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Fiscal Policy

How the Government affects my money!

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Fiscal Policy

  • Def. Government decisions on spending and taxation that are intended to improve or maintain the economy.

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  • Because the government is so large and has such an impact on business, the decisions it makes has a HUGE influence on the economy.

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Who makes Fiscal Policy?

  • Congress and the President make fiscal policy through the federal budget.

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  • The Federal Reserve (another government agency) DOES NOT make fiscal policy. We will discuss the Federal Reserve next class.

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What is the Federal Budget?

  • The Federal budget is a written document that indicates the amount of money the government expects to receive for a certain year and authorizes the amount of money the government can spend that year.
  • Every Fiscal Year (a 12 month period, not necessarily from Jan. to Dec.) the government makes a new budget. It may add to it through supplementary budgets from time to time.

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Fiscal Policy and the Economy

  • The total level of government spending can be changed to help increase or decrease the output of the economy

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  • Expansionary Policies: Policies that try to increase the output of the economy
  • Contractionary Policies: Policies that try to decrease the output of the economy

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Expansionary Policies

  • During a contraction or recession, the government can do two things:

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  1. Decrease Taxes

Or

    • Increase Spending

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Decreasing Taxes

  1. Gives people more money to spend
  2. More money = more demand
  3. More demand = more production
  4. More production = more jobs
  5. More jobs = more demand etc. etc.

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Increase Spending

  1. Increases demand for goods
  2. More demand = more production
  3. More production = more jobs
  4. More jobs = more demand etc. etc.

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Who favors which policy

  • Decreasing Taxes

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  • Favored by Republicans

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Let people decide what to spend their money on and let those who earned the money benefit from it.

  • Increase Spending

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  • Favored by Democrats

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Government should spend to redistribute wealth to the poor, rather than give the rich a tax cut

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Contractionary Policies

  • During a period of excessive inflation (during a period of expansion), the government can do two things:

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  1. Increase Taxes

Or

    • Decrease Spending

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Increase Taxes

  1. People have less money to spend
  2. Less money = less demand
  3. Less demand = lower inflation

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Decrease Spending

  1. Less money in economy
  2. Less money = less demand
  3. Less demand = lower inflation

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Who favors which policy?

Trick Question! Neither party favors Contractionary Fiscal Policies!!!

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This is one of the problems with Fiscal Policy

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Problem with Fiscal Policy

  1. It is unpopular to raise taxes or cut government spending. So, elected officials worried about re-election rarely do either.

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Ex. In 1984, Walter Mondale ran for president saying a slight tax increase would help equalize the U.S. economy. Ronald Regan defeated him in one of the biggest landslides in U.S. history!

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Problems with Fiscal Policy

  1. If the government cuts taxes, they have less money to spend or they go into debt.

The federal debt is in the trillions of dollars, so the government has to borrow money by selling bonds. These bonds have to be paid back with interest, costing the government more money!