Exam 2

Question 1

How are politics and the economy connected?

Answer 1

Political decisions can effect how the economy performs. A healthy economy can make politicians look good/bad.

Question 2

The tools politicians can use to effect the economy:

Answer 2

Regulatory authority, tax expenditures, tax abatements, etc.

Question 3

The goals of economic policy:

Answer 3

economic growth, full employment, low inflation, and enough investment to foster development and innovation.

Question 4

What’s tricky about connecting politics and the economy?

Answer 4

It gets a little tricky for politicians to come up with the right balance; enough economic growth but not too much so as to make inflation rise.

Question 5

The market and how it functions:

Answer 5

The market is a device for coordinating an economy by prices determined by relatively free competitive transactions among willing buyers and sellers guided by self interest.

Question 6

Key Market Concepts:

Answer 6

• Voluntary exchange
• Little or no top-down command
• Government must not define (get involved in)
• The substance of the economic product
• The specific array of goals and services produced and rendered
• Their quality or distribution

Question 7

What is the Business Cycle:

Answer 7

The recurring and fluctuating levels of economic activity that an economy experiences over a long period of time.

Question 8

How is the Business Cycle used?

Answer 8

This is used in the argument of whether to limit government or expand it.

Question 9

Competing perspectives on the role of government in the economy:

Answer 9

One perspective is that the government should leave their hands out of a struggling economy because it will work itself out and another perspective is that they should stimulate it to strengthen it.

Question 10

How is economic performance measured?

Answer 10

• Output- Can be measured by GDP • Income • Saving • Investment • Worker productivity • Employment • Inflation

Question 11

How can you tell if the economy is doing well or not?

Answer 11

We can tell how it’s doing by using the Philips Curve (This looks at the relationship between unemployment and inflation) and Misery Index (This is the unemployment rate added to the inflation rate.)

Question 12

How can we apply the measures of the economy and evaluate the US’ economic performance over time?

Answer 12

The measures allow us to see how inflation and unemployment have been related to each other and what makes them balanced.

Question 13

What is Fiscal Policy?

Answer 13

A government’s policies on taxing and spending.

Question 14

What is the demand-sides to Fiscal Policy?

Answer 14

It stimulates consumer demand by putting more money into consumers’ hands in order to improve the economy. Has been successful in much of the world since WWII.

Question 15

What is the supply-side to Fiscal Policy?

Answer 15

Supply side economics accepts the idea of an economy that will correct its problems if left alone. It tries to improve the economy by providing big tax cuts to businesses and wealthy individuals (the supply side). These cuts encourage investment, which then creates jobs, so the effect will be felt throughout the economy and help it to grow. This approach argued that government intervention, especially through high taxes, was the major barrier to full participation of labor and capital in the marketplace and that measured to reduce that role would in the (not very) long run produce rapid economic growth. Supply-side economics is sometimes called trickle-down economics.

Question 16

Where does demand-side of fiscal policy come from?

Answer 16

Associated with Keynesianism.

Question 17

Where does the supply-side of fiscal policy come from?

Answer 17

Starting with President Ronald Reagan in 1980

Question 18

What are the tools of Fiscal policy (with historical illustration of their use)?

Answer 18

Taxing and Spending. The Economic Recovery Tax Act of 1981- over four years, reduced the average income tax of Americans by 23 percent, with most benefits going to those in higher income brackets, presumably those most likely to invest. The assumption was that as people pay less in taxes they would be more likely to invest. This act also produced a massive increase in the federal deficit.

Question 19

Which office or organization makes fiscal policies?

Answer 19

The President, Congress, and The Office of Management and Budget. The Council of Economic Advisors helps the president determine what the agenda should look like.

Question 20

What is Monetary policy?

Answer 20

Associated with interest rates and the availability of credit. Its the process by which the Federal Reserve controls the supply of money, often targeting a rate of interest for the purpose of promoting economic growth and stability.

Question 21

Where does Monetary Policy come from?

Answer 21

The primary focus of earlier times began with monetarists, people who focused their attention on the supply of money and the speed at which it changed hands in the economy.

Question 22

What’s the point of Monetary Policy?

Answer 22

To stimulate the economy. By increasing the supply of money, interest rates are reduced, which created incentives for corporations to make major capital purchases. If loanable funds become available at a low rate, would be consumers may be more likely to borrow money when interest rates are lower rather than later on when interest rates may become more expensive.

Question 23

What is the role of money (in Monitory Policy) and what are the costs of lendable funds?

Answer 23

If loanable funds become available at an attractive rate, and if would-be consumers believe that interest rates are more likely to go up going down later, that perceived lower-cost of money might just be enough to get them to borrow and make the investment. Money influences the availability of lendable funds. The availability and cost of lendable funds. (Short term and long term) The focus can be on the short term or the long term.

Question 24

Who are the major institutional actors and monetary policymaking?

Answer 24

The Federal Reserve & The Open Market Committee.

Question 25

1st of three traditional tools of monetary policy (with historical illustration of their use):

Answer 25

The Federal Funds Rate-This is the rate that institutions charge for over night (or very short term) loans to other institutions. This is necessary because sometimes banks don’t have the reserves for what a person is asking to borrow as a loan. The bank then borrows it from another bank for very short periods because it’s bad business to tell a big client that you don’t have the money. It will send them to another bank. The current FFR is between 0% and 0.25%. Federal Funds rate is used the most for influence.

Question 26

2nd of Three traditional tools of monetary policy (with historical illustration of their use):

Answer 26

The Reserve Requirement- How much cash is on hand to meet the current demand. The Federal Reserves System requires a certain amount of assets on hand to meet demands. Generally this is between 8%-14%. The required amount of assets to be held in reserve gets no interest. (Unless the bank chooses to have more on hand then required. Then they get interest on the amount that is above the requirement.) Banks want this amount to be as low as possible. When this amount goes up, banks lend less and interest rates go up.

Question 27

3rd of three traditional tools of monetary policy (with historical illustration of their use):

Answer 27

Discount Rate- The rate the fed charges financial institutions to borrow from it. Historically, the DR is about .5% higher than the FFR. (Because the Fed wants you to go through the private sector to borrow.) The higher the DR, the less people want to borrow and the lower it is, the more people will want to borrow from it.

Question 28

What was the Federal Reserve’s extraordinary intervention to address the financial crisis in the second half of the decade of 2000?

Answer 28

Quantitative easing (the introduction of new money into the money supply by a central bank.) They bailed out banks to gain economic stability and keep the finance system working as well as avoiding a collapse

Question 29

What caused The Great Recession and what were it’s economic effects?

Answer 29

?

Question 30

What stabilized the Economy?

Answer 30

The Troubled Asset Relief Program (TARP) The TARP gives the U.S. Treasury purchasing power of $700 billion to buy up mortgage-backed securities (MBS) from institutions across the country, in an attempt to create liquidity and un-seize the money markets. This was done to protect banks from failing.

Question 31

The American Recovery and Reinvestment Act of 2009 (AKA “The Stimulus Package”)

Answer 31

This was growth Oriented. $228 billion devoted to tax relief. “Making work pay”

The Immediate goals of the Recovery & Reinvestment Act were to:

• Create new jobs and save existing ones
• Spur economic activity and invest in long-term growth
• Foster unprecedented levels of accountability and transparency in government spending

The Recovery Act intended to achieve those goals by providing $787 billion in:

• Tax cuts and benefits for millions of working families and businesses (Earned Income Tax Credit, EITC). This credit was for low wage workers, working at least 32 hrs/week.
• Funding for entitlement programs, such as unemployment benefits
• Funding for federal contracts, grants and loans ($105 Billion for Infrastructure and Renewable energy)

Question 32

Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010

Answer 32

A 2-year extension of tax cuts for all taxpayers. If the tax cuts expired as planned, the $239 billion would have helped pay off the federal deficit.

This also extended federal unemployment for 13 months. This costs $56 billion however, if people don’t have money to spend, the demand for goods and services is decreased.

This provided a 1-year reduction in Social Security tax for employers. (and cost the government $111 billion)

Patched the Alternative Minimum Tax (est., cost: $136 Billion)

Question 33

The Budget Control Act of 2011

Answer 33

Has to do with Deficits and Debt

The Budget Control act created a 12 member joint select committee on Deficit Regulation and they were required to draft debt reduction legislation specifying cuts by Nov 23. If they were to fail, the scheduled 1.2 trillion increase in the debt ceiling would trigger automatic sequestration mandating cuts equally between defense and non-defence spending

Question 34

The American taxpayer Relief Act (ATRA)-

Answer 34

Has to do with Defcits and Debts

The Act centers on a partial resolution to the United States fiscal cliff by addressing the expiration of certain provisions of the Bush tax cuts”

It addressed:
The Bush Tax Cuts by extending them to taxpayers unless you are a single filer making $400,000 or more, or for joint fillers making $450,000 or more. .

The ATRA also raised the estate take from 35% to 40% for estates valued at $5 million or more.

The ATRA eliminated the temporary 2-year break on paying the full Social Security tax. Now employees are paying into SS at the old rate, which was 2 percentage pints higher than the break rate.

Question 35

The ongoing debate over sequestration and the debt limit, and it’s politics Sequestration debate

Answer 35

Congress was informed that they would exceed the debt ceiling. Normally, it would just be raised but Tea Party republican’s wanted to push fiscal responsibility. If the ceiling wasn’t raised, and the Joint Select Commitee couldn’t figure out how to lower the nation’s debt, sequestration would occur and equally cut domestic and defense programs.

Eventually, the sequestration went into effect and is going to reduce demand because many people will have fewer dollars to spend due to a reduction of hours imposed on their jobs.

Question 36

The Federal Budget Deficit: putting its magnitude in historical perspective, its causes, whether or not it constitutes a problem, the tough choices of deficit reduction, and the federal budgets relationship to the national debt:

Answer 36

• *Putting its magnitude in historical perspective**: This is the most amount of debt the US has ever had. It is also the worst recession since the Great Depression.
• *Its causes:** More spending, fewer/less tax dollars collected, and a poor economy. The 2008 financial crisis triggered these things.

Is this a problem? On a year-by-year basis, a budget deficit is not really a concern. The U.S. government is like the world’s best customer; it buys a lot, and since its economy has been one of the world’s strongest, it has always paid the debt back.
It’s only when the debt-to-GDP ratio approaches or exceeds 100% that owners of the debt become concerned. That’s because they might wonder whether the U.S will be able to make good on its debt. They also become concerned when the U.S. hints it might default on its debt, as in 2013.

The tough choices of deficit reduction, Pg. 95- The tough choices are deciding how to reduce the deficit. Do you cut discretionary and defense programs and if so, which ones? Do you raise taxes and if so, for whom and what?

The Federal Budget Deficit’s relationship to the National Debt- The budget deficit is the difference between the amount of money the US government spends and what it makes. The National Debt is amount of money the US government has borrowed in order to cover federal budget deficits and needs to pay back.

Question 37

The US National debt: it’s changing size, who holds it, whether or not it constitutes a problem, and what can be done about it (considering both the economic and political implications of the options)

Answer 37

It’s changing size- Pg. 81- The OBM estimates that the publicly held debt as a percentage of the GDP will continue to grow in years to come.

Who holds it, Pg. 81- The Federal government has increasingly relied on foreign institutions (i.e. Foreign central banks) and individuals to finance its debt. Historically, the federal government had not been nearly as reliant on foreign capital to finance its debt.

Whether or not it constitutes a problem Pg. 90- It could be a problem if the government is unable to repay its debts and if international investors lose interest in buying our interest-bearing securities.

What can be done about it- Reduce the deficit by increasing taxes and reducing other expenditures.

Much of our domestically held debt is held by the public.

Question 38

The United States’ reliance on foreign trade:

Answer 38

Free-trade expands economic output well beyond what a domestic economy could produce for its nation’s citizens. Nations trading freely enjoy mutual benefit. Consumers benefit because they have greater variety of goods which to choose. Producers benefit because they can specialize in those areas in which they are favorably positioned to secure a profitable share of the international market (for example, because of abundant natural resources, low cost of production, or a pool of skilled labor).

Question 39

The factors affecting US exports and imports

Answer 39

When our trading partners economies experience strong growth, the increased personal income generated by that growth provides financial resources for individuals and businesses to buy more US exports. Conversely, when foreign economy sag, the associated lower demand depresses US export sales along with other sales. When the US economy grows a healthy rate, American consumers and businesses are more inclined to increase their spending, benefiting both imports and domestically produced goods.

Question 40

The US Current Account balance (balance of payments)

Answer 40

While the current account deficit reached a record level of $803 Billion in 2006, it fell dramatically and subsequent years as a result of the financial collapse and the deep recession it endangered. As the economy began to recover, the deficit began to grow again, reaching $473 billion in 2011, approximately 3% of the GDP. In the past, with the US economy performing comparatively strong, foreign investors were willing to finance the United States’ balance of payments deficit by increasing their holdings of US assets. Foreign central banks, particularly those in China and Japan, were willing to increase their purchase of dollars to depress the value of the currency and hold down the price of their exports to the United States. The big question facing United States is how much longer they will continue to do so, allowing Americans to consume more than they produce domestically and, on the flipside, to spend more than they earn.

Question 41

The consequences (both negative and positive) of a negative trade balance

Answer 41

Positive: We are able to consume more than we produce and potentially buy things at a cheaper price. It gives consumers choice. Makes greater investments possible in the US because we are relying upon the savings outside of the US.

Negative: a deficit has been reported and growing in the United States for the past few decades, which has some economists worried. This means that large amounts of the U.S. dollar are being held by foreign nations, which may decide to sell at any time. A large increase in dollar sales can drive the value of the currency down, making it more costly to purchase imports

Question 42

Options to reduce the United States’ negative trade balance (and their implications)

Answer 42

We can also shift from foreign goods to domestic goods to solve the trade deficit. If you reduced demand, you could reduce the deficit. (also not a good idea.) We could lower the value of the dollar by printing more money. We could go into foreign markets to sell the dollar and weaken the dollar. (Also a bad idea.) We should turn to protectionism.

Question 43

Free trade and Protectionism

Answer 43

Forms Protectionism Can Take: These things protect Jobs. We have protected Steel internationally. The consequences of protecting these jobs are increased costs to consumers on steel. It also invites trade retaliation. Other countries can protect products we need therefor force us to pay higher prices.

• Tariffs - taxes on imported goods.
• Quotas - Limitations on imported goods.
• Tax surcharges on US consumers - Tax US buyers on imports.
• Domestic Content Requirements - insist that a certain % if components come from US manufactures on certain foreign imports.
• Subsidies - Tax breaks for targeted US Industries.

Free Trade- Free trade is a policy by which a government does not discriminate against imports or interfere with exports by applying tariffs (to imports) or subsidies (to exports) or quotas. According to the law of comparative advantage, the policy permits trading partners mutual gains from trade of goods and services.

Question 44

Jobs and the Global Economy

Answer 44

One of the biggest consequences of the US being an active participant in the global economy, we have outsources many manufacturing jobs.

Question 45

What is Regulation and why does the government use it?

Answer 45

The government regulates in order to protect the public good from private interest.

3 Definitions of Regulation:

1) An array of public policies explicitly designed to govern economic activity and it’s consequences at the level of the industry, for, or individual unit of activity.
2) Government restriction of individual choice to keep conduct from transcending acceptable bounds
3) Government policy to get individual or organization to act as in certain ways.

Why Gov’t Regulates:
• Perceive the Market/Prevent Market Failure
• Control Externalities/ Neighborhood Effects
• Control risks to individual
• Ensure equality service provision at a fair price
• Benefit regulated parties

Question 46

Problem perception and regulatory policy

Answer 46

Mandatory policy has taken different turns over time, and those turns have largely been a response to changing perceptions of what constitutes public problems.

Answer 47

Populism- origin in the plain states. Concerned about encroachment of manufacturing onto their lands of agriculture. Depend on movement of agriculture to move along

Progressives- origin of east and mid-west and far west coast. The champion of public interests over private corporate interests.

Is a type of government regulation that sets prices or conditions on entry of firms into an industry. Economic regulation also includes the regulation of financial firms.

Deregulation: Pg 136. Beginning in the 1970s, the government turned to deregulation, reduction or elimination of government-imposed restrictions.

It’s impetus- it was motivated, in part, by the belief that market competition could increase efficiencies and lower prices, thereby contributing to a reduction in inflation rates. It was also driven by political concerns that the regulated interest had in effect, captured major economic regulatory agencies.

Application to public areas- Airlines, ground transportation (such as trucking companies. Railroads were only partially deregulated), finance, telecommunications, and electricity were deregulated allowing for market competition and opportunities for new companies to emerge.

Consequences- Employees of these industries became vulnerable as the competition could put their companies out of business. In the case of Airlines, it allowed for increased flight availability and a reduction in fares for most customers.

Challenges- States are often responsible for licensing practitioners in certain professions and occupations serving the public; they have the primary responsibility for regulating public building safety, insurance, and electrical power; and they have secondary responsibility in regulating banking and environmental pollution. At the same time, federal law has greatly limited or reshaped the states’ regulatory power in such areas as trucking, natural gas, and telephone services.

Question 48

The extent of income inequality in the US and whether is has changed overtime

Answer 48

Income inequality has steadily increased since the late 1960s, and the steepest increases have occurred since the early 1980s

Question 49

The effects of taxation policy on income inequality in the US:

Answer 49

Since the 1980s, tax policy has lost much of its progressivity. In 1981 the top marginal tax rate was 70%; by 1988 and falling to 28.5%. Even though it increased to 39.6% during the Clinton presidency, the Bush tax cuts brought it down to 35%, one half of the pre-Reagan levels.

Question 50

The “middle class squeeze.” Myth or reality?

Answer 50

Reality. Those who remain in the middle class have seen their share of market income shrink and have benefited the least from changes in federal tax policy. Furthermore, they have experienced the greatest insecurity in retaining health insurance and paying rising premium cost and keeping private pension coverage. While some benefited initially from rising home prices, and supported consumption by drawing equity from their homes, the collapse of the real estate market left many underwater on their mortgages and fearful of losing their homes.

Question 51

David Brooks’ perspective on the “wrong inequality.”

Answer 51

We are focusing on the wrong inequality. We should not focus on financial inequality, but “blue” and “red” inequality