Which Has Larger Effect on Aggregate Demand, An Increase in Government Expenditure or an Equal Decrease in Tax? Explain.
In a nutshell, fiscal policies in refer to regulations that involve deliberate government efforts to spur economic growth. In brief, there are two main fiscal policies that governments may use to shape and direct their economies, the expansionary or contractionary policy. Basically, the policies entail increasing or decreasing government expenditure or taxes. Primarily, the method that the government selects is based on the underlying economic conditions of the country. Generally, aggregate demand refers to a country’s total demand (Hoover, 2012). Consequently, aggregate demand is calculated by the sum of the country’s demand sectors which are private consumption (C), investment (I), government expenditure (G), and net export (NE). Basically, net exports are the total exports (X) less import (M). In light of this aggregate demand (AD) is calculated as follows:
Notably, the effect of an increase in government expenditures has a similar impact with a decrease in tax expenditure in an ideal economy. Evidently, government expenditures are financed using taxes. Accordingly, an increase in taxes implies there is a reduction in consumers’ disposable income which leads to a reduction in private consumption (Hoover, 2012). Similarly, a decrease in taxes leads to an increase in consumers’ disposable income, in turn, this leads to more private consumption (C). Generally, this is calculated as follows:
Private consumption= Autonomous consumption+ Marginal propensity to consume
Marginal propensity to consume= cYd where Yd= disposable income, c=consumption function
Notably, an increase in government expenditures results in increased demand for development goods. Consequently, this leads to an increase in total demand in the country (Hoover, 2012). Noteworthy, the government finances its budget using taxes. Accordingly, an increase in government expenditures is associated with an increase in taxes and a decrease in consumers’ disposable income.
To Eliminate Recessionary Gap, Which Fiscal Policy Should The Government Pursue? Specify
Namely, there are two fiscal policies, the expansionary and contractionary policies. In essence, the expansionary policy is used to stimulate economic growth during a recession. On the contrary, the contractionary policy is used to slow down economic growth when there is too much inflation. In light of this, the government should use the expansionary fiscal policy to overcome an economic recession (Siedman, 2015). Specifically, the government may construct more roads and improve the electricity supply to industries.
In essence, the use of expansionary policy such as constructing more roads and increasing electricity supply will lead to more employment. Generally, the employed workers will have more disposable income. Consequently, this will lead to higher demand for private consumption. Similarly, the increased development by the government will lead to an increase in investments by suppliers who will be facilitating government developments (Siedman, 2015). Notably, the government development on roads will require investors to supply cement, steel, machinery and various managerial services. Correspondingly, an increase in government expenditure will indirectly lead to an increase in investment demand which will result in an overall increase in economic growth.
As an Advisor to a Presidential Candidate Which School of Thought Between Keynesian and Adam Smith School Of Thoughts Would Shape Your Economic Plans? Explain.
Basically, the economic plans to overcome the recession will be formulated according to Keynesian school of thought. Notably, Adam Smith school of thought is the classical economic theory. In essence, this theory says that government should have a minimum intervention on the economic development (Langdana, 2004). Importantly, this theory assumes that the market can regulate itself and reach full employment levels. Apparently, this model assumes various economic realities such as monopolies that may make an economy not attain full employment levels do not exist. In light of this, this economic model is ineffective in influencing economic growth in a country.
Conversely, the Keynesian school of thought espouses that the governments should intervene in economies through fiscal policies to encourage economic development. Additionally, the central banks may intervene through monetary policies. Moreover, this model acknowledges that economic growth is influenced by aggregate demand in a country (Langdana, 2004). Further, the aggregate demand is influenced by various economic factors which may lead to it to be below the country’s economic potential. Ostensibly, these factors may result in erratic patterns which may lead to unemployment, high inflation rates, low productivity, and little economic progress. In such cases, the Keynesian school of thought acknowledges the need for government intervention. On the contrary, the classical model assumes that the situation will automatically correct itself.
In a nutshell, the economic plans to overcome the recession will use a combination of monetary policies, and fiscal policies. Notably, Keynesian school of thought espouses that expansionary monetary policies lead to increased supply of loanable funds. Consequently, this leads to a reduction in interest rates. Further, the drop in interest rates increases aggregate supply of funds for investments which lead to economic growth. Moreover, the central bank may use some of its financial instruments such as the reserve rate, discount rate, and open market operations to control interest rates, and consequently, control the inflation rates. Furthermore, fiscal policies posit that the government should use its power to increase aggregate demand in the country. In brief, this may entail either increasing or decreasing government expenditures or taxation levels.
The Majority of Lobbying is Based on Fiscal Constrain. Discuss if Lobbying is Useful or Should it be Eliminated.
Primarily, lobbying is not useful and should be eliminated. In a nutshell, the use of lobbying implies the transfer of the use of economic knowledge and judgment in making prudent financial decisions from the government economists to the general public. Evidently, most individuals will prefer the popular ideas even if they are inappropriate for the economy (Beetsma, Favero, & Missale, 2007). Furthermore, lobbying creates a window through which politicians may promise the public that they will implement certain popular agendas once they are elected. Worse still, this may be done without looking at the underlying economic conditions.
Notably, lobbying leads to a tendency of politicians diverting resources from long-term development projects to popular short-term projects. Generally, politicians are political appointees, and as a result, they always have a conflict of interest when advocating for certain fiscal developments. Ostensibly, most politicians prefer engaging in short-term development goals that they can showcase during the electoral period as compared to long-term developments. Additionally, most politicians may not be willing to advocate for positive national developments that negatively affect their electoral region. For example, the construction of a dam may lead to an overall positive economic development. Nonetheless, it may lead to displacements of individuals in the location where it is constructed. In this case, the politician from the region that the dam is to be built may oppose the project.
In summary, the government should make fiscal policies without lobbying. In essence, it should trust its economists in the formulation of development goals. Furthermore, the economists also consider social factors that are usually discussed in the lobbying process. Consequently, the use of economists will not undermine the importance of considering societal views when formulating economic policies.
Beetsma, R., Favero, C., & Missale, A. (2007). Monetary policy, fiscal policies and labour markets: Macroeconomic policy making in the EMU. New York NY: Cambridge University Press.
Hoover, K. (2012). Applied intermediate macroeconomics. New York NY: Cambridge University Press.
Langdana, F. (2004). Macroeconomic policy: Demystifying monetary and fiscal policy. Norwell, Massachusetts: Kluwer Academic Publishers.
Siedman, L. (2015). Automatic fiscal policies to combat recessions. London: Routledge