A Boon for H&R Block

2. A Boon for H&R Block Learning Objectives The tax laws have become increasingly complicated. …It is not surprising that millions of Americans have given up filling out their own income tax forms, or have to rely on software such as Intuit’s TurboTax or H&R Block’s TaxCut.

3. Learning Objective 15.1 Fiscal Policy What Fiscal Policy Is and What It Isn’t Fiscal policy Changes in federal taxes and purchases that are intended to achieve macroeconomic policy objectives, such as high employment, price stability, and high rates of economic growth. Automatic Stabilizers versus Discretionary Fiscal Policy Automatic stabilizers Government spending and taxes that automatically increase or decrease along with the business cycle.

4. Learning Objective 15.1 Fiscal Policy An Overview of Government Spending and Taxes FIGURE 15.1 The Federal Government’s Share of Total Government Expenditures, 1929–2006

5. Learning Objective 15.1 Fiscal Policy An Overview of Government Spending and Taxes FIGURE 15.2 Federal Purchases and Federal Expenditures as a Percentage of GDP, 1950–2006

6. Learning Objective 15.1 Fiscal Policy An Overview of Government Spending and Taxes FIGURE 15.3 Federal Government Expenditures, 2006

7. Learning Objective 15.1 MakingtheConnection • Is Spending on Social Security and Medicare a Fiscal Time Bomb? Will the federal government be able to keep the promises made by the Social Security and Medicare programs?

8. Learning Objective 15.1 Fiscal Policy An Overview of Government Spending and Taxes FIGURE 15.4 Federal Government Revenue, 2006

9. Learning Objective 15.2 The Effects of Fiscal Policyon Real GDP and the Price Level Expansionary and Contractionary Fiscal Policy: An Initial Look FIGURE 15.5 Fiscal Policy

10. Learning Objective 15.2 The Effects of Fiscal Policyon Real GDP and the Price Level Using Fiscal Policy to Influence Aggregate Demand: A More Complete Account FIGURE 15.6 An Expansionary Fiscal Policy

11. Learning Objective 15.2 The Effects of Fiscal Policyon Real GDP and the Price Level Using Fiscal Policy to Influence Aggregate Demand: A More Complete Account FIGURE 15.7 A Contractionary Fiscal Policy

12. Learning Objective 15.2 The Effects of Fiscal Policyon Real GDP and the Price Level A Summary of How Fiscal Policy Affects Aggregate Demand Table 15-1 Countercyclical Fiscal Policy Don’t Let This Happen to YOU!Don’t Confuse Fiscal Policy and Monetary Policy

13. Learning Objective 15.3 The Government Purchases and Tax Multipliers Multiplier effect The series of induced increases in consumption spending that results from an initial increase in autonomous expenditures.

14. Learning Objective 15.3 The Government Purchases and Tax Multipliers FIGURE 15.8 The Multiplier Effect and Aggregate Demand

15. Learning Objective 15.3 The Government Purchases and Tax Multipliers FIGURE 15.9 The Multiplier Effect of an Increase in Government Purchases

16. Learning Objective 15.3 The Government Purchases and Tax Multipliers The ratio of the change in equilibrium real GDP to the initial change in government purchases is known as the government purchases multiplier: The expression for this tax multiplier is:

17. Learning Objective 15.3 The Government Purchases and Tax Multipliers The Effect of Changes in Tax Rates • A cut in tax rates affects equilibrium real GDP through two channels: • A cut in tax rates increases the disposable income of households, which leads them to increase their consumption spending, and • a cut in tax rates increases the size of the multiplier effect.

18. Learning Objective 15.3 The Government Purchases and Tax Multipliers Taking into Account the Effects of Aggregate Supply FIGURE 15.10 The Multiplier Effect and Aggregate Supply

19. Learning Objective 15.3 The Government Purchases and Tax Multipliers The Multipliers Work in Both Directions Increases in government purchases and cuts in taxes have a positive multiplier effect on equilibrium real GDP. Decreases in government purchases and increases in taxes also have a multiplier effect on equilibrium real GDP, only in this case, the effect is negative.

20. Learning Objective 15.3 15-3 Solved Problem Fiscal Policy Multipliers Briefly explain whether you agree or disagree with the following statement: “Real GDP is currently $12.2 trillion, and potential real GDP is $12.5 trillion. If Congress and the president would increase government purchases by $300 billion or cut taxes by $300 billion, the economy could be brought to equilibrium at potential GDP.”

21. Learning Objective 15.4 The Limits of Using Fiscal Policy to Stabilize the Economy Does Government Spending Reduce Private Spending? Crowding out A decline in private expenditures as a result of an increase in government purchases.

22. Learning Objective 15.4 The Limits of Using Fiscal Policyto Stabilize the Economy Crowding Out in the Short Run FIGURE 15.11 An Expansionary Fiscal Policy Increases Interest Rates

23. Learning Objective 15.4 The Limits of Using Fiscal Policyto Stabilize the Economy Crowding Out in the Short Run FIGURE 15.12 The Effect of Crowding Out in the Short Run

24. Learning Objective 15.4 The Limits of Using Fiscal Policyto Stabilize the Economy Crowding Out in the Long Run To understand crowding out in the long run, recall from Chapter 24 that in the long run, the economy returns to potential GDP.

25. Learning Objective 15.4 MakingtheConnection • Is Losing Your Job Good for Your Health? Recent research shows that, surprisingly, the health of people who are temporarily unemployed may improve.

26. Learning Objective 15.5 Deficits, Surpluses, and Federal Government Debt Budget deficit The situation in which the government’s expenditures are greater than its tax revenue. Budget surplus The situation in which the government’s expenditures are less than its tax revenue.

27. Learning Objective 15.5 Deficits, Surpluses, and Federal Government Debt FIGURE 15.13 The Federal Budget Deficit, 1901–2006

28. Learning Objective 15.5 Deficits, Surpluses, and Federal Government Debt How the Federal Budget Can Serve as an Automatic Stabilizer Cyclically adjusted budget deficit or surplus The deficit or surplus in the federal government’s budget if the economy were at potential GDP.

29. Learning Objective 15.5 MakingtheConnection • Did Fiscal Policy Fail during the Great Depression? Although government spending increased during the Great Depression, the cyclically adjusted budget was in surplus most years.

30. Learning Objective 15.5 15-5 Solved Problem The Effect of Economic Fluctuations on the Budget Deficit The federal government’s budget deficit was $207.8 billion in 1983 and $185.4 billion in 1984. A student comments, “The government must have acted during 1984 to raise taxes or cut spending or both.” Do you agree? Briefly explain.

31. Learning Objective 15.5 Deficits, Surpluses, and Federal Government Debt Should the Federal Budget Always Be Balanced? Although many economists believe that it is a good idea for the federal government to have a balanced budget when the economy is at potential GDP, few economists believe that the federal government should attempt to balance its budget every year.

32. Learning Objective 15.5 Deficits, Surpluses, and Federal Government Debt The Federal Government Debt FIGURE 15.14 The Federal Government Debt, 1901–2006

33. Learning Objective 15.5 Deficits, Surpluses, and Federal Government Debt Is Government Debt a Problem? Debt can be a problem for a government for the same reasons that debt can be a problem for a household or a business.

34. Learning Objective 15.6 The Effects of Fiscal Policy in the Long Run The Long-Run Effects of Tax Policy Tax wedge The difference between the pretax and posttax return to an economic activity. We can look briefly at the effects on aggregate supply of cutting each of the following taxes: • Individual income tax. • Corporate income tax. • Taxes on dividends and capital gains. Tax Simplification In addition to the potential gains from cutting individual taxes, there are also gains from tax simplification.

35. Learning Objective 15.6 MakingtheConnection • Should the United States Adopt the “Flat Tax”? The flat tax would simplify tax preparation.

36. Learning Objective 15.6 The Effects of Fiscal Policy in the Long Run The Economic Effect of Tax Reform FIGURE 15.15 The Supply-Side Effects of a Tax Change

37. Learning Objective 15.6 The Effects of Fiscal Policy in the Long Run How Large Are Supply-Side Effects? Most economists would agree that there are supply-side effects to reducing taxes: Decreasing marginal income tax rates will increase the quantity of labor supplied, cutting the corporate income tax will increase investment spending, and so on. The magnitude of the effects is subject to considerable debate, however.

38. Can Congress Afford to Fix the Alternative Minimum Tax? LOOK An Inside Congress’s Taxing Hurdle: The AMT The number of taxpayers affected by the AMT will increase substantially under current U.S. tax laws.

39. K e y T e r m s Automatic stabilizers Budget deficit Budget surplus Crowding out Cyclically adjusted budget deficit or surplus Fiscal policy Multiplier effect Tax wedge

40. Appendix An Expression for Equilibrium Real GDP • A Closer Look at the Multiplier (1) C = 1,000 + 0.75 (Y−T) Consumption function (2) I = 1,500 Planned investment function (3) G = 1,500 Government purchases function (4) T = 1,000 Tax function (5) Y = C + I + G Equilibrium condition

41. Appendix The letters with “bars” represent fixed or autonomous values that do not depend on the values of other variables. So, represents autonomous consumption, which had a value of 1,000 in our original example. Now, solving for equilibrium we get: or, or, or, An Expression for Equilibrium Real GDP • A Closer Look at the Multiplier

42. Appendix • A Formula for the Government Purchases Multiplier

43. Appendix • A Formula for the Tax Multiplier Or:

44. Appendix The “Balanced Budget” Multiplier

45. Appendix The Effects of Changes in Tax Rates on the Multiplier

46. Appendix where the expression represents net exports. We can now find an expression for the government purchases multiplier by using the same method as we did previously: The Multiplier in an Open Economy We can define the marginal propensity to import (MPI) as the fraction of an increase in income that is spent on imports. So, our expression for imports is: Imports = MPI x Y We can substitute our expressions for exports and imports into the expression we derived earlier for equilibrium real GDP: