Unit 3:Contractionary and Expansionary Fiscal Policy 3/7/17

Contractionary Fiscal Policy: (The Brake)
Laws that reduce inflation, decrease GDP (close a inflationary gap)
- Decrease government spending
- Tax Increases
- Combinations of the two

Expansionary Fiscal Policy (The Gas)
Laws that reduce unemployment rate & increase GDP (close a recessionary gap)
- Increases government spending
- Decrease taxes on consumers

Automatic or Built- in stabilizes:
Anything that increases the governments budget deficit during a recession and increases its budget surplus during inflation without requiring explicit action by policymakers.

Non- discretionary Fiscal Policy:
Transfer Payments:
a) Welfare Checks                       d) Corporate Dividends
b) Food Stamps                            e) Social Security
c) Unemployment Checks            f) Veteran's Benefits

Unit 3: Fiscal Policy 3/6/17

How does the govt stabilize the economy?
- The government has two different tool boxes it can use;
1. Fiscal Policy- actions by congress to stabilize the economy

Changes in expenditures or tax  revenues of the federal government
2 tools of Fiscal Policy:
 Taxes- govt can increase or decrease taxes
 Spending - govt can increase or decrease spending
Fiscal Policy is enacted to promote our nations economic goals: Full Employment, price stability, economic growth


Deficits, Surplus, 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

Government borrows from:
- Individuals
- Corporations
- Financial Institutions
- Foreign entities of foreign governments

Fiscal Policy Two Options:
1. Discretionary Fiscal Policy (action)
- Expansionary Fiscal Policy- think deficit
- Contractionary Fiscal Policy- think surplus
2. Non-Discretionary Fiscal Policy (no action)

Three Types of Taxes:
1. Progressive taxes- takes a larger percent of income from high income groups 
Ex: Current Federal Income Tax System

2. Proportional taxes (flat rate)- takes the same percent of income from all income groups 

Ex: 20% flat income tax on all income groups

3. Regressive taxes- takes a larger percent of income from low income groups

LINK:
http://www.glencoe.com/sec/socialstudies/economics/econprinciples2001/pdfs/C09-03C-820487.pdf

Unit 3: Cosumption and Saving 2/23/17

Disposable Income (DI):
- Income after taxes or net income

- DI = Gross Income - Taxes

With DI, households can either:

- Consume (spend money on goods & services)

- Save (not spend money on goods & services)

Consumption:

Household Spending

The ability to consume is constrained by;

- the amount of disposable income

- the propensity to save

Do households consume if DI = 0?

-Yes, autonomous consumption

- Dissaving

APC = C / DI = % DI that is spent

Saving:

Household NOT spending

The ability to save is constrained by;

- the amount of disposable income

- the propensity to consume

Do households save if DI = 0?

-No

APS = S / DI = % DI that is not spent

APC & APS:

APC + APS = 1

1 - APC = APS

1 - APS = APC

APC > 1 .: Dissaving

MPC & MPS:

Marginal Propensity to Consume

- Change in C/ Change in DI

- % of every extra dollar earned that is spent

Marginal Propensity to Save

- Change in S / Change in DI

- % of every extra dollar earned that is saved

MPC + MPS = 1

1-MPC = MPS

1 - MPS = MPC

Determinants of C & S:

- Wealth

- Expectations

- Taxes

- Household Debt

The Spending Multiplier Effect:

- An initial change in spending causes a larger change in aggregate spending or AD

- Multiplier =       Change in AD

                       Change in spending

- Multiplier =            Change in AD

                       Change in C, I, G, or , X

Why does this happen?

- Expenditures & income flow continuously which sets off a spending increase in the economy.

Calculating the Spending Multiplier:

- Can be calculated from the MPC or MPS

- Multiplier = 1/ 1- MPC or 1 / MPS

- Multipliers are (+) when there is an increase in spending & (-) when there is a decrease.

Calculating the Tax Multiplier:

- When the govt taxes, the multiplier works in reverse

Why?

- B/c now money is leaving the circular flow

Tax Multiplier (note: its negative)

= -MPC/1-MPC or -MPC/MPS

-If there is a tax cut, then the multiplier is +, b/c there's now more money in the circular flow.

Unit 3: Aggregate Supply 2/21/17

• The level of Real GDP that firms will produce at each price level (PL).

Long Run: 
- Input prices are completely flexible & adjust to changes in the price level.
- In the long run, the level of Real GDP supplied is independent of the price level.

Short Run:
- Period of time where input prices are sticky & do not adjust to changes in the price level.
- The level of GDP supplied is directly related to the price level.

Long-Run Aggregate Supply (LRAS)
- The LRAS marks the levels of full employment

Short-Run Aggregate Supply (SRAS)

- Because input prices are sticky in the short run, the SRAS is upward sloping.

Changes in SRAS:

• An increase in SRAS is seen as a shift to the right. SRAS ->
• Decrease in SRAS is seen as a shift to the left. SRAS <-
• The key to understanding shifts in SRAS is per unit cost of production.

Per unit production cost = Total Input 

                                          Total output

Increase:


  Decrease:

Determinants of SRAS

1. Input Prices:

Domestic Resource Prices

- Wages (75% of all business costs)

- Cost of capital

- Raw materials

Foreign Resource Prices

- Strong $ = lower foreign resource prices

- Weak $ = higher foreign resource prices

Market Power

- Monopolies & cartels that control resources control the price of those resources

Increase in resource prices = SRAS <--

Decrease in resource prices = SRAS -->

2. Productivity

• Productivity = Total Output / Total Input
• Most productivity = lower unit production
• Cost = SRAS -->
• Lower productivity = higher unit production
• Cost = SRAS <--

3. Legal- institutional environment
Taxes and subsidies
- Taxes ($ to govt) on business increase per unit
   Production cost = SRAS <--
- Subsidies ($ from govt) to business reduce per unit
  Production cost = SRAS -->
Government Regulation
- Govt regulation creates a cost of compliance = SRAS <--
- Deregulation reduces compliance costs = SRAS -->

Unit 3: Interest Rates and Investment Demand 2/21/17

Investment

Money spent or expenditures on:
-New Plants (Factories)
-Capital Equipment (Machinery)
-Technology (Hardware & Software)
-New Homes
-Inventories (Goods sold by producers)

Expected Rates of Return

How does business make investment decisions?
- Cost/Benefit Analysis
How does business determine the benefits?
- Expected Rate of Return
How does business count the cost?
- Interest Rates
How does business determine the amount of investment they undertake?
- Compare expected rate of return to interest cost
If expected return > interest cost, then invest
If expected return < interest cost, then do not invest

Real v. Nominal

Real % = Nominal % - Inflation%
What determines the cost of an investment decision?
- Real Interest Rate (r%)

Investment Demand Curve (ID)

Shape of the ID curve?
- Downward Sloping

Shifts in Investment Demand (ID)

- Cost of Production
- Business Taxes
- Technological Changes
- Stock of Capital
- Expectations

LINK:
https://courses.byui.edu/econ_151/presentations/Lesson_06.htm

Unit 3: Increase in Aggregate Demand 2/17/17

Determinants of AD:

• Consumption
• Gross Private Domestic Investment (Ig)
• Government Spending
• Net Exports (Xn) = Exports - Imports

1. Change in Consumer Spending

- Consumer Wealth (Boom in stock market)

- Consumer Expectations (PPI fear a recession)

- Household Indebtedness (more consumer debt)

- Taxes (Decrease in income taxes)

2. Change in Investment Spending

- Real Interest Rates (Price of borrowing $)

                                  (If interest rates increase)

                                  (If interest rates decrease)

- Future Business Expectations (High expectation)

- Productivity & Technology (New robots)

- Business Taxes (Higher corporate taxes means...)

3. Changes in Government Spending

- (War...)

- (Nationalized Health Care)

- ( Decrease in defense spending)

4. Change in Net Exports (X - M)

- Exchange Rates

- (If US dollar depreciates relative to the euro National Income compared to abroad)

- (If the US has a recession)

AD = GDP = C + Ig + G + Xn

Government Spending:

- More govt spending (AD >)

- Less govt spending (AD<)

LINK:
https://courses.byui.edu/econ_151/presentations/Lesson_08.htm

Unit 3: Aggregate Demand Curve 2/16/17

• AD is the demand by consumers, business, government, and foreign countries.

Changes in price level cause a move along the curve not a shift of the curve.

Aggregate Demand (AD):

• The relationship between the price level & the level of the real GDP.

Three reasons why AD is downward sloping:

1. Wealth Effect:

- Higher prices reduce purchasing power of $

- This decreases the quantity of expenditures

- Lower price levels increase purchasing power & increase expenditures

2. Interest Rate Effect:

- As price level increases, lenders need to charge higher interest rates to get a REAL return on their loans

- Higher interest rates discourage consumer spending and business investment

3.Foreign Trade Effect:

- When US price level rises, foreign buyers purchase fewer, US goods & Americans buy more foreign goods.

- Exports fall & imports rise causing real GDP demanded to fall (Xn Decreases)

Shifts in AD

There are two parts to a shift in AD:

- Change in C, Ig, G and/or Xn

- Multiplier effect that produces a greater change than the original change in the 4 components

• Increases in AD = AD shifts right
• Decreases in AD = AD shifts left