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7. Fiscal Policy: Roles, Objectives, and Tools

o. describe roles and objectives of fiscal policy;

## p. describe tools of fiscal policy, including their advantages and disadvantages; ## q. describe the arguments about whether the size of a national debt relative to GDP matters;

What is fiscal policy? Fiscal policy refers to the use of government expenditure, tax, and borrowing activities to achieve economic goals. Including - the overall level of aggregate demand in an economy (and hence the level of economic activity), - the distribution of income and wealth among different segments of the population, and, ultimately, - the allocation of resources between different sectors and economic agents.

How does a government generate revenues? Taxes

What is the difference between a budget and a balanced budget? A budget is the annual statement of the government’s expenditures and tax revenues. A balanced budget implies that current government revenue is equal to current government expenditures.

What is a budget deficit and/or surplus? - A budget deficit exists when total government spending exceeds government revenue. - A budget surplus occurs when revenues exceed spending.

What are some arguments against being concerned with the size of a fiscal deficit? - The debt is owned internally by fellow citizens - Some borrowed money may have been used for capital investment projects or enhancing human capital. - Large deficits require tax changes which may be desirable. - Richardian equivalence: the timing of any tax change does not affect consumers’ change in spending. - Debt could improve employment.

What are some arguments for being concerned about national debt? - Higher deficits -> higher tax rates -> less incentive to work and invest -> lower long-term growth - The central bank may have to print money to finance a deficit. This may lead to high inflation.

What is the marginal propensity to consume and marginal propensity to save? What’s the math? - As disposable income increases, consumption expenditures increase, but by a smaller fraction than the increase in income. - Marginal propensity to consume (MPC) and Marginal propensity to save (MPS) combine to 1 - MPC + MPS = 1 - t - t = tax rate