Transcript Fiscal policy

Government policy
Breaking News
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Mario Draghi (3 September 1947), President of
the European Central Bank since 1 November
2011
PHD in the MIT
Vice chairman and managing director of
Goldman Sachs International and a member of
the firm-wide management committee (2002–
2005)
Loukas Papadimos (1947)
Prime minister of Greece since
november 2011
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PHD in the MIT
1994 – 2002 : governor of the Bank of Greece
(when Greece cheated to enter the
Eurozone)
Mario Monti (1943) : new Italian
Premier
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Studied in Yale (under Jame Tobin)
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European commissioner
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International adviser to Goldman Sachs since 2005
What can the government do ?
Monetary policy : money supply and interest
rate (this is in the hands of Mr Mario Draghi)
Fiscal policy : Taxes and spending (very
difficult in a high debt configuration)
Nationalisation
Regulation
Like in football, you can be a player, the
referee or the author of the rules.
Government Purchases (G), Net Taxes (T),
and Disposable Income (Yd)
AE = C+I+G
Budget deficit ≡ G − T
Saving/investment approach to equilibrium : S + T = I + G
Balance of payments
The record of all financial moves due to
export, import, investment, travels...
Two main accounts
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Current account
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Capital account
Current account Balance
exports - imports + net income from assets
- net transfers to foreigners (remittance)
Méthodologie de la balance des
paiements, Banque de France
(novembre 2005)
Par convention, un chiffre positif (crédit) correspond à une
exportation ou à une recette lorsqu’il se rapporte à une
opération réelle, c’est-à-dire à des échanges de biens, de
services et des paiements de revenus. Un chiffre négatif
(débit) représente une importation ou une dépense.
S’agissant du compte financier, un chiffre positif reflète
une diminution des avoirs ou une augmentation des
engagements, qu’ils soient financiers ou monétaires.
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Un chiffre négatif représente une augmentation des avoirs
ou une diminution des engagements. Ainsi, un chiffre
négatif au titre des avoirs de réserve signifie-t-il que les
réserves ont augmenté.
Capital account Balance
records the flow of capital
borrowing, lending, selling, purchasing
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Foreign funds entering a country from the
sale or purchase of tangible assets - as
opposed to non-physical assets such as stocks
or bonds - are recorded in the capital
account of the BOP.
The account is positive when we sell the
country's assets to foreigners.
Capital account deficit
= More investment abroad than saving at home
Investing for the future or living on other
people's expenses ?
But dividends are also debits in the current
account (and sign of a healthy economy).
Source : http://www.banque-france.fr
Charles Gave (http://www.geostrategique.net)
Ce qui veut dire en termes simples que la balance commerciale
d’un pays ou les sociétés s’organisent selon les principes de la
plate forme, ne veut plus rien dire, ce qui ne manque pas de
piquant quand l’on voit la baisse actuelle du dollar engendrée,
parait-il, par les déficits de la balance commerciale…
Les marchés n’ont pas compris que nous sommes en train
d’assister à la privatisation des balances commerciales.
Ce qui veut dire en termes simples que quiconque reste
enfermé dans la logique de la comptabilité nationale pour
effectuer ses investissements va tout droit à la ruine.
It is important to understand the
reasons behind the deficit
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Bad productivity ?
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Military expenses ?
Many different types of deficit.
Economists say : Do not mix current account
deficit and public deficit.
I do.
The meaning of the sovereign debt
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Today, sovereign debt in France for instance
is used to subsidize low productivity sectors.
But remember the circular flow.
Money comes from competitive sectors...
goes to households... and finally goes to
China !
That's why it is difficult to separate the
different debts.
Distortions ?
The government can affect investment behavior through
its tax treatment of depreciation and other tax policies.
Market is the defining institution of capitalism : it should
bring the economy to an equilibrium.
Markets allocate ressources and opportunities among
competitors. But they need rules.
Market failure ?
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Markets should reflect costs and benefits but
- sometimes – they fail to do so.
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Externalities
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Incomplete information
Government in the Economy
The Determination of Equilibrium Output (Income)
Y=C+I+G
TABLE 24.1 Finding Equilibrium for I = 100, G = 100, and T = 100
300
100
200
250
 50
100
100
450
 150
Output ↑
500
100
400
400
0
100
100
600
 100
Output ↑
700
100
600
550
50
100
100
750
 50
Output ↑
900
100
800
700
100
100
100
900
0
Equilibrium
1,100
100
1,000
850
150
100
100
1,050
+ 50
Output ↓
1,300
100
1,200
1,000
200
100
100
1,200
+ 100
Output ↓
1,500
100
1,400
1,150
250
100
100
1,350
+ 150
Output ↓
Multiplier for policy-makers
The Government Spending Multiplier
The tax Multiplier
The Balanced-Budget Multiplier
But taxes depend on income : the effect of the multiplier is lower
than in a simple model
Il me semble qu’on en revient ici encore aux limites des
raisonnements macroéconomiques trop généraux : ils ne prennent
pas en compte l’hétérogénéité des investissements publics
envisageables. De la même manière, raisonner en terme de « baisse
d’impôts » de manière globale n’a pas trop de sens : certaines
baisses ciblées auront plus d’impact que d’autres. Enfin, un tout
dernier point mérite d’être souligné. Rien ne dit que la valeur des
différents multiplicateurs soit la même en période de récession
qu’en période de croissance « normale ». Il serait bon de voir s’il n’y
a pas des travaux cherchant à mesurer et comparer cette valeur
suivant le contexte économique.
Fiscal Policy at Work: Multiplier Effects
The Government Spending Multiplier
TABLE 24.2 Finding Equilibrium after a Government Spending Increase of 50 (G Has Increased from
100 in Table 9.1 to 150 Here)
(1)
(2)
Output
Net
(Income) Taxes
Y
T
(3)
(4)
Disposable Consumption
Income
Spending
Yd ≡Y  T C = 100 + .75 Yd
(5)
Saving
S
Yd – C
(6)
(7)
Planned
Investment Government
Spending
Purchases
I
G
(8)
(9)
(10)
Planned
Unplanned
Aggregate
Inventory
Adjustment
Expenditure
Change
to
C + I + G Y  (C + I + G) Disequilibrium
300
100
200
250
 50
100
150
500
 200
Output ↑
500
100
400
400
0
100
150
650
 150
Output ↑
700
100
600
550
50
100
150
800
 100
Output ↑
900
100
800
700
100
100
150
950
 50
Output ↑
1,100
100
1,000
850
150
100
150
1,100
0
1,300
100
1,200
1,000
200
100
150
1,250
+ 50
Equilibrium
Output ↓
Fiscal policy and bad externalities
Common Agricultural Policy
48% of EU's budget.
Covers Brittany with pigs factories
Covers Alsace with corn fields
Covers Brittany's beach with green algae
Empties the water tables
Destroys African agriculture
A complex equilibrium
automatic stabilizers Revenue and expenditure items in the federal
budget that automatically change with the state of the economy
in such a way as to stabilize GDP.
automatic destabilizer Revenue and expenditure items in the
federal budget that automatically change with the state of the
economy in such a way as to destabilize GDP
fiscal drag The negative effect on the economy that occurs when
average tax rates increase because taxpayers have moved into
higher income brackets during an expansion.
Deficit Targeting as an Automatic Destabilizer
Deficit targeting changes the way the economy responds to negative
demand shocks because it does not allow the deficit to increase.
The result is a smaller deficit but a larger decline in income than would have
otherwise occurred.
Monetary policy
No inflation
Steady growth (no business cycle)
Productivity and real GDP per worker growth
Capacity utilisation, employment
Today most of the central banks target inflation
and not money growth.
http://www.econlib.org/library/Enc/MonetaryPolicy.html
Everything gets more complicated
After the 1980-1981 recession, the Europeans
acted like monetarist (afraid of inflation) and
the Americans like keynesians (pumping money
into the system to boost it).
There really seems to be a trade-off between
inflation and unemployment.
The costs of inflation
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Shoe leather cost (for going to the bank)
Tax distorsion (bracket creep*) : real taxes
rise faster than the purchasing power.
Money illusion (leads to bad decision)
Inflation variability : negative effect on
bonds (with fixed nominal payment)
*progression a froid, effet multiplicateur de l'inflation
The benefits of inflation
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Seignorage : the tax on money
Makes adjustements easier through money
illusion (for instance : lowering real wages)
Makes negative real interest rate possible
Monetarist-Keynesian controversy
(again)
For monetarists, injection of new spending just
brings inflation.
For Keynesians, raising the demand will bring
back to work the involuntarily unemployed.
Time Lags Regarding Monetary and Fiscal Policy
An expansionary policy that should have begun to take effect at point A does
not actually begin to have an impact until point D, when the economy is
already on an upswing.
Hence, the policy pushes the economy to points E and F (instead of points E
and F).
Income varies more widely than it would have if no policy had been
implemented.
Time Lags Regarding Monetary and Fiscal Policy
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Recognition lag : the time policy maker need
to understand what is going on.
Implementation lag : the time need to make
the decision and to start action.
Response lag : the time it need to be really
effective.
st
1
of january 1999 : the ECB takes
over the monetary policy
One goal : keep the inflation under 2%
One mean : the interest rate
But deregulation makes this mission difficult
The Taylor rule
John Taylor (1946)
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A rule for monetary policy that links
inflation, output and the interest rate.
Central banks target inflation rate and no more
nominal money growth.
http://jamesgoodeonthemoney.blogspot.com/
Is speculation bad for the economy ?
http://stopgamblingonhunger.com/