Curiosity 12.1: What Are New Classicals and New Keynesians?

Curiosity 14.1: What Is the Full-Employment Budget?
When tax revenues fall as the economy enters a recession, the government budget moves automatically toward deficit. Two implications of this process are of note:
1. Many years ago, when politicians feared deficits, such a deficit triggered calls from politicians to decrease government spending or raise taxes to eliminate this deficit. This contractionary fiscal policy would be inappropriate because it would make the recession worse.
2. The budget deficit is misleading as an indicator of government discretionary fiscal policy because it is not necessarily caused by a conscious government policy action of increasing spending or decreasing taxes. Consequently, any effort to measure the strength of fiscal policy by matching up budget deficits with economic activity Would be inaccurate.
The full-employment budget is actual government spending minus tax revenues that would be generated by a fully employed economy. This concept was developed to deal with the two problems that we have noted noted:
1. Although a recession decreases tax revenues and pushes the actual budget toward deficit, it ''does not change the full-employment budget (because when calculating the full-employment budget, full-employment tax revenues are used). Consequently, politicians averse to budget deficits could be persuaded to permit an actual budget deficit on the grounds that the full-employment budget is in balance. This argument was used during the early 1960s when the Keynesian policy view reached the height of its popularity.
2. By eliminating automatic tax revenue changes caused by income changes, the full-employment budget allows fiscal policy initiatives to be measured accurately by changes in the full-employment budget budget. We can thus see more clearly what is happening with fiscal policy and more accurately measure the influence of fiscal policy.

14.2
The Structural Deficit
One implication of financing a budget deficit by selling bonds to the public is that as the budget deficit continues, the national debt grows. How worried should we be about this growing debt? Although there is no unique answer to this question, there is some consensus that we should worry about a budget deficit only if its size is such as to cause a long-run rise in the ratio of the publicly held national debt to nominal GDP. This ratio is a crude measure of our capacity to service the national debt, and if it continues to grow, at some stage the economy will not have enough GDP to be able to service the debt, so a major crisis will ensue.
The structural deficit is the part of the current budget that in the long run increases the ratio of the publicly held national debt to nominal GDP. Three adjustments must be made to the current budget deficit to calculate the structural deficit:
1. A correction is needed for cyclical effects that hinder the current deficit's ability to reflect any long-run trend accurately. For example, if GDP drops below its long-run trend average by $100, it is estimated that tax receipts fall by $25 and government spending

 



Macroeconomic Essentials. Understanding Economics in the News 2000
Macroeconomic Essentials - 2nd Edition: Understanding Economics in the News
ISBN: 0262611503
EAN: 2147483647
Year: 2004
Pages: 152

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