new industries

and new
methods of
production led
to prosperity

more people
invested in the
stock market
Installment
buying

- prices of farm product fell

- workers could not buy goods as
fast as the industry produced them
because their wages were low.
- workers reduced their spending to
hold down their debts
Stock Market Crash

- left millions of people in debt

- stopped making new purchases
- big drop in consumer spending
- nations could not repay their debts
- scarce credit
- less borrowing
- lower prices
- more bankruptcies

Box 7, 8, 9, 10
- Stock values plummeted
- stockholders were wiped out
- banks and factories shut down
- millions of Americans were left jobless and penniless
- the banking system had collapsed
- nearly 25% of the labor force was unemployed,
- prices and productivity had fallen
- reduced prices and reduced output
- lower incomes in wages, rents, dividends, and profits
- factories were shut down
- farms and homes were lost to foreclosure, mills and
mines were abandoned
- people went hungry.
- inability of the people to spend or to save

Monetary Inefficiency

Reluctant Lenders
Low Expectation
Liquidity Trap
Short- vs. Long-term Rates
Time Lags

Box 11, 12, 13, 14

-

imposed rationing
recruited 6 million defense workers
(including women and African
Americans)
drafted 6 million soldiers
ran massive deficits

Government Expenditure

Fiscal Policy
change in government expenditure
change in tax
change in transfer payment

Aggregate Demand Affects Production or GDP

Macro Problem: Weak Economy (Unemployment)
Policy Strategy: Fiscal Stimulus
- Increase GE
- Decrease Tax
- Increase Transfer Payment
Macro Problem: Overheated Economy (Inflation)
Policy Strategy: Fiscal Restrain
- Decrease GE
- Increase Tax
- Decrease Transfer Payment

Macro Problem: Weak Economy (Unemployment)

Policy Strategy: Fiscal Stimulus
Fiscal Options
Increase Gov't Purchases
Cut Taxes
Increase Transfer
Payments

Amount
Desired FS AD shortfall
multiplier
DFS
MPC
DFS
MPC

Macro Problem: Overheated Economy (Inflation)

Policy Strategy: Fiscal Restraint
Fiscal Options

Amount

Reduce Gov't Purchases

DFR

increase Taxes

DFR
MPC
DFR
MPC

Reduce Transfer
Payments

excess AD
multiplier

The recession in major export markets squeezed

Philippine export revenues. Export receipts from
January to November 2009 contracted by 24.6
percent to 35 billion U.S. dollars, while the industry
sector fell 2 percent. That, combined with the
typhoons Ketsana (0ndoy) and Parma (Pepeng) that
slashed farm production in the fourth quarter and
slowed full year farming, fishery and forestry growth
to 0.1 percent, battered last year's economic
performance.
The official GDP figures, which were released by
the government on Thursday, hit the lower end of the
official target of 0.8-1.8 percent year-on-year growth.
source:http://english.peopledaily.com.cn

How much Fiscal Stimulus is Need?

Year
2009

GDP target
In millions
1,654,753

Expected GDP Gap

Fall
In millions
1.8%
29785.56

MPC of the Philippines is=0.835

source:ww.gsid.nagoya-u.ac.jp

Seatwork

The government wants to decrease

aggregate demand to P300B to lessen
inflation. If the MPC is 0.90, how much
government purchases or taxes should be
restraint to solve the inflation? (show your
solutions and explain your answer)

Inefficiency of Fiscal Policy

Crowding out
A reduction in private-sector borrowing (and
spending) caused by increased of government
borrowing.

Time Lags
Types

of Time lag:

Recognition Time Lag government difficult to

recognized recession
Action Time Lag the process of applying
Effect Time Lag the effect of the fiscal policy

Pork Barrel Politics

Economic Effects of Deficit

(too much fiscal stimulus)
Burden of Debts

Kinds of debts
Internal

Debts

Treasury

bonds or bills (T-bills /Tbonds/securities)- can create crowding out

External

Debts

No crowding out if debts are repaid with

exports of real goods and services

Refinancing

- The issuance of new debt in payment of

debt issued earlier

Economic Effects of Deficit

Burden
Debt
The

of Debt

Service

interest required to be paid each year

on outstanding debt

Economic Effects of Deficit

Burden

of Debt

Opportunity Cost
Crowding

Out
Economic Growth
If

debt-financed government spending crowds

out private investment, generations will bear
some of the debt burden
Refinancing hurdles economic growth

Economic Effects of Deficit

Deficit/ Debts

Ceiling

An explicit, legislated limitation on the

size of the budget deficit/ debt

Economic Effects of Surplus

Crowding in
Potential Uses of budget Surplus
Spend it

on goods and services

Cut taxes
Increase money Transfer
Pay off old debt (save it)

Fiscal/Monetary Policy and

Business Cycle
Output/ real GDP

Prosperity

Depression
Depression
Recession

Recession
Year

Fiscal/Monetary Policy and

Business Cycle
Output/ real GDP

Prosperity

Restraint

Depression
Depression
Recession

Recession
Year

Stimulus

Stimulus

With fiscal and monetary inefficiency

how/which/what policy can stabilize that
economy?

Fiscal Policy over Monetary Policy

Short

Run Business Cycle

Inflation

Monetary vs Fiscal

Easier to implement
Slower Effect

Difficult to Implement
Faster Effect

Objectives of the
Economy:

MACROECONOMICS
Stable Price
Increasing Production

Low

unemployment
Balance of Payment