Lectures in Macroeconomics- Charles W. Upton Fiscal Policy-Part 2

Lectures in Macroeconomics- Charles W. Upton

Fiscal Policy-Part 2

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Changing the Experiment Again

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Let’s change the experiment again. This time, the government

gives everyone a $300 tax cut.



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gives everyone a $300 tax cut.Yes you have

seen this one before.



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This tax cut is based on last year’s taxes,

so no incentives/disincentives to work.



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This tax cut is based on last year’s taxes,

so no incentives/disincentives to work.

But there are possible impacts

on wealth.


Tax Cut, Bequest Motive

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If people have a bequest motive, no

change


Tax Cut, Bequest Motive

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If people have a bequest motive, no

changeNo change in wealth, just an

issue on when you write a check to the government


Tax Cut, no Bequest Motive

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If people do not have a bequest motive, wealth

is up



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Prices up, interest rates unsure (but probably up)



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Prices up, interest rates unsure (but probably up)But the change is

probably pretty small


A Summing Up

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A Summing Up

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A one time increase in government

spending pushes prices up, and

probably interest rates as well


A Summing Up

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If people have a bequest motive, it

makes no difference whether the increase

is financed by taxation or borrowing (ignoring the disincentive effects

of taxes).


A Summing Up

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If people have a bequest motive, it

makes no difference whether the increase

is financed by taxation or borrowing (ignoring the disincentive effects

of taxes).

With no bequest motive, it may make a small

difference.


A Summing Up

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A tax cut makes no difference if

there is a bequest motive.


A Summing Up

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A tax cut makes no difference if

there is a bequest motive.

With no bequest motive, it may make a small

difference.


Long Run Effects

• Let’s go back to our tax-financed spending increase.

• This is a temporary change.

• Its effects will eventually dissipate.


Long Run Effects

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Long Run Effects

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Long Run Effects

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No permanent impact


Prices

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No permanent impact


Prices

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No permanent impact

That means the change if initially

inflationary, will be deflationary as the impact wears off


Prices

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A Final Experiment

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A Final Experiment

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There is a permanent increase in government spending.


A Final Experiment

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We will assume a

foolish project.

Because it is a permanent increase it must be financed

by taxation.


A Final Experiment

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We will assume a

foolish project.

Because it is a permanent increase it must be financed

by taxation.

Any disincentive effects are small: people move

along their LR labor supply curve.


A Final Experiment

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Impact of Government

Spending


A Final Experiment

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SpendingImpact of reduced wealth


A Final Experiment

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SpendingImpact of reduced wealth

The proof is complicated,

but the two will exactly offset each other.


Ergo

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No change in Y curve!


The M Curve

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The M Curve

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Prices up, interest rates

down.


The M Curve

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Prices up, interest rates

down.

Over time, though,

interest rates unchanged,

prices up more.


End

©2004 Charles W. Upton. All rights reserved

Documents

Lectures in Macroeconomics- Charles W. Upton Fiscal Policy-Part 2