ECN 204 Lecture 8: Fiscal Policy
Alexandra Karkaby
07/03/18 Week 8
Fiscal Policy
● Fiscal policy involves government decisions about spending and taxation.
● These decision have major impacts on AD
○ Decisions to increase spending directly increase AD.
○ Decisions to increase taxes lead indirectly to decreased AD
● Governments may strategically make fiscal policy decisions to affect the business cycle.
● Expansionary fiscal policy
○ Involves increasing spending and/or decreasing taxes.
○ Used to close a recessionary gap
● Contractionary fiscal policy
○ Involves decreasing spending and/or increases taxes
○ Used to close an expansionary gap (not popular).
Government Budgets
● Decisions about spending and taxation will impact the governments balance budget.
●Balance budget → tax revenues - spending
○ Budget surplus → revenues > spending (positive balance)
○ Budget deficit → revenues < spending (negative balance)
Government Debt
● Consistently having budget deficits will accumulate massive amounts of debt.
● Governments with a large debt need to devote a large share of their spending just to pay
interest on that debt.
○ Only when a country has a budget surplus can they start paying off the debt.
The impact of FIscal Policy Changes on The Budget
● An expansionary fiscal policy will worsen a government's budget position.
● Governments typically need to borrow to finance an expansionary fiscal policy.
○ This will push up interests rates which leads to less demand from households
and businesses thereby partially offsetting the expansionary fiscal policy
(crowding out).
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Document Summary
Fiscal policy involves government decisions about spending and taxation. These decision have major impacts on ad. Decisions to increase spending directly increase ad. Decisions to increase taxes lead indirectly to decreased ad. Governments may strategically make fiscal policy decisions to affect the business cycle. Used to close an expansionary gap (not popular). Decisions about spending and taxation will impact the governments balance budget. Balance budget tax revenues - spending. Budget surplus revenues > spending (positive balance) Budget deficit revenues < spending (negative balance) Consistently having budget deficits will accumulate massive amounts of debt. Governments with a large debt need to devote a large share of their spending just to pay interest on that debt. Only when a country has a budget surplus can they start paying off the debt. The impact of fiscal policy changes on the budget. An expansionary fiscal policy will worsen a government"s budget position. Governments typically need to borrow to finance an expansionary fiscal policy.