Chapter 13 Flashcards
Explain the difference between contractionary fiscal policy and expansionary fiscal policy
-fiscal policy affects the economy by increasing or decreasing aggregate demand
How does government spending in fiscal policy affect the aggregate demand
It directly affects G
-an increase in government spending will generally shift the demand curve out to the right and a decrease will shift it in to the left
How does tax policy in fiscal policy affect the aggregate demand
- directly affects C
- consumption depends on disposable income
How does an increase in tax rate affect individuals and how will it shift the aggregate demand curve
Workers will take home less disposable income and we can expect them to reduce their consumption. As a result the aggregate demand curve shifts to the left
What happens to individuals if the tax rate decreases and how will it shift aggregate demand
Workers will take home more money and consume more. The aggregate demand curve will curve out to the right
What is expansionary fiscal policy
It describes the overall effect of decisions about government spending and taxation intended to increase aggregate demand
These shift the aggregate demand curve to the right
What is contractionary fiscal policy
When the overall effect of decisions about government spending and taxation intended to decrease aggregate demand
-cause the demand curve to shift in to the left
Explain how fiscal policy can counteract short-run
When the economy is sluggish,the government can conduct expansionary fiscal policy to stimulate demand which leads to a faster recovery
If the economy is overheating, the government can undertake contractionary fiscal policy to reduce aggregate demand which returns the economy closer to the long-run equilibrium
Identify the time lags that complicate the formulation of fiscal policy and define time lags
Time lags mean that sometimes a fiscal policy choice is too late to do any good. There are information, formulation, and implementation lags
What are information lags
How long it takes to get the right information about the overall health of the economy
What are formulation lags
Getting everyone to agree on the right policy
What are implementation lags
How long it takes fiscal policy to have an effect on the economy
How can stabilizers automatically adjust fiscal policy as the economy changes
To get around time lags, automatic stabilizers can affect fiscal policy without specific action from policy makers. These can automatically stimulate or slow the economy
What affect do automatic increased taxes have
The have a contractionary effect by slightly reducing spending and aggregate demand
What do automatically reduced taxes have
An expansionary effect, encouraging spending and increasing aggregate demand
How can government spending act as an automatic stabilizer
When the economy is booming, fewer people are eligible for employment insurance benefits and welfare programs so government spending falls and aggregate demand is reduced having a contractionary effect
In a recession, more people are eligible for these programs and spending on them rises, increasing aggregate demand and having an expansionary effect
What is Ricardian equivalence
It predicts that if governments cut taxes but not public spending, people will recognize that the government will have to borrow money to cover the financial shortfall
The theory says that tax cuts will have no impact on spending: people will continue to save rather than spend, consumption will not decrease, and the tax cut will be unsuccessful in changing aggregate demand
Describe how revenue and spending determine a government budget and how the budget deficit occurs
A deficit occurs when the government spends more than it collects in revenue. They increase during recessions
A surplus occurs when the government collects more than it spends
Explain the difference between the government deficit and debt
Deficits occur when annual spending is more than annual revenue
The budget deficit tells us how much the government borrows each year
The debt tells us the total that the government has borrowed and not yet paid back over time
(The cumulative sum of all deficits and surpluses)
What are treasury securities and why do people value them
The government borrows money from others by selling treasury securities which are debt-financing arrangements made by the Canadian government with obligations to pay back money over varying lengths of time
People buy treasuries as financial investments because the are seen as safe investments
Identify the benefits and costs of government debt
Allowing the government to run a deficit permits the government to undertake expansionary fiscal policy
The costs are that interest needs to be paid, the government might not spend the money efficiently, and high deficits may affect interest rates and reduce investment
What is the best fiscal policy for a country suffering from high inflation
Contractionary
