Unit 3: Fiscal Policy

Fiscal Policy

Definition: Changes in the expenditures or tax revenues of the federal government.

• 2 tools of Fiscal Policy:
• Taxes - government can increase order or decrease taxes
• Spending - Government can increase or decrease spending
• Inverse relationship

Deficits, Surpluses, and Debt

• Balanced Budget
• Revenues = Expenditures
• Budget Deficit
• Revenues < Expenditures
• Budget Surplus
• Revenues > Expenditures
• Government Debt
• Sum of all deficits - Sum of all Surpluses
• Government must borrow money when it runs a budget deficit. They borrow from:
• Individuals
• Corporations
• Financial Institutions
• Foreign Entities or Foreign Governments

Fiscal Policy (Two Options)

• Discretionary Fiscal Policy (action)
• Expansionary fiscal policy - think deficit
• Contractionary fiscal policy - think surplus
• Non - Discretionary Fiscal Policy (no action)

Discretionary vs. Automatic Fiscal Policies

• Discretionary
• Increasing or Decreasing Government Spending and/or Taxes in order to return the economy to full employment. Discretionary policy involves policy makers doing fiscal policy in response to an economic problem.
• Example: Recession and Inflation
• Automatic
• Unemployment compensation and marginal tax rates are examples of automatic policies that help mitigate the effects of recession and inflation. Automatic fiscal policy takes place without policy makers having to respond to current economic problems.
• Example: Medicare and Medicaid

“Easy” Expansionary Fiscal Policy	“Tight” Contractionary Fiscal Policy
Combats Recession	Combats Inflation
Increases Government Spending Decreases Taxes	Decrease in Government Spending Increase in Taxes