Comparative economic policy Unit 2

Minimum state intervention

Liberal state: The government only does the basics: protect people, help the very poor, and provide things like defense. Most of the economy is left to private businesses. US

Medium state intervention

Welfare state: The government helps more than just with the basics. It provides welfare, protects the environment, and gives financial support to people in need. Germany

Dinamic state intervention

Market socialism or socialist capitalism. The government actively plans and works with businesses to shape the economy. It also redistributes property or wealth, not just income. This model combines capitalism with some elements of socialism. China

Purpose of taxes

Funds policies, Basis for political and social consensus, reduces inequalities, penalizing function, counter cyclical function

Countercyclical fiscal policy

stabilization of the economy and Promoting growth to reach full-employment GDP

Expansionary fiscal policy

Slowing economy: Reduce taxes, increase spending

Contractive fiscal policy

Overheating economy: Raise taxes, Reduce spending

Fiscal multiplier

shows how much GDP (Y) increases when the government increases spending or cuts taxes

automatic stabilizers

automatic stabilizers are features of the structure of modern government budgets, particularly income taxes and welfare spending, that act to damp out fluctuations in real GDP

Primary balance

excludes interest payments to understand current fiscal policy better

Fiscal budget

A fiscal budget is a plan that shows how a government earns and spends money during a certain time.

It compares:

Income (from taxes and other sources)

and spending (on public services like healthcare, education, roads, etc.). Has cyclical (automatic) and structural (active) component

Fiscal impulse

measures whether the government is becoming more or less expansionary

Monetarist think that monetary policy only affects

monetary variables like inflation, interest rates, money supply

Keynesians think that monetary policy only affects

real variables like employment, output, GDP

crowding out

Fiscal policy influences monetary policy. Government borrows a lot, the central bank may have to raise interest rates

Neoclassical view about money issuance

Issuing money shifts LM to the right so more liquidity in the market--> immediately inflation

Keynesian view about money issuance

LM to the right when money is created. Causes inflation only if the economy is at full capacity

Neoclassical view about Debt Issuance (B)

Government borrowing increases the demand for loanable funds. LM to the left. Results crowding out-->public borrowing pushes out private investment

Keynesian view about Debt Issuance (B)

Debt issuance can cause wealth effect-->increases consumption--> IS to the right--> more demand

LM right

more liquidity (from printing money)

LM left

less liquidity (crowding out from debt)

IS right

More demand (from wealth or stimulus)

Monetarist view

Fiscal policy affects real output only in the short run. Long run no effect on real economic growth. Monetary policy more powerful

Monetarist view about financing deficit with taxes

short term tax changes have limited impact. long term: not sustainable

Monetarist view about financing deficit with money creation

Short term: can increase output and demand

Long term:

if nothing: inflation

acts: no lasting effect on real output

Monetarist view about financing deficit with borrowing

Short term: unclear

long term: no net increase in output, just shift who spends (crowding out). Fiscal policy should be limited and not used actively to manage the economy

Policy Recomendation

Government should aim to reduce the deficit and balance the budget

Modern Monetary Theory MMT

argues governments can and should use fiscal deficits if they control their own currency.

Budget

Main instrument of fiscal policy. How it is financed decides who influences policy