FiscalPolicyCh.11.pdf - Fiscal Policy Fiscal Policy-Fiscal...

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Fiscal Policy Fiscal Policy: -Fiscal Policy→ deliberate, discretionary change in government spending or taxes to achieve certain national economic goals (increase output and alter prices) -An act of Congress -Such as: Lower unemployment, stabilize price, growth, change in balance of payments -Discretionary and Non-D (automatic stabilizers) -Can be expansionary or contractionary -Both classical and Keynesian models Classical Model: -Expansionary Fiscal Policy→ If there is a recession—economy performing below full capacity—raise government spending, decrease taxes, or a combination. -Result→ increase in GDP and increase in prices -There is an increase in AD but it will eventually go back because it’s fully flexible -If the economy is operating on the LRAS & Govt engages in expansionary fiscal policy→ the only result is an increase in prices -Overall→ Expansionary fiscal policy can increase GDP if not on LRAS--but in either case there is an increase in the PL -Role of taxes→ Impact AD--C, I, Xn: all decrease if taxes increase -Contractionary Fiscal Policy→ if demand pull inflation AD is above equilibrium -Options: increase in taxes, decrease in government spending -Result: Price level and GDP decrease -Best time to engage in contractionary policy is when there is an expansionary gap (inflation) -Best time to engage in expansionary policy is when there is a contractionary gap (recession) Possible Offsets to Fiscal Policy: -Crowding Out→ means that change in G or t will impact other elements of AD -Direct Effect→ Government pays for something--now people don’t need to buy it so C declines -Indirect Effect→ Interest rate effect→ impacts both investment and net exports
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