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Macroeconomics, 9th Canadian Edition
Macroeconomics, 9/e
Campbell R. McConnell, University of Nebraska, Lincoln
Stanley L. Brue, Pacific Lutheran University
Thomas P. Barbiero, Ryerson University
Fiscal Policy

Chapter Highlights

CHAPTER 10
  1. Other things equal, increases in government spending expand, and decreases contract, aggregate demand and equilibrium GDP. Increases in taxes reduce, and decreases expand, aggregate demand and equilibrium GDP. Fiscal policy therefore calls for increases in government spending and decreases in taxes—a budget deficit—to correct a recessionary gap. Decreases in government spending and increases in taxes—a budget surplus—are appropriate fiscal policy for correcting an inflationary gap.
  2. Built-in stability arises from net tax revenues, which vary directly with the level of GDP. During recession, the federal budget automatically moves toward a stabilizing deficit; during expansion, the budget automatically moves toward an anti-inflationary surplus. Built-in stability lessens, but does not fully correct, undesired changes in the real GDP.
  3. The cyclically adjusted budget or full-employment budget measures the federal budget deficit or surplus that would occur if the economy operated at full employment throughout the year. Cyclical deficits or surpluses are those that result from changes in the real GDP.
  4. Changes in the cyclically adjusted deficit or surplus provide meaningful information as to whether the government's fiscal policy is expansionary, neutral, or contractionary. Changes in the actual budget deficit or surplus do not, since such deficits or surpluses can include cyclical deficits or surplus.
  5. The enactment and application of appropriate fiscal policy are subject to certain problems and questions such as: (a) Can fiscal policy be better timed to maximize its effectiveness in heading off economic fluctuations? (b) Can the economy rely on Parliament to enact appropriate fiscal policy? (c) An expansionary fiscal policy may be weakened if it crowds out some private investment spending. (d) Some of the effect of an expansionary fiscal policy may be dissipated in inflation. (e) Fiscal policy may be rendered ineffective or inappropriate by unforeseen events occurring within the borders of international trading partners. Also, fiscal policy may precipitate changes in exchange rates that weaken its effects. (f) Supply-side economists content that traditional fiscal policy fails to consider the effects of tax changes on aggregate supply.




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