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Chapter 13: Types of Fiscal Policy (page 264)
What happens to the taxation and government spending rates during an expansionary fiscal policy?
Reduction of taxes and increased government spending
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Refer back to the table in Figure 12.7 in the previous chapter. Suppose that aggregate demand increases such that the amount of real output demanded rises by \(7 billion at each price level. By what percentage will the price level increase? Will this inflation be demand-pull inflation, or will it be cost-push inflation? If potential real GDP (that is, full-employment GDP) is \)510 billion, what will be the size of the positive GDP gap after the change in aggregate demand? If government wants to use fiscal policy to counter the resulting inflation without changing tax rates, would it increase government spending or decrease it?
| Real Output Demanded (Billions) | Price Level (Index Number) | Real Output Supplied (Billions) |
| \(506 | 108 | \)513 |
| 508 | 104 | 512 |
| 510 | 100 | 510 |
| 512 | 96 | 507 |
| 514 | 92 | 502 |
Define the cyclically adjusted budget, explain its significance, and state why it may differ from the actual budget. Suppose the full-employment, noninflationary level of real output is GDP3 (not GDP2) in the economy depicted in Figure 13.3. If the economy is operating at GDP2 instead of GDP3, what is the status of its cyclically adjusted budget? The status of its current fiscal policy? What change in fiscal policy would you recommend? How would you accomplish that in terms of the G and T lines in the figure?
Label each of the following scenarios as an example of a recognition lag, administrative lag, or operational lag.
To fight a recession, Congress has passed a bill to increase infrastructure spending鈥攂ut the legally required environmental-impact statement for each new project will take at least two years to complete before any building can begin.
Distracted by a war that is going badly, politicians take no notice until inflation reaches 8 percent.
Politicians recognize a sudden recession, but it takes many months of political deal making before they finally approve a stimulus bill.
To fight a recession, the president orders federal agencies to get rid of petty regulations that burden private businesses鈥攂ut the federal agencies begin by spending a year developing a set of regulations on how to remove petty regulations.
Last year, while a hypothetical economy was in a recession, government spending was \(595 billion, and government revenue was \)505 billion. Economists estimate that if the economy had been at its full employment level of GDP last year, government spending would have been \(555 billion and government revenue would have been \)550 billion. Which of the following statements about this government鈥檚 fiscal situation are true?
The government has a non鈥揷yclically adjusted budget deficit of \(595 billion.
The government has a non鈥揷yclically adjusted budget deficit of \)90 billion.
The government has a non鈥揷yclically adjusted budget surplus of \(90 billion.
The government has a cyclically adjusted budget deficit of \)555 billion.
The government has a cyclically adjusted budget deficit of \(5 billion.
The government has a cyclically adjusted budget surplus of \)5 billion.
What are the government鈥檚 fiscal policy options for ending severe demand-pull inflation?
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