Chapter 13 Flashcards
Define fiscal policy.
The discretionary changing of government expenditures or taxes to achieve national economic goals.
What are some goals that fiscal policy aims to achieve?
High employment, price stability, and economic growth.
What is the recessionary gap?
The amount by which the current level of real GDP falls short of the economy’s potential production if it were operating on the long-run aggregate supply curve.
What is the definition of the inflationary gap?
The inflationary gap was defined as the amount by which the short-run equilibrium level of real GDP exceeds the long-run equilibrium level as given by the long-run aggregate supply curve.
When the government decides to spend more (expansionary fiscal policy), the aggregate demand curve shifts to the ______.
Right.
When the government decides to reduce spending, the aggregate demand curve typically shifts to the _____.
Left
Holding all other things constant an increase in taxes will cause a ___ in aggregate demand, because ___________.
Decrease
It can reduce consumption, investment, net exports or a combination of all three.
How will a decrease in taxes affect the short-run aggregate supply curve?
If taxes are decreased the short-run aggregate supply curve tends to shift to the right.
If an increase in taxes is levied by the government, how will the short-run aggregate supply curve be affected?
The curve will tend to shift to the left.
Under what circumstances would the government have an incentive to increase taxes in order to create positive fiscal policy changes?
If the equilibrium point between the short-run aggregate supply and the aggregate demand is to the right of the long-run aggregate supply a recessionary gap exists period. Levying additional taxes could help bring the aggregate demand curve to the left.
Under what circumstance would the government have an incentive to decrease taxes?
When the equilibrium point between the aggregate demand and short-run aggregate supply is to the left of the long-run aggregate supply curve. Decreasing taxes can help shift the aggregate demand curve to the right
True or False
An increase in government spending without raising taxes creates additional government borrowing from the private sector.
True
True or False
when the government finances increased spending by additional borrowing it will push interest rates up. This will induce firms to cut back on planned investment spending.
True
What is deficit spending?
A rise in government spending while holding taxes constant.
What is the effect of deficit spending?
It tends to crowd out private spending, dampening the positive effect of increased government spending on aggregate demand.
What is the crowding-out effect?
The tendency of expansionary fiscal policy to cause a decrease in planned investment or planned consumption in the private sector. It normally results due to the rise in interest rates.
True or False
The crowding-out effect has no impact on the position of the aggregate demand curve.
False.
The crowding-out effect dilutes the effect of expansionary policy which causes the anticipated shift in the demand curve to be less than what was planned. In other words, you still have a recessionary gap.
What is the Ricardian equivalence theorem?
The proposition that an increase in the government budget deficit has no effect on aggregate demand.
A person’s consumption and savings decisions realistically depend on what two effects?
Current income and anticipated future income.
What is the permanent income hypothesis?
A statement that proposes that an individual’s current flow of consumption depends on the individual’s permanent or anticipated lifetime income.
According to the permanent income hypothesis, why does short-term stimulus-based economic activity rarely have any effect?
Because instead of spending the tax cut or rebate typically people saved most of the funds or use them to make payments on outstanding debts.
What is a direct expenditure offset?
Actions on the part of the private sector in spending income that offset government fiscal policy actions.
If there is a full direct expenditure offset the government spending multiplier is_____.
Zero
What is the marginal tax rate?
The rate applied to the last or highest bracket of taxable income.
The relationship between tax rates and tax revenues is sometimes called _____.
The Laffer curve.
What is supply-side economics?
The theory that creating incentives for individuals and firms to increase productivity will cause the aggregate supply curve to shift outward.
According to a supply-side economist, what is the effect of increasing the marginal tax rate?
Increases in marginal tax rates cause people to work less and decreases and marginal tax rates induce workers to work more.
What is recognition time lag?
The time required to gather information about the current state of the economy.
What is the action time lag?
The time between recognizing an economic problem and implementing policy to solve it.
What is the effect time lag?
The time that elapses between the implementation of a policy and the results of that policy.
What is the impact fiscal multiplier?
the actual intermediate multiplier effect of a fiscal policy action after taking into consideration direct fiscal offsets and another short-term crowding out of private spending.
What is the cumulative fiscal multiplier?
The multiplier effect of a fiscal policy action applies to the long run. After all influences on equilibrium real GDP have it taken into account.
What are some examples of “automatic stabilizers?”
- The progressive tax system
2. Unemployment benefits
