Fiscal Policy

How does the Government Stabilize the Economy?

The Government has two different tool boxes it can use:

1. Fiscal Policy - Actions by Congress to stabilize the economy

• changes in the expenditures or tax revenues of the federal government 
• 2 tools of the Fiscal policy: 
• Taxes- government can increase or decrease taxes
• Spending- government can increase or decrease spending 
• Fiscal Policy is enacted to promote our nation's economic goals: full employment, price stability, economic growth

Deficits, Surpluses, and Debt

• Balanced budget
• Revenues = Expenditures
• Budget deficit
• Revenues < Expenditures 
• Budget surplus
• Revenues > Expenditures 
• 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)

Three types of Taxes 

• Progressive Taxes - takes a larger percent of income from high-income groups (takes more from rich people) Ex: Current Federal Income Tax System 
• Proportional Taxes (flat rate) - takes the same percent of income from all income groups.         Ex: 20% flat income tax on all income groups
• Regressive Taxes - takes larger percentage from low-income groups (takes more from poor people) Ex: Sales tax; any consumption tax

Contractionary Fiscal Policy (The BRAKE)

Laws that reduce inflation, decrease GDP

(Close a Inflationary Gap)

• Decrease Government Spending 
• Tax Increases 
• Combinations of the Two

Expansionary Fiscal Policy (The GAS)

Laws that reduce unemployment and increase GDP (Close a Recessionary Gap)

• Increase Government Spending
• Decrease Taxes on consumers

How much should the Government Spend?

Automatic or Built-In Stabilizers

• Anything that increases the government's budget deficit during a  recession and increases its budget surplus during inflation without requiring explicit action by policymakers

1. Transfer Payments

• Welfare checks 
• Food Stamps
• Unemployment checks 
• Corporate dividends 
• Social Security 
• Veteran's benefits