Chapter 11 – Fiscal Policy Government purchases are part of aggregate demand, income transfers are not Income transfers : Payments to individuals for which no current goods or services are exchanged Fiscal policy : The use of government taxes and spending to alter macroeconomic outcomes The federal government can alter aggregate demand by: 1. Purchasing more or fewer goods and services 2. Raising or lowering taxes 3. Changing the level of income transfers Fiscal Stimulus : Tax cuts or spending hikes intended to increase (shift) aggregate demand Suppose the economy is experiencing a recessionary GDP gap of $400 billion From a Keynesian perspective, the solution is to get someone to spend more on goods and services AN increase in AD by $400 billion will achieve full employment only if AS curve is horizontal As long as the AS curve slopes upward, AD must increase by more than the size of the recessionary gap to achieve full employment AD shortfall : The amount of additional aggregate demand needed to achieve full employment
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