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Lecture 141 Macroeconomic Analysis 2003 Fiscal Policy 1: Tax and Spending Multipliers Refer: Public Finance excel file from the hm-treasury.co.uk.

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Presentation on theme: "Lecture 141 Macroeconomic Analysis 2003 Fiscal Policy 1: Tax and Spending Multipliers Refer: Public Finance excel file from the hm-treasury.co.uk."— Presentation transcript:

1 Lecture 141 Macroeconomic Analysis 2003 Fiscal Policy 1: Tax and Spending Multipliers Refer: Public Finance excel file from the hm-treasury.co.uk

2 Lecture 142 Objectives and Instruments of the Fiscal Policy Objectives –Stabilisation –Redistribution –Growth –Public services Pure public goods Semi-public goods Instruments –Tax: How high should it be? –Spending: how should it be allocated –Debt: how can it be stabilised

3 Lecture 143 Fiscal Policy with the IS-LM Model: Keynesian Model Y1Y1 Y2Y2 i1i1 i2i2 IS1 IS2 LM o Keynes assumes that Investment is not that sensitive to the interest rate. LM is flat because high liquidity preference.

4 Lecture 144 AD1 Yr YN Pr Pf ADf AS: Fine tuning LAS Fiscal Policy to Bring Economy from Recession to Recovery Fiscal Instruments Tax cuts More spending Higher public borrowing o Under employment to Full Employment A B c Overheating LM: IS: PhPh

5 Lecture 145

6 6

7 7 How much should be the tax rate be to maximise the government revenue ? t1 t2 R-max R1 R-max Higher tax causes Tax avoidance Tax evasion Smuggling Optimal tax Rate

8 Lecture 148 A Simple Laffer Curve Model:A Numerical Example

9 Lecture 149 LS0 LS1 L0 L1 w w(1+t) 0 Higher Labour Income Tax Reduces Labour Supply

10 Lecture 1410 r r(1+tr) K1 K0 Higher Tax rate on Capital Income (interest) Reduces Capital Accumulation 0 Higher tax rate discourages private Investment

11 Lecture 1411 How much should a government tax and spend and how should tax revenue and government expenditure behave over the cycle? G T=T(Y) T-G=0 T-G<0 T-G>0 Surplus Y T Benefit Cost Tax, Spending Costs Benefits

12 Lecture 1412

13 Lecture 1413

14 Lecture 1414 £million England Scotland Wales Northern Ireland Total identifiable expenditure Non-identifiable expenditure Total expenditure on services £ per head England Scotland Wales Northern Ireland Total identifiable expenditure Non-identifiable expenditure Total expenditure on services Source: Public Expenditure Statistical Analyses , table 8.1 How much are People Getting from the Government on Average?

15 Lecture 1415 EducationCulture, Health andSocialCentralTotal media and person al securi tyAdmin sport service s North East North West Yorkshire and Humberside East Midlands West Midlands South West Eastern London South East Total of all England Source: Public Expenditure Statistical Analyses , table 8.12b Predominance of Social Security and Health Expenses in Public Spending

16 Lecture 1416

17 Lecture 1417

18 Lecture 1418 Balance budget multiplier: Spirit for Public Speding

19 Lecture 1419 Automatic Stabiliser: Cyclical Fine Tuning of the Economy

20 Lecture 1420 Comparison Between the Lump-Sum Transfer and Automatic Stabiliser The economy now responds less to changes in autonomous spending, Some increase in income is taxed away. Multiplier in automatic Stabiliser case is less than in the lump-sum tax case. Output varies less than in the Lump-sum tax case. Therefore the fiscal policy is called an automatic stabiliser.

21 Lecture 1421

22 Lecture 1422 Budget Deficit and Debt

23 Lecture 1423 Sustainable Debt: Condition on growth rate of Output and Interest rates

24 Lecture 1424 Inflation Tax: Seigniorage Inflation rate Revenue From the Inflation tax * R*

25 Lecture 1425 Exercises How high should be the tax revenue? Balance budget multiplier Automatic stabiliser Sustainable debt Major sources of tax revenue Major headings for public spending Impact of taxes on labour supply, capital accumulation and growth


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