Download Government Spending

1.
Factors that shift the consumption
function
Changes in wealth
–
–
shift the consumption function.
Example: value of stocks, bonds,
consumer durables.
2.
Changes in consumer expectations
–
Shift the consumption function.
–
Example: Pessimistic expectations
decrease autonomous consumption.
3.
Taxes and Transfers
– Tax increase or decrease in transfers:
decrease disposable income and shift
the consumption function down.
4. Prices
– Affect the purchasing power of assets.
Shift up in AE line
Shift right in AD line
Or
Shift down in AE line
Shift left in AD line
Shift AE line
Movement Along
AD line
Determinants of Investment
•
•
•
•
Interest Rates
Tax Incentives
Technical Change
Expectations about the
strength of demand
• Political Stability and the
rule of law
Shift AE line
Shift AD line
Government expenditures are
determined by the budget
process: The president,
Congress and the Senate.
Shift AE line
Shift AD line
• National Incomes
• GDP of other
countries
• Relative Prices
• Exchange Rates
Shift AE line
Shift AD line
Recessionary/Inflationary Gap?
Which AE line
will cause a
recessionary
gap?
Which AE line will cause
an inflationary gap?
A recessionary
To increasegap
AE,
To eliminate a
occurs we
when
actual
need
an
recessionary gap, AE
GDPincrease
falls SHORT
in C,of
I, G
must rise.
full employment
or NX GDP
= 7,000-6,000 =1,000
To Eliminate a
Recessionary/Deflationary Gap
• Increase Consumption by a sufficiently
large price drop, a decrease in taxes or an
increase in transfers.
• Increase Investment
– tax incentives.
– lower interest rates
• Increase Government Spending
• Increase Exports and reduce Imports: make
dollar weaker (increasing supply of dollars)
To eliminate
To
an decrease
AE,
we need
inflationary
agap,
decrease
in
AE must
C,
I, G or NX
fall.
= 7,000-8,000 =-1,000
An inflationary gap
occurs when equilibrium
GDP is higher than full
employment GDP
To Eliminate an Inflationary Gap
• Decrease Consumption by a sufficiently
large price increase, an increase in taxes or
a decrease in transfers.
• Decrease Government Spending
• Increase interest rates to decrease
spending
• Decrease net exports and increase imports:
stronger dollar.
3. If the economy is at equilibrium, is total spending greater,
less than or equal to Output? Do Inventories fall, rise or
remain unchanged? Does the economy experience a
recessionary gap or an inflationary gap? If an inflationary
(recessionary) gap exists, how can the gap be closed?
4. If the economy is at equilibrium, is total spending greater,
less than or equal to Output? Do Inventories fall, rise or
remain unchanged? Does the economy experience a
recessionary gap or an inflationary gap? If an inflationary
(recessionary) gap exists, how can the gap be closed?
Fiscal Policy
• Changes in Government Spending and/ or
Taxes.
• Induce a change in Aggregate Spending.
Increase AE
Decrease AE
5/23/2017
© 2002 Claudia Garcia-Szekely
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