1. Eco 200 – Principles of Macroeconomics
Chapter 12:Fiscal Policy

2. Fiscal Policy – Keynesian region

3. Fiscal policy – intermediate region

4. Fiscal policy – classical region

5. Multipliers Government spending multiplier = 1 / (MPS + MPI)
Lump-sum tax multiplier = (MPC-MPI) / (MPS + MPI)
Balanced-budget multiplier = effect of equal changes in G and T = 1

6. Government budget constraint
Government spending = taxes + change in government debt + change in government-issued money

7. Tax finance of government spending
Balanced-budget multiplier = 1
Offsetting effects:
Incentive effects may reduce labor supply and cause a reduction in AS
Laffer curve

8. Deficit financing of government spending
Ricardian equivalence:
Individuals may save more in response to higher expected future taxes
Crowding out:
Increased borrowing leads to higher interest rates; resulting in a reduction in I and C (discussed more extensively shortly)

9. Monetary expansion used to finance government spending
Due to autonomy of Fed, this is less likely to occur in the U.S. today.
If used, tends to be inflationary, resulting in a reduction in C.

10. Discretionary fiscal policy vs. automatic stabilizers
Discretionary fiscal policy: changes in government spending, taxes, and/or transfer payments to achieve a macroeconomic policy goal
Automatic stabilizers: automatic increase in transfers and tax reductions as income falls (the reverse holds when income rises)
Examples: unemployment compensation, income tax, welfare programs.
Automatic stabilizers reduce the value of the multiplier.

11. Tax structures
Proportional tax: Tax / income is constant as income rises
Progressive tax: Tax / income rises as income rises
Regressive tax: Tax / income declines as income rises

12. Deficits and debt
Deficit = G – T = amount by which government spending exceeds net taxes
Debt = total stock of outstanding government bonds
Deficit = a flow variable
Debt = a stock variable

13. Deficits, interest rates, and investment
Loanable funds model

14. Demand for loans

15. Supply of loans

16. Equilibrium

17. Increase in deficit

18. Costs of deficit
Crowding out: higher interest rates result in less investment
Higher deficit results in currency appreciation and a decline in net exports (X)
Interest payments – redistribution of income
Regressive?
Foreign debt holdings

19. Foreign fiscal policy
Share of GDP devoted to G is smaller in the U.S. than in most developed economies
Value-added taxes are commonly used in most other developed economies