Skip to content
Quick Guides

Economics - Fiscal and Monetary Policy

Preview 4 of 12 pages

See the first 4 pages exactly as they appear in the document.

  1. Page 1
    Read page 1 as text

    Study Guide Economics – Fiscal and Monetary Policy 1. Fiscal Policy 1 .1 What Is Fiscal Policy? Fiscal policy refers to the actions taken by the government to manage the economy. It is carried out by the legislative and executive branches of government. The government mainly uses two tools : • Government spending (on things like roads, schools, and national defense) • Taxes (collected from individuals and businesses to pay for these services) By changing spending and taxes, the government can influence overall economic activity. 1.2 Budget Deficit A budget deficit occurs when: • Government spending is greater than tax revenue in a year. To pay for this extra spending, the government: • Borrows money • Issues long - term, interest - bearing bonds All outstanding government borrowing over time is called the national debt . So, when the government runs a deficit, the national debt increases . 1.3 Budget Surplus A budget surplus occurs when: • Government tax revenue is greater than spending . The extra money is usually used to: • Pay off existing national debt

  2. Page 2
    Read page 2 as text

    Study Guide 1.4 Balanced Budget A balanced budget occurs when: • Government spending equals tax revenue In this case, there is no deficit and no surplus . 1.5 Expansionary Fiscal Policy Expansionary fiscal policy is used to stimulate the economy , especially during a recession. It involves: • Increasing government spending , and/or • Cutting taxes This policy: • Increases the budget deficit, or • Reduces a budget surplus 1.6 Contractionary Fiscal Policy Contractionary fiscal policy is used to slow down the economy , usually to fight inflation. It involves: • Decreasing government spending , and/or • Raising taxes This policy: • Reduces the budget deficit, or • Increases a budget surplus

  3. Page 3
    Read page 3 as text

    Study Guide 1.7 Classical View Classical economists believe that: • Markets naturally adjust on their own • Prices and wages are flexible • The economy will return to its natural level of real GDP without government intervention Because of this, they argue that: • Fiscal policy is unnecessary • The government should run a balanced budget every year 1.8 Keynesian View Keynesian economists believe that: • Prices and wages adjust slowly , especially during recessions • Government intervention is necessary to stabilize the economy They strongly support the use of: • Expansionary and contractionary fiscal policies 1.9 Combating a Recession Using Expansionary Fiscal Policy

  4. Page 4
    Read page 4 as text

    Study Guide Figure 1: Combating a recession using expansionary fiscal policy Keynesian ideas developed during the Great Depression of the 1930s , when: • Unemployment exceeded 25% • Real GDP fell for many years Keynes argued that waiting for wages and prices to adjust would take too long. Instead, the government should actively increase spending . 1.10 How Expansionary Fiscal Policy Works in a Recession Assume the economy is in a recession: • Real GDP is at Y ₁ , which is below the natural level Y ₂ • Resources are unemployed • Output is too low Classical economists say: • Unemployment will cause wages to fall • Lower wages shift short - run aggregate supply (SAS ₁ to SAS ₂ ) • The economy returns to full employment naturally Keynesians disagree: • Wages are sticky downward • They do not fall quickly • The recession can last a long time 1.11 Keynesian Solution The Keynesian solution is to: • Run a budget deficit • Increase government spending beyond tax revenue This increase in spending: • Shifts aggregate demand from AD ₁ to AD ₂

8 more pages in the full document

Unlock it once and it stays in your library, ready to chat with or turn into flashcards.

Unlock the full document

More Economics study materials

See all

Study this document with CramX

Once it is in your library, every tool can work from it.