Government Spending and Taxing

1. Government Spending and Taxing Fiscal Policy 13-1 Government Budgets and Types of Taxes 13-2 Budget Deficits and the National Debt 13-3

2. 13-1 Fiscal Policy Explain expansionary and contractionary fiscal policy. LO1-1 Understand the difference between classical and Keynesian economics. LO1-2

3. 13-1 Fiscal Policy Two Types of Fiscal Policy fiscal policy expansionary fiscal policy contractionary fiscal policy aggregate demand curve aggregate supply curve macroeconomic equilibrium Classical Versus Keynesian Economics classical economics Keynesian economics Laffer curve

4. Two Types of Fiscal Policy Fiscal policy is the use of federal government spending and taxes to achieve these economic goals. 13-1 Fiscal Policy Expansionary fiscal policy uses an increase in federal government spending or a reduction in taxes to increase real GDP. Contractionary fiscal policy employs a decrease in federal government spending or an increase in taxes to decrease real GDP.

5. Two Types of Fiscal Policy The aggregate demand curve (AD) shows real gross domestic product that will be purchased at different price levels. 13-1 Fiscal Policy The aggregate supply curve (AS) shows real gross domestic product that will be produced at different price levels.

6. Two Types of Fiscal Policy Macroeconomic equilibrium is the price level where the aggregate demand curve interests the aggregate supply curve. 13-1 Fiscal Policy

7. Two Types of Fiscal Policy 13-1 Fiscal Policy fiscal policy expansionary fiscal policy contractionary fiscal policy aggregate demand curve aggregate supply curve macroeconomic equilibrium What fiscal policy would be used in a recession? Explain the goal. To fight a recession, expansionary fiscal policy would be used. The goal is to increase the aggregate demand curve by increasing government spending or decreasing taxes.

8. Two Types of Fiscal Policy 13-1 Fiscal Policy fiscal policy expansionary fiscal policy contractionary fiscal policy aggregate demand curve aggregate supply curve macroeconomic equilibrium Assume that the economy has an inflation problem. What fiscal policy would be used? Explain. To combat inflation, contractionary fiscal policy would be used. The objective would be to decrease the aggregate demand curve by decreasing government spending or increasing taxes.

9. Classical Versus Keynesian Economics Classical economics is the theory that free markets will restore full employment in a recession without government intervention. This theory was introduced by Adam Smith in The Wealth of Nations. His theory was followed by most eighteenth- and nineteenth-century economists. Classical theory assumes that in the long run free markets will bring about full-employment equilibrium. 13-1 Fiscal Policy

10. Classical Versus Keynesian Economics Keynesian economics is the theory that the federal government should increase or decrease aggregate demand to achieve economic goals. Keynesian economics is also called demand-side economics. Keynesian economics can also be used to fight inflation. 13-1 Fiscal Policy

11. Classical Versus Keynesian Economics The Laffer curve, attributed to economist Arthur Laffer, shows the relationship between tax rates and total tax revenues. 13-1 Fiscal Policy

12. Classical Versus Keynesian Economics 13-1 Fiscal Policy classical economics Keynesian economics Laffer curve Assume an economy is in recession. Briefly explain the Keynesian versus classical prescription for recovery. Keynesian economics would prescribe that the federal government take an active role. Keynesians would call for expansionary fiscal policy. Classical economics would prescribe a passive role for the federal government. Instead of fiscal policy, the classical solution is to allow free markets to restore the economy to full employment.

13. Government Budgets and Types of Taxes 13-2 Identify the categories of government spending and taxing at the national, state, and local levels. LO2-1 Understand progressive, regressive, and proportional types of taxation. LO2-2

14. Government Budgets and Types of Taxes 13-2 Government Spending and Taxing Categories sales tax property tax The Art of Taxation tax base progressive tax regressive tax proportional tax

15. Government Spending and Taxing Categories A sales tax is a tax on the value of the sale of a good or service. 13-2 Government Budgets and Types of Taxes Property taxes are collected on the market value of homes, land, buildings, automobiles, and furniture. A property tax is a tax on the value of assets.

16. Government Spending and Taxing Categories 13-2 Government Budgets and Types of Taxes sales tax property tax What are the transfer or entitlement programs of the major category and second largest category of federal government tax revenues? Transfer payments include Social Security, Medicare, Medicaid, food stamps, welfare, and unemployment compensation

17. The Art of Taxation A tax base is the form of wealth that is subject to taxes. 13-2 Government Budgets and Types of Taxes In addition to income, other examples of tax bases include land, buildings, automobiles, or furniture. A progressive tax charges a higher percentage as income rises. • This type of tax follows the concept that those who have higher incomes can afford to pay higher tax rates. As the amount of taxable income rises, the tax rate rises.

18. The Art of Taxation A regressive tax charges a lower percentage of income as income rises. 13-2 Government Budgets and Types of Taxes One way to reform the federal tax system would be to eliminate all deductions, exemptions, and loopholes. Then simply apply the same tax rate, say, 20 percent of income to everyone. A proportional tax charges the same percentage of income, regardless of the size of income.

19. The Art of Taxation 13-2 Government Budgets and Types of Taxes tax base progressive tax regressive tax proportional tax Relate percentages of income taxes, excise taxes, sales taxes, property taxes to the overall impact of progressive versus regressive taxation. Federal income taxes are progressive on taxable income. State and local government sales taxes and property taxes are regressive. Therefore, state and local government taxes tend to offset the progressive impact of federal taxation.

20. Budget Deficits and the National Debt 13-3 Explain expansionary and contractionary fiscal policy. LO1-1 Understand the difference between classical and Keynesian economics. LO1-2

21. Budget Deficits and the National Debt 13-3 The Federal Budget Balancing Act budget deficit budget surplus balanced budget treasury bill (T bill) treasury note treasury bond The National Debt national debt

22. The Federal Budget Balancing Act A budget deficit occurs when government spending exceeds tax revenue. 13-3 Budget Deficits and the National Debt A budget surplus occurs when a tax revenues exceed government spending. A balanced budget is a budget in which government spending equals tax revenues.

23. The Federal Budget Balancing Act A treasury bill (T bill) is a security that the federal government repays in one year or less. 13-3 Budget Deficits and the National Debt A treasury note is a security that the federal government repays between one to ten years. A treasury bond is a security that the federal government repays between twenty to thirty years.

24. The Federal Budget Balancing Act 13-3 Budget Deficits and the National Debt budget deficit budget surplus balanced budget treasury bill (T bill) treasury note treasury bond Suppose you are a Keynesian economist. What are positive effects of government deficit spending on the economy? A Keynesian argues that federal government deficit spending stimulates the economy. As a result, aggregate demand increases and real GDP grows. Jobs are created, and the unemployment rate falls.

25. The National Debt The national debt is the total amount owed by the federal government to owners of government securities. 13-3 Budget Deficits and the National Debt The national debt is the accumulation of federal deficits over time. The national debt crossed $1 trillion in 1982. After 14 years, the debt rose by $4 trillion to reach the $5 trillion mark in 1996. Fourteen years later, the national debt had grown by $8 trillion to over $13 trillion in 2010.

26. The National Debt 13-3 Budget Deficits and the National Debt national debt What makes the national debt grow? What would reduce or eliminate growth in the national debt? Federal budget deficits are financed with borrowing using U.S. Treasury securities. Reducing deficits, balancing the budget, or budget surpluses would decrease the growth in the national debt.