7.1 Introducing Government Flashcards
What is Fiscal Policy?
Fiscal policy
The use of the government’s tax and spending powers to achieve government objectives.
What assumption do we make about government purchases, G, with respect to the level of national income?
In our macro model we make the simple assumption that the level of government purchases, G, is autonomous with respect to the level of national income. That is, we assume that G does not automatically change just because GDP changes. We then view any change in G as a result of a government policy decision.
What are taxes effect on disposable income?
Taxes reduce disposable income relative to national income (GDP).
how do transfer payments affect disposable income?
transfer payments raise disposable income relative to national income.
In relation to taxes and transfer payments, how do we calculate the effect of government policy on desired consumption expenditure?
For the purpose of calculating the effect of government policy on desired consumption expenditure, it is the net effect of the two that matters.
What is Net tax revenue?
Net tax revenue
Total tax revenue minus transfer payments, denoted T.
Why is net tax revenue positive?
Because transfer payments are smaller than total tax revenues, net tax revenues are positive.
In our macro model, what assumptions do we make about the relationship between net tax revenue and level of national income?
In our macro model, we assume that net tax revenues vary directly with the level of national income.
What formula do we use for Government net tax revenues?
We will use the following simple form for government net tax revenues, T:
T=tY
where Y is GDP and t is the net tax rate—the increase in net tax revenue generated when GDP increases by $1.
What is net tax rate?
Net tax rate
The increase in net tax revenue generated when national income rises by one dollar.
Is t the rate on one specific type of tax?
t is not the rate on one specific type of tax. It is the amount by which total government tax revenues (net of transfers) change when national income changes.
How do government transfers and taxes affect the disposible income formula?
In the presence of government taxes and transfers, there is an important distinction between…
In the presence of government taxes and transfers, there is an important distinction between national income, Y, and disposable income, Y_D
What is the budget balance?
The budget balance is the difference between total government revenue and total government expenditure; it equals net tax revenue minus government purchases,
T - G
What is a budget surplus?
Budget surplus
Any excess of current revenue over current expenditure.
What is abudget deficit?
When purchases exceed net revenues, the government has a budget deficit.
What is a balanced budget?
When the two amounts are equal, the government has a balanced budget.
What must the government do when it has a budget deficit?
When the government has a budget deficit, it must borrow the excess of spending over revenues. It does this by issuing additional government debt in the form of bonds or Treasury bills.
What does the government do when it has a budget surplus?
When the government has a budget surplus, it uses the excess revenue to buy back its outstanding debt.
What is an imporant distinction when considering the overall contribution of government purchases to desired aggregate expenditure?
When measuring the overall contribution of government purchases to desired aggregate expenditure, all levels of government must be included.
How do we get the government budget balance?
The AE function that reflects government spending
How will an increase in government spending of 5B will add…
An increase in spending by $5 billion will add directly to aggregate demand by this amount and, through the multiplier effect, lead to an eventual change in national income equal to $5 billion times the simple multiplier.
Using the model from this chapter, explain the effect on GDP from a tax rebate equal in value to $5 billion.
A tax rebate equal in value to $5 billion will add
A reduction in personal income taxes of $5 billion will add directly to disposable income, only a fraction of which (determined by the MPC) will then be spent. So the initial direct increase in aggregate demand will be $5 billion times the MPC.
What is the function for z, the marginal propensity to spend?
Can you offer one reason why the minister of finance might choose to emphasize increases in government spending rather than tax reductions in a federal budget in an effort to increase national income?
The minister of finance might chose to emphasize increases in government spending in an effort to increase national income because
The eventual effect on national income (after the multiplier effect) will be smaller after a tax reduction than in the case of the increase in spending. This basic logic partly explains why the federal government emphasized increases in spending rather than tax reductions.
How do you find t_0 with the given information?
What is the interpretation of t1 and t0?
When there is a consistant tax rate, does higher levels of government spending increase or decrease the level of national savings at each income level?
It makes it higher
Example of what a budget balence graph looks like
Keep in mind that the level of government expenditure is going to be subtracted from the atonomous variable, now added.
What direction does an increase in government expenditure shift the The Budget Balence Function?
Down.
