Overview: Fiscal Policy Today

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The idea that the government has a responsibility to take actions to prevent or cure macroeconomic problems (or to "stabilize the economy") is so widespread today that it is often not realized that this is a relatively new idea, one that emerged after Keynes developed the concept of fiscal policy in the 1930s. The Keynesian revolution swept through and transformed economics in the 1940s and 1950s, and by the 1960s the view that the government could use fiscal policy to "fine tune" the economy was widespread.

We will begin by examining attempts to make a theory of consumption behavior that is consistent with the rest of economic theory. After a brief discussion of how we can measure fiscal policy, we will find that fiscal policy has slipped from the pedestal on which it sat in 1960, but has been revived by politicians. We suggest some reasons why economists are now more skeptical of this policy than they were in the mid 20th century.

After you complete this unit, you should be able to:
  • Outline the life-cycle and permanent-income hypotheses.
  • Explain how the full-employment deficit or surplus is computed.
  • Explain why, in the United States, political incentives play a greater role in fiscal policy than in monetary policy.
  • List and describe the types of lags a policy maker faces.
  • Explain why the political process may make the timing of fiscal policy unreliable.
  • Define crowding out.

Copyright Robert Schenk