Fiscal Policy essay

Government regulation of the economic is an extremely controversial issue, being the subject of numerous debates. Fiscal policy can be defined as “government spending policies that influence macroeconomic conditions” (“Fiscal Policy” n.pag.). To influence the country’s economy, the government has two major fiscal instruments: revenue collection, or taxation, and expenditure, or spending. Government spending includes transfer payments, current spending (expenditure on health, education, defense, and other vital goods and services) and capital spending (investing money in the basic systems and services, such as roads, hospitals, schools) (“Tools of Fiscal Policy” n.pag.). According to the report about U.S. federal spending during fiscal year 2012, government spent $802 billion (23%) on Medicare and Medicaid, $768 billion (22%) on social security, $679 billion (19%) on defense department, $615 billion (17%) on discretionary, $461 billion on other mandatory, and $223 billion (6%) on net interests (Schmidt n.pag.).

 

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According to income/spending multiplier concept, “small changes in investment or government spending can create larger changes in total output” (“Macroeconomics - The Multiplier Effect” n.pag.). Being involved into a circular movement, income and spending are closely connected. The growth of expenditures from consumers, investment or the government causes a rise in economic output. To illustrate, a businessman plans to build a factory in the outskirts of a small town. During the first year, he spends on the development of his enterprise $5 million. This money is to go to the people who build this factory. Then, these individuals will spend approximately $4 million on different goods and services. In a circular movement, about $3.2 million of the received amount will be spent on different goals. As a result, the multiplier effect causes the significant increase of total output.

Automatic stabilizers are “policies or institutions … that automatically tend to dampen economic cycle fluctuations in income, employment, etc., without direct government intervention” (“Automatic Fiscal Stabilizers” n.pag.). For example, in the period of recession, the growth of unemployment is observed. Therefore, it leads to the growth of people requiring unemployment insurance. As a result, government spending would increase. In its turn, it causes the growth of real GDP and reduction of unemployment as a final stage of the cycle.

Despite significant achievements, nowadays, there are brisk debates over the issue of government intervention into the economy. Three famous economists claim that “the economy is growing because the free market system works, not because of an interventionist government” (Bealieau n.pag.). Having studied historical data, world’s profound economists came to the conclusion that “when the US Government spends a dollar during periods of high unemployment, the multiplier effect of that dollar is less than one” (Bealieau n.pag.). Its economic benefit fluctuates between $0.54 and $0.64. In case of increasing of unemployment above 6.5%, the economic benefit slightly grows and ranges between $0.63 and $0.78 (Bealieau n.pag.). In fact, “a dollar borrowed or taxed from the private sector loses power when filtered through the federal government” (Bealieau n.pag.). Therefore, the benefits do not correspond to the cost in most cases.