Fiscal policy
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Fiscal Policy. Government Intervention in the Free Market ?. AD 2. However, Wages did not adjust. Classical Model Failure : The Great Depression. Real GDP ↓ 27% Unemployment 3% → 25% Price Level fell. Price Level. LRAS 1. AD 1. Real GDP. John Keynes 1883-1946.

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Fiscal Policy

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Fiscal policy

Fiscal Policy

Government Intervention in the Free Market?


Fiscal policy

AD2

However,

Wages did not adjust

Classical Model Failure: The Great Depression

Real GDP ↓ 27%

Unemployment 3% → 25%

Price Level fell

Price

Level

LRAS1

AD1

Real

GDP


John keynes 1883 1946

John Keynes 1883-1946

  • Argued Government intervention was necessary to moderate the “ups & downs” of business cycle

    • Recessions could be long or permanent

  • Dominated economics during Great Depression


2 types of fiscal policy

AD

AD

2 Types of Fiscal Policy

  • Expansionary Policy

    • Used in recessionary gap

  • Contractionary Policy

    • Used in inflationary gap

Increase Gov’t Spending

Decrease Taxes

=>

Decrease Gov’t Spending

Increase Taxes

=>


Fiscal policy introduction worksheet

LRAS1

Price

Level

SRAS1

Real

GDP

AD1

Fiscal Policy Introduction Worksheet


Fiscal policy

Recessionary Gap

LRAS1

LRAS1

Price

Level

Price

Level

SRAS1

SRAS1

Real

GDP

Real

GDP

AD1

AD1

Inflationary Gap

Economy above full output

Economy below full output

Contractionary Fiscal Policy

Gov’t would raise income taxes => (C↓)

Decrease Gov’t Spending (G↓ )

End result: AD shifts left, debt falls

Expansionary Fiscal Policy

Gov’t would lower income taxes => (C↑) Increase Gov’t Spending (G↑)

End result: AD shifts right, debt rises


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