1. Fiscal Policy, Deficits, and Debt
Ch 17

2. Fiscal Policy and Potential Output
Potential Output- economy’s maximum sustainable output in the long run (full employment output)
Recession gap- output below potential in short run
Expansionary gap- output exceeding potential (Black Friday)

3. Rise of Fiscal Policy
Classical economists- Laissez-faire, hands off, Adam Smith
Annual balanced budget
The Great Depression and Keynes
The Multiplier Effect- any change in fiscal policy affects aggregate demand by more than from original change in spending or taxes
Increase in government spending, or cutting taxes increases aggregate demand

4. Rise of Fiscal Policy WWII spending puled us out of the depression
Employment Act of 1946
Promote full employment and price stability
2009 Stimulus Package designed to increase aggregate supply

5. Fiscal Policy Tools
Discretionary fiscal Policy- requires congressional and presidential action to change government spending or taxes
Automatic Stabilizers- taxing and spending programs, adjust to ups and downs to stabilize disposable income(post tax income)
Unemployment insurance
Welfare payments
Progressive income tax

6. Problems with discretionary fiscal policy
Stagflation- decrease in aggregate supply causing increase in inflation and unemployment
Fiscal Policy and Aggregate Supply

7. Problem of Lags Recognition lag Decision-Making Lag Implementation Lag
Effectiveness Lag

8. Great Recession Dec 2007 US economy Entered Recession
Housing Bubble Burst
Foreclosures
Less loans

10. Fiscal Policy During the Great Recession
TARP bill enacted to stimulate economy in early 2008
$168 Billion
$600 one time tax rebate
Most saved rebate and didn’t spend it
2nd Quarter 190,000 jobs lost
3rd Q 334,000 jobs lost

11. Recovery Act of 2009 Obama elected president
Recovery Act of 2009 sighed in February
$787 billion stimulus package
37% tax benefits
28% funded entitlements (such as Medicaid)
35% Grants contracts and loans (”shovel ready” infrastructure projects)
Aimed at aggregate Supply