Fiscal Policy

Classical 

• Competition is good
• In the long-run, the economy will balance at or near full employment
• Invisible Hand - no government intervention 
• Trickle Down Effect - help rich first, then everybody else

Keynesian 

• Competition is flawed
• In the long-run, we are all dead
• The economy is not always at or near full-employment 

Fiscal Policy 

• Changes in the expenditures or tax revenues of the federal government 
• 2 Tools of Fiscal Policy:
• Taxes - Government can increase or decrease
• Spending - Government can increase or decrease
• Enacted to promote our nation's economic goals: full employment, price stability, economic growth
• If Taxes Increase, Spending Increases; vice versa

Deficits, Surpluses, Debts

• Balanced Budget
• Revenue = Expenditures
• Budget Deficit
• Revenue < Expenditures
• Budget Surplus
• Revenues > Expeditures
• Government Debt:
• (Sum of all deficits - Sum of all surpluses)

• Government must borrow money when it runs a budget deficit
• Government borrows from
• Individuals
• Corporations
• Financial Institutions
• Foreign Entities or Foreign Governments 

Fiscal Policy Two Options

• Discretionary Fiscal Policy (action) 
• Expansionary fiscal policy - think deficit
• Contractionary fiscal policy - think surplus
• Non-Discretionary Fiscal Policy (no action)

Discretionary and Automatic Fiscal Policies

Discretionary:

• Increasing or decreasing government spending and/or taxes in order to return the economy to full employment
• Policy involves makers doing fiscal policy in response to an economic problem

Automatic: 

• Unemployment compensation and marginal tax rates are examples of automatic policies that help mitigate the effects of recession and inflation
• Automatic fiscal policy takes place without policy makers having to respond to current economic problems

Contractionary and Expansionary Fiscal Policy

• Contractionary Fiscal Policy - policy designed to decrease aggregate demand
• Strategy for controlling inflation

• Expansionary Fiscal Policy - policy designed to increase aggregate demand
• Strategy for increasing GDP, combating a recession, and reducing unemployment

Expansionary Fiscal Policy

• Recession is countered with expansionary policy
• increase government spending (G ↑)
• decrease taxes (T↓)

Contractionary Fiscal Policy 

• Inflation is countered with contractionary fiscal policy
• Decrease in government spending (G↓)
• Increase taxes (T↑)

Automatic or Built-In Stabilizers

• Anything that occurs without government regulation
• Anything that increases the government's budget deficit during a recession and increases its budget surplus during an inflation without requiring explicit action by policy makers

Automatic Stabilizers

1. Transfer payments 
2. Welfare checks
3. Food stamps
4. Unemployment checks
5. Corporate dividends
6. Social security
7. Veterans benefits 

Progressive Tax System:

• Average tax rate (tax revenue/GDP rises with GDP)

Proportional Tax System: 

• Average tax rate remains constant as GDP changes

Regressive Tax System:

• Average tax rate falls with GDP