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FISCAL POLICY Chapter 15 The use of government spending and taxing to achieve economic growth, full employment and stable prices. The Federal Budget • An annual plan outlining proposed revenues and expenditures for the coming year • The President through the Office of Management and Budget and Congress through the Appropriations Committees work together to draw up the next year’s budget. The Federal government may use fiscal policy to make the economy run more smoothly. If we are in a recession the government would use expansionary fiscal policy To expand the economy it would increase government spending and decrease taxes If we have inflation the government would use contractionary fiscal policy To contract the economy it would decrease government spending and increase taxes GDP and CBO’s Estimate of Potential GDP, 2000 to 2019 GDP is expected to continue to decline into 2010 Trillions of dollars http://www.cbo.gov/ Although fiscal policy is a powerful tool, it may be difficult to put into practice Difficult to change spending levels Spending on Social Security & Medicare is mandatory. Difficult to predict the future Politicians may put off implementing fiscal policy because they are unsure of its results Delayed results Takes time for Congress to pass laws Takes time for money to circulate into the economy Federal Spending • The projected spending for 2009 is • $3.85 trillion. • The projected tax revenue for 2009 is • $2.19 trillion. Government Debt and Deficits If government spending exceeds government revenue (taxes) within one year it is called deficit spending If government revenue exceeds government spending within one year it is called a budget surplus The Total Deficit or Surplus 1969 to 2016 2009 Projected deficit is $1.67 trillion. Q. How does the government spend money it does not have? A. They could print more, which would lead to inflation or they have to borrow it. Q. How does the government borrow money? A. They sell U.S. treasury bonds, treasury bills, or treasury notes. Q. Who do they borrow it from? A. Us (individuals, banks, and governments) and foreigners. The Federal Debt is the total of all budget deficits and budget surpluses in our history. http://www.usdebtclock.org/ Problems of a National Debt Crowding-out effect When government borrows it competes with businesses for savers dollars making it harder for private businesses to borrow. A decrease in business spending reduces overall GDP. Interest Payments on the Debt • Interest must be paid to bondholders and over the years the interest payments have become very large. The 2007 interest payment was $239 billion. This was 9% of the budget. • An increase in interest payments means a decrease in spending somewhere else. There is a large opportunity cost involved here. Debt Held by Foreign Citizens • The majority of the interest payments go to U.S. citizens, but the number of foreign holders of U.S. debt has increased to about 44% today.