Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver Slides prepared by Muni Perumal, University of Canberra,
Post on 26-Mar-2015
234 Views
Preview:
Transcript
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-1
Chapter 9
Fiscal Policy and the Public Debt
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-2
Learning Objectives
• Briefly outline the nature of federal government expenditures and revenues.
• Explain how a degree of economic stability is built into our tax system.
• Survey some basic problems in the application of fiscal policy.
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-3
Learning Objectives (cont.)
• Briefly discuss several contrasting budget philosophies.
• Assess the quantitative and qualitative aspects of the public debt.
• Discuss the implications of and complications associated with fiscal policy within the aggregate demand–aggregate supply framework
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-4
Federal Government Finance
• Federal expenditures– large expenditure on social security and welfare– specific purpose grants
• Federal revenues– Personal income tax– Company income tax– Indirect and other taxes
sales tax excise tax
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-5
Discretionary Fiscal Policy
• The deliberate manipulation of taxes and spending by government for the purpose of altering real GDP and employment, controlling inflation and stimulating economic growth
• Not all fiscal policy is deliberate
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-6
Expansionary Fiscal Policy
• If budget is initially balanced, moves it towards a budget deficit during recession
• Increased government spending and/or lower taxes
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-7
Contractionary Fiscal Policy
• If budget is initially balanced, moves it towards a budget surplus during an inflationary period
• Decreased government spending and/or higher taxes
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-8
Financing Deficits
• Effect of expansionary fiscal policy depends on method by which the deficit is financed– Borrowing: May increase interest rates,
thus ‘crowding out’ some investment– Money creation:
Deficit financed by the RBA by issuing new money
Avoids crowding out private spending
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-9
Disposing of Surpluses
• Effect of contractionary fiscal policy depends on method by which the surplus (or movement towards surplus) is financed– Debt reduction: May reduce anti-inflationary
impact of policy by reducing interest rates, thereby stimulating private spending
– Idle surplus (or impounding): Government withholds purchasing power
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-10
Non-Discretionary Fiscal Policy
• Built-in stabilisers that operate without requiring explicit action by policy-makers
• During recessions: Tend to increase government deficits (or reduce surplus)
• During inflationary periods: Tend to increase government surpluses (or reduce deficits)
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-11
Automatic or Built-in Stabilisers
• Tax receipts: Increase as real GDP increases
• Transfers: Decrease as real GDP increases
• Do not correct; only reduce the severity of fluctuations
• Useful when economy is operating around full employment
• Can cause problems: Fiscal Drag
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-12
Built-in Stabilisers
Go
vern
men
t ex
pen
dit
ure
an
d t
ax r
even
ue
Real GDP (billions)
GDP3
T
G
GDP2
{
Surplus
{Deficit
GDP1
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-13
Fiscal Drag
• Occurs when an economy stabilises at an undesirable output level because of the operation of automatic stablisers
• Over time as an economy grows, this can choke off growth
• Cure: Discretionary fiscal policy
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-14
A Government’s Fiscal Stance
• Difficult to judge. Why?• Actual budget surpluses or deficits in
any given year do not necessarily indicate the government’s true fiscal stance. Why?
• Built-in stability• Solution: Cyclically adjusted budget
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-15
Cyclically Adjusted Budget
• Indicates what the budget deficit (or surplus) would be if the economy were to operate at potential output throughout the year
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-16
Problems with Fiscal Policy in Practice
• Problems of timing– Recognition lags– Administrative lags– Operational lags
• Political problems– Other economic goals: not just stability– Expansionary bias– A political business cycle
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-17
Problems with Fiscal Policy in Practice (cont.)
• Crowding-out effect– When an expansionary fiscal policy
tends to increase the interest rate, thus reducing interest-sensitive private spending, especially investment
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-18
Managing Public Debt: Various Philosophies
• Annually balanced budget– Pro-cyclical: intensifies recession or
inflation
• Cyclically balanced budget– Counter-cyclical– Not annually balanced– Problem: upswings and downswings may
not be of equal magnitude
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-19
Managing Public Debt: Various Philosophies (cont.)
• Functional finance– Primary purpose is to balance the
economy, not the budget– The problems of continuing annual deficits
(or surpluses) may be small compared to the alternative: recession and high unemployment (inflation)
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-20
Public Debt
• The total accumulation of the Federal Government’s total deficits and surpluses over time
Myths about public debt:• Government is going bankrupt
– Government can refinance existing debt– Can create more money
• Shifting burdens, future generations will pay for it
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-21
Problems with Public Debt
Economic implications
• External debt may be a problem
• Increased taxes may dampen incentives
• Income distribution– Government bonds are generally held by those
wealthier members of society
• Composition important: capital versus consumer goods
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-22
Problems with Public Debt (cont.)
Crowding-out and the stock of capital• Future generations inherit a
smaller stock of capital goods due to the crowding-out effect, which increases interest rates and so reduces investment spending
• Two qualifications– Public investment– Unemployment
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-23
Public Debt: Positive Role
• Debt creation transfers saving to spenders and thereby may play a positive function in maintaining a high level of output and employment
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-24
Inflation and Fiscal Policy
• Some portion of the potential effect of an expansionary fiscal policy on real output and employment may be dissipated in the form of inflation
• The effect of fiscal policy on inflation affects net exports through the foreign purchases effect
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-25
No Crowding-Out EffectASLS
Qp
Pri
ce l
evel
Real gross domestic product
AS
AD2
Q1 Q2
AD1
P1
P3
AD3
P2
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-26
Crowding-Out EffectASLS
Qp
Pri
ce le
vel
Real gross domestic product
AS
AD2
Q1 Q2
AD1
P1
P3
AD3
P2
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-27
Fiscal Policy and the Open Economy
• The effectiveness of fiscal policy can be altered by international conditions:– Shocks from abroad: small economies are
susceptible to international shocks that can alter our GDP and render our fiscal policies inappropriate
– Net export effect
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-28
Net Export Effect
• The impact of interest rate-induced change in the exchange rate, and thus net exports, following changes in fiscal policy– Expansionary fiscal policy results in higher
interest rates resulting in increased demand for $A resulting in appreciation of $A resulting in a decline in net exports
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-29
Net Export Effect (cont.)
– Contractionary fiscal policy results in lower interest rates resulting in decreased demand for $A resulting in depreciation of $A resulting in an increase in net exports
• Reduces the overall impact of fiscal policy
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-30
Fiscal Policy and Aggregate Supply
• Fiscal policy, especially tax changes, affects not only aggregate demand but can affect aggregate supply
• Tax changes in the form of incentives to businesses and individuals can lead to a rightward shift in the AS, providing a further stimulus to the economy in terms of lower prices and higher GDP
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-31
Supply-Side Effect of Fiscal Policy
ASLS
Qp
Pric
e le
vel
Real gross domestic product
AS1
AD2
Q1
AD1
P1
AS2
Q2
P2
P3 =
Q3
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia9-32
Next Chapter:
Money, Banking and the Financial System
top related