Topic 10- Fiscal Policy Flashcards
Macroeconomic objectives
- Economic Growth
- Full employment
- A low and stable rate of inflation
- Sutainable growth
- Redistribution of income
- Balance of payments equilibrium on current account
- Fiscal balance
Macroeconomic objectives:
- Economic Growth
- Full employment
- Objective of developing and emerging countries as this is seen as the means of reducing absolute poverty&^living standards.
- A situation in which the labour market is in equilibrium (does not mean there is no unemployment e.g frictional unemployment, seasonal unemployment, structural unemployment and voluntary unemployment)
Macroeconomic objectives:
- A low and stable rate of inflation
- Sustainable growth
- high inflation> lower investment&would face a loss of competitiveness that could have adverse effects on its balance of payments on current account
- ability to meet the needs of the current generation without compromising the needs of the future generation. Rapid economic growth is unsustainable (e.g. in China) in terms of the environment&of natural resources.
Macroeconomic objective:
- Redistribution of income
- Balance of payments equilibrium on current account
- Fiscal balance
- -Developed countries use a mixture of progressive taxes and means-tested benefits to redistribute income from rich to poor.
- -Countries try to ensure that current account surpluses and deficits are kept to a minimum
- Positive fiscal balance: Gov has a fiscal surplus (spending less than receiving from tax revenues)
Fiscal policy
Decisions made by the government on its expenditure, taxation and borrowing to influence the economy
Features of fiscal policy:
Automatic stabilisers
What occurs in a recession
What occurs when there is rapid economic growth
Automatic stabilisers:
Changes in gov expenditure and tax revenue which occur independently of any specific action by the government
-unemployment increases>gov spends more on unemployment benefits
-Progressive tax system>workers pay more tax as a proportion of their incomes&gov expenditure on unemployment benefits falls.
Features of fiscal policy:
Discretionary fiscal policy
Discretionary fiscal policy:
Involves deliberate changes in public expenditure and taxation by the government in attempt to influence the level of economic activity
Deflationary (or tight) fiscal policy
-This involves decreasing AD.
-Therefore the gov will cut government spending (G) / ^ taxes. Higher taxes>lower consumer spending (C)
Tight fiscal policy will tend to cause an improvement in the government budget deficit.
Expansionary (or loose) fiscal policy
- This involves increasing AD.
- Therefore the gov will increase spending (G) and / or cut taxes (T)>increase consumers spending (more disposable income) (C)
- This will tend worsen the government budget deficit and the government will need to increase borrowing.
Criticisms of fiscal policy (evaluation)
- Inaccurate information
- Time lags
- Crowding out
- Higher borrowing costs
- Gov may have poor information about the state of the economy and struggle to have the best information about what the economy needs.
- Time lags. To increase government spending will take time. It could take several months for a government decision to filter through into the economy and actually affect AD. By then it may be too late.
- Crowding out. Expansionary fp(higher government spending) will not increase AD, as higher gov spending will crowd out the private sector because gov have to borrow from the private sector > lower funds for private investment.
- Higher borrowing costs. Under certain conditions, expansionary fiscal policy can lead to higher bond yields, increasing the cost of debt repayments.
Evaluation of fiscal policy
The success of fiscal policy will depend on several factors, such as
- Size of Multiplier
- state of economy
- Other factors in the economy
- Bond yields
- depends on size of multiplier. If multiplier effect is large> changes in gov spending will have a bigger effect on overall demand.
- state of the economy. Fiscal policy is most effective in a deep recession (monetary policy is insufficient to boost d). In a deep recession (liquidity trap). Higher government spending will not cause crowding out because the private sector saving has increased substantially.
- It depends on other factors in the economy e.g if gov use expansionary fiscal policy, but interest rates rise&the global economy is in recession> insufficient to boost demand.
- Bond yields. If there is concern over the state of government finances, the government may not be able to borrow to finance fiscal policy.
Evaluation of fiscal policy
The success of fiscal policy will depend on several factors, such as
- Size of Multiplier
- state of economy
- Other factors in the economy
- Bond yields
Criticisms of fiscal policy (evaluation)
- Inaccurate information
- Time lags
- Crowding out
- Higher borrowing costs
