Fiscal policy RWE

example for effective expansionary fiscal policy

American Recovery and Reinvestment Act 2009

in 2008 financial crisis

context - ARRA 2009

• recessionary gap due to 2008 financial crisis

• monetary policy reached limit at zero interest rates

how much was the ARRA?

$831 billion stimulus package

what was the ARRA

mix of tax cuts, extended unemployment benefits, funding for infrastructure

macroeconomic goals - ARRA

• stopped unemployment and added jobs in 2010

• real GDP returned to positive growth

unemployment stats ARRA

10% to 8% in 4 years (shows time lags, different types of unemployment)

strength of ARRA

• deep recession effectiveness → when consumers too scared to spend, government spending directly guarantees AD increase

• sector targeting → green energy and healthcare

constraints of ARRA

time lags → “implementation lag” was significant, infrastructure projects took over a year to begin

stakeholders - ARRA

• unemployed people benefited from unemployment insurance

• government contracts for roads and broadband expansion

• future taxpayers inherited debt to fund stimulus but better than collapsed economy

alternative policies to ARRA

• pure monetary policy (there was monetary policy)

• supply-side tax cuts to encourage hiring

  • rejected because in a recession, firms won’t hire more workers if there are no customers regardless of tax rates

example of ineffective expansionary fiscal policy

Vietnam war & great society 1960s US

what was the Vietnam War & Great Society

Lyndon Johnson’s “Guns and Butter” program

• spending heavily on Vietnam War and social welfare programs without raising taxes to pay for them

Vietnam War & Great Society - macro goals

• inflationary gap, in 1969 inflation was 6%

• budget deficit = long-term fiscal pressure

constraint of Vietnam War & Great Society

• political pressure → resisted raising taxes, even though economy was in full employment

• crowding out, due to massive government borrowing to fund deficit, “crowded out” private investment

consequence of Vietnam War & Great Society

expansionary fiscal on booming economy = inflation

stakeholders - Vietnam War & Great Society

• military defence contractors gained significant revenue

• low income families gained from Medicare programs but benefits erased by high inflation

alternative policies - Vietnam War & Great Society

• balanced budget expansion

• contractionary monetary policy (but political pressure was put on the Fed)

example for effective contractionary fiscal policy

1990s Clinton Surplus

context - 1990s Clinton Surplus

• recovery from 1991 recession

• “dot-com” boom, concerns of overheating

policy - 1990s Clinton Surplus

Omnibus Budget Reconciliation Act 1993

• to cool the economy

• raised top marginal income tax rate from 31% to 39.6%

• caps on government spending

tax rate change - 1990s Clinton Surplus

top marginal income tax rate from 31% to 39.6%

macroeconomic goals - 1990s Clinton Surplus

• low inflation despite GDP growth

• sustainable debt: budget surplus, first in decades

• crowding in = growth due to private sector investment

strength - 1990s Clinton Surplus

• crowding in

• fiscal sustainability, pay own debt

• equality as well probably

constraint - 1990s Clinton Surplus

political pressure → passed by only one vote

was seen as “punishing success”

stakeholders - 1990s Clinton Surplus

higher income earners experienced loss of disposable incomes

example for ineffective contractionary fiscal policy

Vietnam war tax surcharge 1968

context - Vietnam war tax surcharge 1968

inflationary gap, overheating economy due to military spending

policy - Vietnam war tax surcharge 1968

temporary 10% income tax surcharge, but inflation continued to rise

constraints - Vietnam war tax surcharge 1968

• permanent income hypothesis → “temporary” so viewed as such, did not view long-term wealth as changed, maintained consumption

• legislative time lags → 2 years of debate, by then inflationary expectations were high, workers already demanding higher wages

• sustainable debt → tax hike too small to balance budget

stakeholders - Vietnam war tax surcharge 1968

• low to middle income consumers paid higher taxes + higher prices for goods

• fed had to raise rates

alternative policies to Vietnam war tax surcharge 1968

• spending cuts

• contractionary monetary policy