Question

Explain the the US Fiscal Policy in Macroeconomics

Answer 1

Fiscal policy impacts aggregate demand, wealth distribution and the ability of the economy to generate goods and services. In the short term, changes in spending or taxes will affect both the magnitude and the demand pattern for goods and services. Over time, this aggregate demand influences an economy's resource allocation and productive capacity by affecting the returns to production factors, the development of human resources, the allocation of capital spending, and investment in technological innovations.

Tax rates also influence both the size and the distribution of productive capacity through their impact on net labor, savings and investment returns. Macroeconomics has long included two general views of the economy and the ability of fiscal policy to stabilize or even affect economic activity. The view of equilibrium sees a rapid return of the economy to full capacity if disruptions displace it from full employment. Consequently, shifts in fiscal policy, or even monetary policy in that respect, have little ability to stabilize the economy.

Fiscal policies that increase the deficit may result in future taxes becoming higher than they would otherwise have been, but they may also improve future living standards depending on the impact of the policies on opportunities to invest in human or physical resources. Policies that consume slack resources or encourage investment may reduce government savings as reflected in the larger budget deficit, while increasing total savings as reflected in the higher capital formation rate. This additional saving could be provided by a rise in national income, or it could come from foreign sources.

A tax cut that raises capital gains will increase business profits and generate enough international savings to sustain net savings and investment over a period of time. Nevertheless, if fiscal policy deprimes investment, then in the future both capital stock and economic output will be smaller than they would otherwise have been. The lower capital stock would continue to be followed by higher real interest rates than would otherwise have been the case