1 chapter 16 macroeconomic policies © 2003 south-western college publishing
TRANSCRIPT
1
Chapter 16
Macroeconomic Policies
© 2003 South-Western College Publishing
2
Macroeconomic Policies
Expansionary PoliciesExpansionary PoliciesMonetary and fiscal policies that are used to try to
increase the equilibrium level of income and output in the economy
Contractionary PoliciesContractionary PoliciesMonetary and fiscal policies that are used to try to
lower aggregate demand for output in the economy to a level that can be achieved with full employment of all resources
3
Expansionary Policies Automatic StabilizersAutomatic Stabilizers
Forces within the economy that naturally tend to counteract recessions and inflation; ex., the Social Security system, unemployment compensation, progressive income tax
Fiscal dragFiscal dragSlowing effect on the economy resulting from a
budget surplus Fiscal stimulusFiscal stimulus
Activating effect on on the economy resulting from a budget deficit
4
Expansionary Policies
Monetary policyIncrease in the money supply lower interest rates
increases the level of aggregate expenditures during periods of high unemployment
Discretionary fiscal policyTax financingDebt financingFinancing by creating money
5
Tax Financing
When taxation used to finance increased government spending, caution must be used so as not to tax funds that would otherwise be used for consumption & investment
Object here should be to design a tax to absorb idle funds
6
Debt Financing
If purpose is to increase aggregate spending, borrowing is more desirable method of raising funds for government spending
Source of the borrowing has a direct bearing on the effectiveness of this approach
Crowding outCrowding outOccurs when deficit spending by the government
drives interest rates up and leads to declines in private investment spending
7
Debt Financing
Ricardian Equivalence TheoremRicardian Equivalence TheoremProposition that if makes no difference whether
government spending is financed by taxes or a deficit
In either case, the transfer of resources from the private sector to the government leads to having no net effect on the aggregate economy
Based on rational expectations, individuals realize that deficits must be paid off in the future taxes will rise to pay off the debt they will reduce spending just as they would if taxes were increased
8
Financing by Creating Money
Treasury sells bonds to the Fed (or to the public) to finance government spending
When Treasury (or public) spends this money to make purchases, the result is an increase in the money supply
This process is referred to as eitherPrinting money because it increases the money
supplyMonetizing the debt
9
Methods of Increasing Government Spending
Increase government spending and hold taxes constant
Hold government spending constant and decrease taxes (tax rebate plan)
Increase government spending and increase taxes proportionallyBalanced budget multiplier
10
Discretionary Government Spending
Discretionary government spendingTransfer paymentsPublic works
Problems with discretionary spendingDifficult to end a government spending
programProblems balancing when the program is
needed and when it can begin
11
Expanding the Economy
The Great Depression The New Deal Expansionary Policies of the 1960s Expansionary Policies of the 1970s, 1980s &
1990sRecession of 1974-75Recessions of 1980 and 1982Recession of 1990-912001 Recession
12
Recession and Deflation
DeflationDeflationpersistent decrease in the level of prices
DisinflationDisinflationa slowdown in the rate of inflation
13
Inflation & Types of Inflation
InflationInflation Persistent increase in the level of prices
Demand-Pull InflationDemand-Pull Inflation Occurs when the total demand for goods and services exceeds
the available supply of goods and services in the short run
Cost-Push InflationCost-Push Inflation Characterized by a spiral of wage and benefit cost increases
and price increases
StagflationStagflation Inflation and high unemployment occurring at the same time
14
Measures to Reduce Total Spending
Automatic Stabilizers Monetary Policy
Use of measures to reduce the money supply Other Measures
Credit restraints, limits on borrowing for stock purchases
Government Surplus Hold taxes and decrease spending Increase taxes and hold or decrease spending Decrease taxes and decrease spending
Borrowing
15
Wartime Inflation
Wartime economy entails a significant reallocation of resources
Need for Reducing Consumption and InvestmentTaxationVoluntary SavingsCompulsory SavingsOther Measures
16
Trade-Off Between Unemployment and Inflation
Phillips curvePhillips curveCurve showing the relationship between
unemployment and inflationMore accurately describes the short-run
rather than the long-run relationshipNatural rate of unemployment
17
Hyperinflation in Latin America
HyperinflationHyperinflation Inflation that feeds on itself to go out of control,
creating severe distortions in an economy and rendering its currency almost worthless
Central and South AmericaBolivia experienced a 11,750% inflation rate in 1985Argentina has experienced inflation rates as high as
3,030% in 1989Inflation rates in Venezuela have ranged from 31%
in 1992 to 61% in 1994
18
Contracting the Economy – 1960s
Use of voluntary wage and price guideposts suggested by President Kennedy
President Johnson imposed a temporary 10% surcharge on personal and corporate income taxes
Surtax fell more heavily on savings than consumption with result that little success was achieved in arresting inflation
19
Contracting the Economy – 1970s
President Nixon declared a 90-day freeze on all prices, wages, and rents
Imposed surtax on imports Asked Congress to reduce personal taxes and
repeal some excise taxes Wage and price freeze offered only temporary
success Stagflation President Carter once again announced a set of
voluntary wage and price controls that were largely unsuccessful
20
Contracting the Economy – 1980s
Reagan shifted from a demand-side approach to dealing with the dual problems of unemployment and inflation to a number of supply side measures
MeasuresEncourage savingStimulate investmentMotivate work effort
Generally successful
21
Contracting the Economy – 1990s
Kuwaiti oil Crisis and Gulf War Increased taxes without reducing government
spending Increased money supply President Clinton
Contractionary fiscal policyExpansionary monetary policyPresided over longest peacetime expansion in U.S.