Multiplier effect & policy

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22 Terms

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expansionary fiscal policy

laws that reduce unemployment and increase GDP (close a recessionary gap)

increase government spending, decrease taxes, combinations of two

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contractionary fiscal policy

laws that reduce inflation, decrease GDP (close a inflationary gap)

decrease government spneding

increases taxes

combos of the two

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marginal propensity to come

how much people consume rather than save when there ia change in income

change in consumption/change in income

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marginal propensity to save

how much people save rather than consume when there is a change in income

change in savings/change in income

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Calculating the spending mutliplier

spending multiplier=1/MPS

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TOTAL change in GDP

multiplier x initial change in spending

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simple tax multiplier

MPS x 1/MPS

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Problems with Fiscal policy

national debt= accumulation of all the budget deficits over time

budgeted deficit: when the government’s expenditures exceeds its revenue

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barter system

goods and services are traded directly. There is no money exchanged

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commodity money

something that performs the function of money and has intrinsic value

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fiat money

something that serves as money but has no other value or uses

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first function of money

a medium of exchange: money can easily be used to buy goods and services with no complications of barter system

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second function of money

a unit of account: money measures the value of all goods and services and acts a measurement of value

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third function of money

money allows you to store purchasing power for the future

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liquidity

ease with which can assent can be accessed and used as a medium of exchange

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Highest liquidity

  1. currency in circulation

  2. checkable bank deposits

  3. traveler’s checks

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federal reserve

created in 1913, the FED’s job is to regulate banks and to conduct monetary policy

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fractional reserve banking

when banks hold only a small portion of deposits to cover potential withdrawals and then loans the rest of the money out

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demand deposits

money deposited in a commerical bank in checking accounts

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required reserves

the percent the bank must hold by law

Required Reserves=Total Deposit Liabilities×Reserve Requirement Ratio

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excess reserves

the amount the bank can loan out

Excess Reserves=Total Reserves−Required Reserves

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money multiplier

1/reserve requirement (ratio)