Economic - Review 3

Economic - Review 3 - Miller Review (13-17) Chapter 13:...

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Miller Review – (13-17) Chapter 13: Define fiscal policy. Was this the definition of discretionary fiscal policy or automatic stabilizers? What are automatic stabilizers and how do they work in correcting a recession? Inflation? If so, why do we need discretionary fiscal policy? Fiscal policy: the discretionary changing of government expenditures or taxes to achieve national economic goals, such as high employment with price stability. Discretionary: A fiscal policy achieved through government intervention Automatic stabilizers: Special provisions of certain federal programs that cause changes in desired aggregate expenditures without the action of Congress and the president. Examples are income taxes and unemployment compensation. Explain a recessionary gap. Illustrate it using the AD and AS curves as well as the Keynesian cross (perspective – see appendix to chapter 13). What measures would you take to eliminate an inflationary gap? An inflationary gap? Inflationary gap: the gap that exist whenever equilibrium real GDP per year is greater than full-employment real GDP Fiscal policy can decrease AD (Price level decrease) Recessionary gap: the gap that exist whenever equilibrium real GDP per year is less than full-employment real GDP Fiscal policy can increase AD (Price level increase) What factors could offset fiscal policy? List, explain and graph how this would happen. Indirect Crowding Out (Sometimes government pays for things, but does not collect the same amount of taxes for it. So it needs to borrow. So an increase in government spending without raising taxes creates additional government borrowing from private sector or foreign residents) - Induced Interest Rate Changes Government needs to sell bonds in the bond market. If the bond is in equilibrium, the government needs to offer more – higher interest rate. When the federal government’s finances increased spending by additional borrowing, it will push interest rates up. A rise in government spending, holding taxes constant tends to crowd out private spending, dampening the positive effect of increased government spending on AD. This is called the crowding out effect . A decrease in planned investment or planned consumption in private sector. - The Firm’s Investment Decision An increase in the interest rate that firms have to pay extra from their debt will discourage many firms from investing. For consumers, increase in interest rate causes their monthly payments to go up. - Graphical Analysis (pg. 324) Direct Expenditure Offsets Actions on the part of the private sector in spending income that offset government fiscal policy actions. Any increase in government spending in an area that competes with the private sector will have some direct expenditure offset.
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What is the Ricardian Equivalence Theorem? The proposition that an increase in the government budget deficit has no effect on
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Economic - Review 3 - Miller Review (13-17) Chapter 13:...

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