Copyright  2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver Slides prepared by Muni Perumal, University of Canberra, Australia 9-1 Fiscal Policy 2012

Copyright  2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver Slides prepared by Muni Perumal, University of Canberra, Australia 9-2 Learning Objectives Discuss the implications of and complications associated with fiscal policy within the aggregate demand–aggregate supply framework

Copyright  2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver Slides prepared by Muni Perumal, University of Canberra, Australia 9-3 Federal Government Finance Federal expenditures – large expenditure on social security and welfare – specific purpose grants Federal revenues – Personal income tax – Company income tax – Indirect and other taxes  GST  excise tax

Copyright  2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver Slides prepared by Muni Perumal, University of Canberra, Australia 9-4 Discretionary Fiscal Policy The deliberate manipulation of taxes and spending by government for the purpose of altering real GDP and employment, controlling inflation and stimulating economic growth Not all fiscal policy is deliberate, a range of automatic stabilisers are discussed later

Copyright  2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver Slides prepared by Muni Perumal, University of Canberra, Australia 9-5 Expansionary Fiscal Policy Increased government spending or lower taxes or increased transfer payments (social security payments) to reduce the effects of recession, i.e. boost GDP and reduce unemployment

Copyright  2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver Slides prepared by Muni Perumal, University of Canberra, Australia 9-6 Expansionary Fiscal Policy AS L S QpQp Price level Real gross domestic product AS 1 AD 2 Q1Q1 AD 1 P1P1 Q2Q2 P2P2

Copyright  2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver Slides prepared by Muni Perumal, University of Canberra, Australia 9-7 Contractionary Fiscal Policy Decreased government spending or higher taxes or a reduction in transfer payments in order to reduce inflation during a boom

Copyright  2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver Slides prepared by Muni Perumal, University of Canberra, Australia 9-8 Contractionary Fiscal Policy AS L S QpQp Price level Real gross domestic product AS 1 AD 1 Q1Q1 AD 2 P1P1 P2P2

Copyright  2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver Slides prepared by Muni Perumal, University of Canberra, Australia 9-9 Non-Discretionary Fiscal Policy Built-in or automatic stabilisers that operate without requiring explicit action by policy-makers, they are the result of a progressive income taxes and a social security system During recessions: Tend to increase government deficits (or reduce surplus) through lower taxes and higher welfare payments During inflationary periods: Tend to increase government surpluses (or reduce deficits) through higher taxes and lower welfare payments

Copyright  2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver Slides prepared by Muni Perumal, University of Canberra, Australia 9-10 Automatic or Built-in Stabilisers Tax receipts: Increase as real GDP increases, so the economy slows Transfers: Decrease as real GDP increases, but increase when the economy slows so GDP and AD increase. Do not fully correct the economy, only reduces the severity of fluctuations Useful when economy is operating around full employment Can cause problems: Fiscal Drag

Copyright  2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver Slides prepared by Muni Perumal, University of Canberra, Australia 5-11 Automatic or Built-in Stabilisers Level of business activity Time Flatten out the fluctuations in the business cycle, but do not eliminate them completely

Copyright  2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver Slides prepared by Muni Perumal, University of Canberra, Australia 9-12 Problems with Fiscal Policy in Practice Problems of timing – Recognition lags – Administrative lags – Operational lags Political problems – Other economic goals, economic growth complements and conflicts with other policies – Expansionary bias, often not used stimulate rather than slow the economy – The political cycle may accentuate the business cycle.

Copyright  2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver Slides prepared by Muni Perumal, University of Canberra, Australia 9-13 Fiscal Policy and Aggregate Supply Fiscal policy, especially tax changes, affects not only aggregate demand but can affect aggregate supply Tax changes in the form of incentives to businesses and individuals as well as government spending in infrastructure can lead to a rightward shift in the AS in addition to increasing AD, providing a further stimulus to the economy in terms of lower prices and higher GDP

Copyright  2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver Slides prepared by Muni Perumal, University of Canberra, Australia 9-14 Supply-Side Effect of Fiscal Policy AS LS QpQp Price level Real gross domestic product AS 1 AD 2 Q1Q1 AD 1 P1P1 AS 2 Q2Q2 P2P2 P 3 = Q3Q3