ s monetary base. This section explains, in brief, why fiscal Recognition Lag Implementation Lag Impact Lag Fundamental change in the economy Recognize the economic change Implement fiscal policies Fiscal policies take effect Figure 13.5: Lags in Fiscal Policy. 382 Chapter 13 Fiscal Policy policies do not affect a nation ’ s monetary base. The Rest of the Story section of this chapter provides a fuller explanation. In Chapter 9, “ Central Banks, ” we introduced Guideline #1 to help deter-mine transactions that cause changes in a nation ’ s monetary base. Guideline #1 states: A nation ’ s monetary base changes only when funds cross our imagi-nary horizontal line due to a change in the size of the central bank ’ s balance sheet. Typically, a central bank does this by purchasing or selling government securities or foreign currencies and, also, by increasing or decreasing dis-count loans to financial intermediaries (see Figure 13.6). When a central bank ’ s balance sheet rises, it is purchasing assets and pushing monetary base into the system.

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  Survey of Economics

  • Irvin Tucker(Author)
  • 2018(Publication Date)
  • Cengage Learning EMEA

    (Publisher)

  ANALYZE THE ISSUE 1. Refer to Exhibit 1 in the chapter on Fiscal Policy. Using demand-side and supply-side Fiscal Policy theories, explain how a tax cut could either increase or decrease the price level. 2. Using the Laffer curve discussed in the You’re the Economist box in the chapter on Fiscal Policy, explain how proponents could claim that the tax cut would increase tax revenues. Federal budget deficit projections (billions of dollars) – 400 0 – 100 – 200 – 500 – 700 – 800 – 900 – 1000 – 1100 – 600 – 300 2018 2019 2021 2020 2022 2023 –563 –1027 –689 –775 –879 –1057 Source: Congressional Budget Office, 10-Tear Budget Projections, June, 2017. CBO’s Baseline Budget Projections, by Category , https://www.cbo.gov/about/products/budget-economic-data#3; http:// www.whitehouse.gov/OMB/budget/overview, Summary Table 5.1. Copyright 2019 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. 380 PART 3 • The Macroeconomy and Fiscal Policy 17–1c The Rise and Fall of Federal Budget Surpluses and Deficits Here we will examine in more detail recent federal budget surpluses and deficits. Spend-ing caps combined with tax increases and a growing high-employment economy driven by technological advances, such as the Internet, transformed federal budget deficits into surpluses during the late 1990s. Exhibit 3(a) shows federal expenditures and tax revenues expressed as a percentage of GDP. The difference between these two curves represents the federal deficit or surplus, also expressed as a percentage of GDP.

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