Download QUESTIONS FOR DISCUSSION

QUESTIONS FOR DISCUSSION
1.
How long does it take you to spend any income you receive? What happens to the
dollars you spend?
Expect most students to answer that they spend their money almost as soon as
they get it. You may want to ask them if they use all of their income for
consumption or do they save any. Try to get them to think and talk about the
multiplier effect – that their expenditure turns into someone else’s income, which
that person then uses for consumption, etc. - their combined spending has on the
community in which the college is located.
2.
What is your MPC? Would a welfare recipient and a millionaire have the same MPC?
What determines a person's MPC?
Remember that the MPC is the tendency to consume out of additional income,
not the tendency to consume out of total income. The average student is likely to
have a very high MPC, especially if he or she is the traditional 18-22 year old
student. Lower income people always will be expected to have higher MPCs,
since they need all their income just to pay for basic necessities. If a student or a
welfare recipient were to earn an extra $10,000, they would probably spend most
of it. If a millionaire were to earn an extra $10,000, they may only spend a small
fraction of the extra income. The level of income and tastes are primary
determinants of MPC.
3.
What do people do with that fraction of their income that they save?
From an economist’s viewpoint, they do not invest it. Investment – the
purchasing of capital - is something done by businesses, not individuals. Savers
can hold their savings in a number of ways, ranging from putting it in banks (in
Certificates of Deposit, Passbook Accounts, etc.), buying stocks and mutual
funds, bonds, government savings bonds, gold coins, or stuffing it in a shoe box
and storing it in a closet.
4.
How long does the multiplier process take? How many cycles are likely to occur in a
year's time? How will this alter the impact of fiscal policy?
The answer to this question depends upon how fast consumers actually spend
their money. There are usually two or three rounds of spending each year.
Although mathematically the multiplier process will continue indefinitely, the
majority of the impact of fiscal policy is felt within the first two years. For
example, with an MPC of 0.80, the spending multiplier is equal to 5. The first six
rounds of spending account for nearly 60% of the multiplier process. The next
six rounds account for only 15% of the multiplier process.
5.
Do fiscal-policy makers really need to know the magnitudes of the MPC and multipliers?
Could they get along as well without such information?
Although fiscal policy makers do not need to know the exact value of the MPC,
they need to have good estimates of the multipliers. Failure to understand and
consider that multiplier effect could lead to fiscal policy not meeting its goals by
either not providing enough stimulus in recessions or by ‘overheating’ the
economy resulting in inflationary pressure.
6.
If the guidelines for fiscal policy (Table 12.2) are so simple, why does the economy ever
suffer from unemployment or inflation?
First, there are unanticipated shocks to the economy that can throw it out of the
full employment, stable price equilibrium. Second, there are lags between the
time when unemployment or inflation occurs and when discretionary policy
actually makes an impact on the economy. Third, fiscal policy cannot
necessarily fine-tune the economy, but can, at best, dampen the business cycle.
Two other key elements to this problem are politics and human behavior. Often,
politicians may have political agendas that differ from the needs of the economy.
Legislation that serves the political needs of constituents may act counter to
recommended fiscal policy guidelines. Finally, not all economists agree with the
foundations on which those guidelines are based on. Different economic models
have been developed which recommend differing policies for the same
circumstances.
7.
Would a constitutional amendment that would require the federal government to balance
its budget (incur no deficits) be desirable? Explain.
From a Keynesian perspective, it would not. The requirement to maintain a
balanced budget would cripple the use of fiscal policy to counteract business
cycles. It would be very difficult to use government spending to stimulate the
economy if taxes also had to be increased to balance the budget. Of course,
since dollar for dollar government spending is more powerful than taxation, then
an increase in government spending, even if matched by an equal increase in
taxes, would be a stimulus to the economy. From a monetarist’s point of view,
restraining activist fiscal policy is a very good reason to require balanced
federal budgets.
8.
In the second quarter of 2003, defense spending surged by 44 percent, or nearly $30
billion. How did this surge affect GDP? Which nondefense industries were most likely
affected?
Defense spending is a category of government spending and is therefore part of GDP. The nearly
$30 billion increase would result in a GDP going up by a multiple of that spending increase, the
exact amount depending on the size of the multiplier. Every expenditure ultimately translates into
someone’s income increasing and therefore the impact would be felt throughout the economy.