Economic Growth &Budget Surplus/Deficit

Determinants of Growth• Supply factors

–Increases in quantity and quality of natural resources

–Increases in quality and quantity of human resources

–Increases in the supply (or stock) of capital goods

–Improvements in technology

LO3 25-3

Determinants of Growth• Demand factor

–Households, businesses, and government must purchase the economy’s expanding output

• Efficiency factor–Must achieve economic efficiency and

full employment

LO3 25-4

a

EconomicGrowth

b

D

Production Possibilities

LO3

B

A

C

Consumer Goods

Cap

ital G

oods

From Chapter 1:

25-5

Labor and Productivity

• Size of employed labor force

• Average hours of work

LaborInputs(hours ofwork)

• Technological advance

• Quantity of capital

• Education and training

• Allocative efficiency

• Other

LaborProductivity(average output per hour)

RealGDP

Real GDP = hours of work x labor productivity

x =

LO3 25-6

Accounting for Growth

• Factors affecting productivity growth–Technological advance (40%)–Quantity of capital (30%)–Education and training (15%)–Economies of scale and resource

allocation (15%)

LO3 25-7

Final Thought on Growth

Remember that growth is not just a temporary increase in aggregate demand. It is an increase in long-run aggregate supply, matched with an increase in aggregate demand sufficient to purchase the increased output.

LO3 25-8

Explain how fluctuations in the business cycle affect tax receipts.

The higher Real GDP, the more tax revenue the government collects, since it collects taxes primarily on business and personal income.

Explain what a budget deficit and surplus are.

1. Budget deficit: The government spends more than it takes in in taxes in a given fiscal year. The deficit is the amount the government has to borrow in one year.

2. Budget surplus: When the government takes in more in taxes than it spends in a given fiscal year.

Define “national debt.”

The sum total of every previous year’s deficits and surpluses.

Year Deficit or Surplus National Debt2011 - $1 billion $1 billion2012 - $2 billion $3 billion2013 +$1 billion $2 billion2014 -$3 billion $5 billion

The U.S. Public Debt

• $18.1 trillion • The accumulation of years of federal

deficits and surpluses• Owed to the holders of U.S. securities

• Treasury bills• Treasury notes• Treasury bonds• U.S. savings bonds

LO4 30-12

Explain how an increase in the budget deficit affects real interest rates.

You know this: loanable funds market – U.S. government to borrow more money, that increases the demand for loanable funds, that increases the interest rate.

Identify the fiscal policy options the government could pursue to reduce its budget deficit.

1. Cut spending.2. Raise taxes.

Identify the monetary policy options the federal reserve could use to counteract the effects of contractionary fiscal policy.

They would need to expand the money supply:1. Buy bonds.2. Lower the discount rate.3. Lower the reserve requirement.

Explain how automatic stabilizers work.

In good economic times:1. Tax receipts go up (progressive tax system

means that as incomes are higher, people actually pay a higher percentage of their income in taxes.

2. Transfer payments go down.3. Budget deficit goes down (or there is a

surplus).

Explain how automatic stabilizers work.

In bad economic times:1. Tax receipts go down (progressive tax

system means that as incomes are lower, people actually pay a lower percentage of their income in taxes.

2. Transfer payments go up.3. Budget deficit goes up.

Built-In Stabilizers

G

T

Deficit

Surplus

GDP1 GDP2 GDP3Real domestic output, GDP

Gov

ernm

ent e

xpen

ditu

res,

G,

and

tax

reve

nues

, T

LO2 30-18

Explain how an automatically balanced budget affects automatic stabilizers.

1. In good times you have a budget surplus. So to balance the budget you would have to increase spending or decrease taxes. Both of those would expand Aggregate Demand even more, leading to inflation.

2. In bad times you have a budget deficit. To balance the budget you need to cut spending or increase taxes. Both of those would reduce Aggregate Demand, worsening the recession.