09 30 2014 PUP Exam 2 Notes Goals of Economic Policy Concepts Inflation Economic Growth Unemployment Balance of Trade Deficit Debt Economic Policy Why economic policy Usually the primary concern among citizens If the economy is bad o Less tax money comes in o Less ability to address other types of policy Goal 1 of economic policy Control Inflation Prices of product has changed over time o The rate at which the prices of goods and services is rising Measured by Consumer Price Index CPI o A basket of all the goods and services purchased by an average household during the year Causes Consequences of inflation Causes of inflation o Amount of money in the economy for the goods and services this year vs last year o Federal reserve how much money in the economy o More dollars among the same amount of goods Consequence of Inflation o Things are more expensive Wages tend to be sticky respond slower Fixed income o Good for borrowers bad for lenders Eats away the cost Goal 2 Promote Economic Growth Usually measured by gross domestic product GDP o All the goods and services produced in a given year o Private consumption investment government expenditure net exports GDP C I G NX o GDP per capita per person Negative Economic Growth Recession o A fall in GDP for 2 consecutive quarters 6 months o Recession caused by 2008 financial crisis lasted about 18 months Depression o A decline in real GDP exceeding 10 or o A recession lasting more than 2 years Goal 3 Maintain High Employment Unemployed o Out of work AND are actively seeking work last 2 months o Labor Force employed unemployed o Unemployment Rate unemployed workers labor force x 100 Shortcoming of Unemployment Rate Discouraged rate Part time workers Underemployed workers Labor force participation rates for different groups Goal 4 Maintain Positive Balance of Trade Balance of trade o Exports imports 0 Export more than import o Controversial Protectionists American competitiveness unfair trade Protect industries Free Trade Comparative advantage higher economic growth Goal 5 Managing Deficits and Debts Budget Deficit o The govt spends more than it takes in from taxes during a given year o Issue T bonds to cover the difference o The accumulated amount of budget deficits over time Debt Policy Tools Two tools to achieve these goals Monetary Policy o The tools of the federal reserve controlling how much money is in the economy Buying and selling T bonds o Fiscal Policy The sum of all taxing and spending policies Fiscal Policy Concepts 09 30 2014 Fiscal Policy o Keynesianism o Supply side economics Budget process Entitlement Process Discretionary spending Capital Gains Tax Income Tax Fiscal Policy in the coming year Deficits Surplus o Government spending Taxes o Government Spending Taxes Unbalanced Budgets Reasons The sum of all taxing and spending policies Setting the budget determines what taxing and spending will be like o Lawmakers like to provide goods but do not like to raise taxes to pay for them o Can use the budget as tool to control the macro economy Approach 1 Keynesianism Government programs can stimulate the economy GDP C I G NX o Increase G and increase GDP Counter Cyclical o Sluggish economy economic stimulus Run a deficit increase spending or decrease taxes o Growing Economy create budget surplus Pay down the debt reduce inflation Examples of Keynesianism Republicans Democrats don t fit into Keynesian non Keynesianism boxes George W Bush Barak Obama o Post 9 11 tax cuts to stimulate the economy o 2008 housing crisis starts massive spending o American recovery and Reinvestment Act 2009 800 billion dollars most Keynesians think we needed 2 trillion o about 2 3 macroeconomists agree Approach 2 Supply Side Economics Govt spending does little to affect economy in short run o Timing crowd out Debt Limit Instead fiscal policy should focus on long run growth o Low taxes incentive to invest o Low Taxes particularly for the rich who create jobs Austerity Reagonomics trickle down economics The maximum amount the US govt is allowed to borrow o Debt limit in theory bind our hands so we spend less o Consequence default on loans Problem framing o Dem congress should pay for the things they bought o Rep reign in govt spending Fall 2013 govt shutdown o Cost 23 24 billion nothing achieved o In March debt ceiling increased Republican Party and Debt ceiling Tension in Republican Party o Tea party debt violates values and compromises long term growth o Traditional short term growth more important Last years debt limit battle o In house all dem voted to extend 28 Republicans did o More in Senate o House Majority leader Eric Cantor loses primary in VA Budget Process Assumptions and planning Agency budget Development OMB budget review Congressional Review Budget Execution Control Entitlement Spending Mandatory spending programs anyone who applies and matches the legislated criteria has a legal right to automatically receive benefits o Social security o Medicare o Medicaid o Unemployment compensation o Food Stamps 2 3 of the federal budget Discretionary Spending Spending in the govt budget that is optional Bills have been authorized but every year congress decides how much money they will spend on the program Tax Structures Tax structure is defined in relation to a persons total income o Total income wage income capital gains Capital gains investment income Regressive Taxes o If those with higher total income pay a smaller percentage of their incomes in taxes Sales tax Medicare social security capital gains Progressive Taxes o You earn more you pay more Earned income o Lesson income equality Effective tax Rate The average rate at which income is actually taxed o Effective tax rate taxes paid total income Tax law is complex o Statutory tax rates Different rates for different types of income o Deductions exemptions etc o The effective rate that tells you how much was paid as a percent of an income o Some money earned wage income rich guy US income Tax Income Taxes o Taxes paid on the taxable income from labor in a given year Progressive Taxes in theory o But what do people actually end up paying Capital Gains Tax Variables in making tax policy o See page 245 in text Monetary Policy Concepts 09 30 2014 The federal reserve system The Federal Reserve System The fed Originally a lender of last resort to prevent bank panics Today also conducts monetary policy o Controls the amount of money in the economy Fed Structure Board of Governors o 7 member 14 yr
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