Week 21 - Spending and Output Pt2 Flashcards
What does the income-expenditure multiplier measure?
It measures the change in short-run equilibrium output resulting from a one-unit change in autonomous expenditure.
income-expenditure multiplier example
Initial planned expenditure = 960 + 0.8Y
New planned expenditure = 950 + 0.8Y
The 10-unit drop in C implied a 10 unit drop in autonomous expenditure
Equilibrium changed from $4,800 to $4,750
A $10 change in autonomous expenditures caused a $50 change in output
Multiplier = 5
The larger the mpc, the greater the multiplier
What are stabilisation policies?
Government policies designed to influence planned aggregate expenditure in order to eliminate output gaps.
What is the goal of stabilisation policy?
To close recessionary or inflationary gaps and stabilise the economy around its potential output.
What are expansionary stabilisation policies?
Policies that increase planned aggregate expenditure to boost output and close a recessionary gap.
What are contractionary stabilisation policies?
Policies that decrease planned aggregate expenditure to reduce inflationary pressure and close an inflationary gap.
What tools are used in fiscal policy for stabilisation?
Changes in government spending, transfers (like unemployment benefits), and taxes.
How does expansionary fiscal policy work?
By increasing government spending or transfers, or by cutting taxes to raise aggregate demand.
How does contractionary fiscal policy work?
By reducing government spending or transfers, or by raising taxes to lower aggregate demand.
What is monetary policy in the context of stabilisation?
It involves changing the money supply to influence interest rates and aggregate expenditure.
How does expansionary monetary policy affect the economy?
It increases the money supply, lowers interest rates, and encourages more spending and investment.
How does contractionary monetary policy work?
It reduces the money supply, raises interest rates, and slows down spending and investment to control inflation.
What is the primary goal of fiscal policy in stabilising the economy?
To influence planned aggregate expenditure (PAE) to close output gaps and stabilise economic fluctuations.
What are the three main tools of fiscal policy?
Government spending, taxation, and transfer payments.
How does government spending affect PAE?
Directly—an increase in government spending raises PAE, while a decrease lowers it.
How does taxation affect PAE?
Indirectly—lower taxes increase disposable income and consumption, raising PAE; higher taxes reduce it.
How do transfer payments affect PAE?
Indirectly—higher transfers (like unemployment benefits or social security) increase household income and consumption, boosting PAE.
What is discretionary fiscal policy?
Policy actions that involve deliberate changes in government spending (G) or net taxes (T) to influence the economy.
What is the direct effect of changing government spending (G)?
It changes PAE immediately, since G is a component of total expenditure.
What is the indirect effect of changing net taxes (T)?
It changes households’ disposable income, affecting their consumption and thus PAE
How do changes in G and T affect the government budget?
They alter the government deficit or surplus, since the deficit is calculated as G – T.
What’s the difference between discretionary fiscal policy and automatic stabilisers?
Discretionary fiscal policy requires active decisions, while automatic stabilisers (like income taxes and welfare) adjust naturally with economic conditions.
Is government spending part of planned aggregate expenditure (PAE)?
Yes, it is a direct component of PAE.
How do changes in government spending affect PAE?
Directly—an increase in government spending raises PAE, while a decrease lowers it.