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ECON 203 > Topic 15- Fiscal Policy > Flashcards

Topic 15- Fiscal Policy Flashcards

1
Q

What is the main determinant of C (consumption)

A

disposable inclome (Yd)

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2
Q

what is disposable income

A

the income remaining to housheolds after they have paid taxes and revied government transfer payments

Yd= Y+ TR -T

and if we assume no transfer payments

Yd=Y-T

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3
Q

Consumption Function

A

consumption is a function of disposable income

C=C(Yd)

THIS IS A POSITIVE RELATIONSHIP!

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4
Q

Increase in disposable income means?

A

Increase in consumption function

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5
Q

C= co + c1Yd

A

co= autonomous consumption, what households consume if their disposable income is equal to zero

c1= marginal propensity to consume, the slope of the consumption function

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6
Q

What is MPC

A

the amount by which consumption spending changes when disposabel income changes

MPC= change in C/ Change in Yd

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7
Q

Can marginal propensity to consume MPC be greater than 1

A

NO!!! ALWAYS BETWEEN 0 AND 1

0<c1<1

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8
Q

consumption has both an autonomus component and a induced component

A

independant vbl
dependant vbl

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9
Q

What is net taxes?

A

Taxes- Transfer Payments

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10
Q

How does higher income (Y) affect consumption (C)

A

POSITIVE relationship, they both go up

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11
Q

How does higher taxes affect consumption

A

INVERSE RELATIONSHIP!! taxes go up then consumption goes down

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12
Q

autonomous spending

A

is independnat of Y, it is equal to
c0-c1T+I+G

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13
Q

y= 1/ (1-c1) * (c0-c1T+I+G)

A
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14
Q

In the Y formula, does a change in Taxes, c0, or Investment have the same impact as a change in Y?

A

YES! because all terms are multiplied by the same multiplier!

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15
Q

How does fiscal policy affect output and price level

A

throguh changes in govt spending and taxes

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16
Q

what is Expansionary fiscal policy used for

A

increasing employment

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17
Q

what are exxamples of expansionary fiscal policy

A

increasing govt spending (AD curve shifts to the right bc Gmoves up)

decreases individual income taxes, increasing disponable income (shifts AD curve riht bc consumption spending nicrease)

decreases business taxes (shifts AD right, because more investment)

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18
Q

what are two examples of contractionary fiscal policy

A

decreasing government spending (G lower means AD shift left)

increasing taxes (decreases disposable income, C and I both go down, AD shift left)

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19
Q

when would a government employ contractionary fiscal policy

A

just to decrease inflation/high price level

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20
Q

Why is fiscal policy less effective?

A

because getting the timing right is HARD!!! (getting approved from parliament is hard, and it takes time to increase govt spending too)

crowding out effect! (govt spending will decrease the supply of loanable funds - decrease the AD curve- and make higher interest rate)

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21
Q

IMPORTANT NOTE FOR THE FINALLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLLL

IF THE QUESTION ABOUT FISCAL/MONETARY POLICY SAYS THAT HOLDING ALL OTHER FACTORS CONSTANT!!!

A

IT MEANS THAT THERE IS NO CROWDING OUT EFFECT

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22
Q

What is dispobsable income

A

the money houses have left after they paid Taxes (T) and recieved transfer payments from government!

Yd= Y+ TR-T

if no transfer paymnets

Yd=Y-T

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23
Q

How are consumption and disposbale income related (2)

A

1) Disposable income is the main part of Consumption

and

2) C=C(YD) Consumption is a function of disposabel income (it is determine by it Disposable income!)

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24
Q

an increase in disposabe income?

A

increase consumption

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25
Q

A general consumption function

A

C=Co+C1Yd

Consumption= Autonomus consumpion+marginal propesnisty ot consume(Disposable income)

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26
Q

C=Co+C1(YD)

explain each

A

Consumption

Co: autonomous consumption [how much the ohsue will consume even when disposable income is equal to zero! NECESSITIES)

c1: MPC, the slope of consumption function (the amount of which consumption changes when disposable income changes)

c1-> change in consumption/change in disposable income

Yd= disposabel income

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27
Q

MPC formula

A

change in consumption/Change in disposable income

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28
Q

C1- non-autonomous or induced consumption component

A

component that depends on disposable income! produces the upward slope line because as disposable income increases, consumption increases too!

29
Q

IF disposable income increases

A

consumption will increase

30
Q

what happens when you sub in Yd formula for the Consumption function

A

Yd=Y-T

C=Co+C1(Yd)
C=Co+C1(Y-T)
C=Co+C1Y-C1T

CONSUMPTION CAN BE EXPRESSED AS A FUNCTION OF GDP AND TAXES!! NOT JUS DISPOSABLE INCOME1!!!!!

31
Q

C=Co+C1Y-C1T
MEANING

A

CONSUMPTION CAN BE EXPRESSED AS A FUNCTION OF GDP AND TAXES!! NOT JUS DISPOSABLE INCOME1!!!!!

32
Q

C=Co+C1Y-C1T

relation between consumption, gdp, and taxes

A

as gdp goes up, consumption will go up, BUT LESS THAN ONE FOR ONE

as taxes go up, consumption will decreases, BUT LESS THAT ONE FOR ONE

33
Q

What happens if you plug in new consumtpion function to Y=C+I+G (closed econ)

A

Y=C+I+G
Y=Co+CIY-C1T+I+G
Y(1-C1)=Co-C1T+I+G

Y= 1/(1-C1) *(Co-C1T +I+G)

THIS GIVES YOU FISCAL MULTIPLIER AND AUTONOMOUS SPENDING

34
Q

FISCAL MULTIPLIER

A

1/(1-C1)

35
Q

in the final formula for Y, what is fiscal multiplier, and waht is the autonomous spending

A

Y= 1/(1-c1) * (co-c1T+I+G)

Fiscal Mult Authonous spending

36
Q

Does I G and T depend on income

A

NO THESE ARE FIXED AMOUNTS!!!! AUTONOMOUS

37
Q

What is the restriction on the multiplier

A

MPC always has to be 0<MPC<1!!!

SO! 1/(1-c1) = 1/(1-MPC) RIGHT

AND IF MPC 0<C<1 , then 1/(1-c1) >1

38
Q

What does the fiscal multiplier final equation imply

A

Y= (1/1-MPC)*(C0-C1T+I+G)

any increase in G, I, or Autonoomous consumption, AND ANY DECREASE IN TAXES, will increase OUTPUT more than the amount of increase in G,I, OR AUTONOMOUS (MORE THAN 1 FOR 1)

39
Q

WHere does the multiplier effect even come from

A

Y= (1/1-MPC)*(Co+G+I+T)

Increase in G, will increase AD, which iwll increase production, which will increase income, which will increase consumption, which will increase AD…

40
Q

How large is total increase in Real GDP (Y) as a result of the intiatl increase in G?

A

1/1-MPC

41
Q

Tax multiplier

A

so this is a negative number because changes in taces and changes in real gdp move in opp direction

(more taxes, less real gdp)

-MPC/1-MPC

42
Q

AN INCREASE IN TAXES…

A

LOWERS SPEDNIN, INVESTMENT, AND GDP IN ECON

43
Q

AN INCIREASE IN GOVT SPENIDNG/PURCHASES

A

INCREASES INCOME SPENDING AND GDP

44
Q

so what has more impact, tax multiplier or fiscal mulitplier

A

FISCAL MULTIPLIER!!!

MPC/1-MPC < 1/1-MPC

45
Q

Why does fiscal multiplier have more impact than tax multiplier

A

increase in govt purchases affects Y DIRECTLY!!!the first round gdp changes in multiplier process are equal to this change in sepnding

change in taxation will affect income first, adn then spending, the first round gdp change in multiplier process will be equal to smaller change in spending

46
Q

A change in taxes affects income first and then spending. For example,
a tax cut will increase income, but not all of that income will be spent
(some of it is saved). The fraction of income that is spent is the MPC
times the income change. The first round GDP change in the multiplier
process will be equal to this smaller change in spending.

A

A change in taxes affects income first and then spending. For example,
a tax cut will increase income, but not all of that income will be spent
(some of it is saved). The fraction of income that is spent is the MPC
times the income change. The first round GDP change in the multiplier
process will be equal to this smaller change in spending.

47
Q

multiplier effect

A

increase in autonomous spending, increases real gdp

48
Q

Multiplier formula

A

change in real gdp/change in autonomous spending

49
Q

The larger the MPC (all else equal), the larger the value of the
multiplier

A

The larger the MPC (all else equal), the larger the value of the
multiplier

50
Q

does multipler make eocnomy more senestivies to change

A

YES! decline in one sector causes declines in spending and production of other sectors

51
Q

Fiscal policy

A

GOVERNMENTS actions to make sure price level is stable and unemployment is low

mainly through tax or changing their level of spending

52
Q

two types of fiscal policy

A

1) automatic stabilizer: govt spending and taxes that automaticaly increase or decrease in the business cycle

2) discretionary fiscal policy: intential actions of govt, like chanignig spenidng or taxes

53
Q

Expansionary fiscal policy

A

GOAL: MOVE AD RIGHT
increase govt spending OR decreasing taxes

1) increase govt sepnding (G goes up) so AD automatically goes up
2) Decreaseing income TAXES, indirectly affects AD by increasing disposable income of people, and increasing (C)
3) Decreasing business taxes, incretly increase business investments

54
Q

What does exapnsionary fiscal policy fo for emplyment

A

increases it

55
Q

Contractionary fiscal policy

A

GOAL: move ad curve left
decrease govt sepnding or increase taxes

1) Gecrease govt spending (Decreases GD, AD CURVE LEFT)
2) Increase personal tax (less disposabel income so less C, AD LEFT)
3) INcrease bsniess taxes (less investments, AD LEFT)

56
Q

GENERAL GOAL OF EXPANSIONARY POLICY
CONTRACTIONARY POLICY

A

INCREASE EMPLOYMENT
COOL INFLATION

57
Q

What 2 effects make the size of shift in AD curve differetn from the change in govt spending (make it so its not a1 to 1 change)

A

multiplier effect

crowding out effect

58
Q

Multiplier effect
-background of why
-WHAT IS IT

A

1) inital increase in govt spenidng is autonomous (result of a decision by the govt and doesnt depend on elvel of REAL GDP)

lets say govt increase spending

2) but increase in consumption spending thas a result form intial autonoomus increaseis an INDUCED change

so MULT EFFECT IS

THE ADDITIAONL SHIFT N AD THAT IS A REUSLT OF EXPANSIONARY FISCAL POLICY!!

59
Q

basically w multiplier effect

you move ad curve a lil

A

and it moves inself omre because of ad effect

60
Q

is fiscal policy better or monetary 3 reasons

A

monetary!

fiscal policy is slow and beuraeucratic, and hard to implement

and govt spending might CROWD OUT private spending

61
Q

Crowding out

A

decline in private spedning bc govt spending

62
Q

Crowding-out effect is the offset in aggregate demand that results
when expansionary fiscal policy raises the interest rate and thereby
reduces private spending

A

Crowding-out effect is the offset in aggregate demand that results
when expansionary fiscal policy raises the interest rate and thereby
reduces private spending

63
Q

Can crowding out potentially reduce how effective expansionary fiscal policy is?

A

YES!!!!

govt spending increase, AD right, income and real gdp right

income and real gdp right, money demand increases, money demand curve right, interest rate UP

higher INTEREST RATE!!!!!! c + i + nX alll decrease, ad shift left

64
Q

in the short run, waht does govt spenidg result in

A

partial/but not complete crowding out

65
Q

crowding out effect visualized

A

shift to the right ad curve (Gincrease), and then shift back to the left (Crowding out!)

66
Q

In the long run, what does a permanent increase of govt spending do? BASICALLY WHAT DOES A CROWDIGN OUT EFFECT DO IN THE LONG RUN

A

the decline in investment, consumption, and nx is OFFSET by the increase in govt pruchases, and AD IS UNCHANGED!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!

in th elong run an increase in govt spenidng resultsin complete crowdin gout!

67
Q

The economy is in recession. Shifting the AD curve
rightward by $20b would end the recession.

If MPC = 0.8 and there is no crowding out, how
much should the government increase G to end the
recession?

A

multiplier: 1/1-0.8 = 5

wanna shift ad right, increase govt spending

INcrease govt sepdning by 4! and then multiplier will do its thang!!!

68
Q

Crowding out may cause
an expansionary fiscal policy to fail to meet its goal of keeping the
economy at potential GDP

A

Crowding out may cause
an expansionary fiscal policy to fail to meet its goal of keeping the
economy at potential GDP

ECON 203 (16 decks)

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