UB ECO 181 - Chapter 9 - Fiscal Policy (12 pages)

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Chapter 9 - Fiscal Policy



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Chapter 9 - Fiscal Policy

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Pages:
12
School:
University at Buffalo-SUNY
Course:
Eco 181 - Intro To Macroeconomics
Intro To Macroeconomics Documents

Unformatted text preview:

Macroeconomic Stabilization Policy Government s attempt to change AD demand and thus the level of real GDP unemployment and price level 1 Discretionary 2 Automatic stabilzer action must be taken N0 action needed Fiscal Policy Monetary Policy Done by president and congress Done by the fed reserve Goals 1 Steady sustainable growth long run 2 Low unemployment 4 6 3 Low inflation 2 Expansionary Policy Contractionary Policy Intentional increase in AD Intentional decrease in AD Should be done if Y Less than YN U UN Inflation is should be done if Y YN U UN Inflation is Policy is much more complicated when we have 3 Discretionary Fiscal Policy Tools 1 Changes in Govt spending such as spending on infrastructure defense edu Health care will Directly affect AD 2 Changes in taxes will affect disposable income which will in turn affect consumption and thus AD 3 Changes in transfer payments will also affect income and affect consumption and AD For example voting to extend unemployment Compensation beyond 6 months Expansionary Fiscal An increase in G and or TP or a decrease in taxes Will Shift AD out Contractionary Fiscal An decrease in G and or TP or a increase in Taxes will shift AD inward Obama s Fiscal Policy 2010 737Billion Recovery Act Fiscal policy has three affects I Direct Expenditure effect If Government spending changes AD changes as much as the change in G If Taxes or Transfer Payments change AD changes less since people don t spend all of the extra income II Multiplier Effect Increases in Government spending or other types of spending will lead to increases in RGDP that are greater than the initial Change in Spending Due to additional increases in income and thus consumption If the government spend 100 B on planes from Boing Boeing revenue increases by 100 B This is distributed to Boeing s workers as wages and owners as profits or stock dividends This extra consumption causes increases in AD Increase in G by 100 shifts the AD curve out by 1 T to AD1 However the increase in Income causes C to increase which shifts the AD curve out more to AD2 The size of the additional shift is determined by the multiplier How big is the multiplier effect It depends on how much consumer s respond to changes in income Marginal propensity to consume MPC the fraction of extra income that households consume rather than save E g if MPC 0 8 and income rises 100 C rises 8 100 80 As C increases rise and C would rise MPC Change in C Change in RGDP Change in C MPC Change in RGDP Marginal Propensity to save MPS 1 MPC This process would continue with each additional increase in C getting smaller Thus above the initial increase in 100B causes C to increase by a total of 400 causing a total increase in Y of 500 Thus in this case the multiplier would be 5 Change in Y multiplier



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