IB Economics Topic 3.6.3 Expansionary and Contractionary Fiscal Policies in Order to Close Deflationary/recessionary and Inflationary Gaps Revision Notes (SL/HL)

IB Economics Topic 3.6.3 Expansionary and Contractionary Fiscal Policies in Order to Close Deflationary/recessionary and Inflationary Gaps Revision Notes (SL/HL) | RevisionDojo

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Here, we will differentiate between the two types of fiscal policy:

Expansionary Fiscal Policy
Contractionary Fiscal Policy

Expansionary Fiscal Policy

Definition

Expansionary Fiscal Policy

Fiscal policy aimed at increasing aggregate demand by increasing government spending and/or reducing (business and personal) taxes.

Expansionary fiscal policies are used to close deflationary gaps by increasing aggregate demand.

Observing the diagram above, the economy initially produces at $Y_{rec}$ with $AD_1$, below potential output as $Y_{rec}<Y_p$.
The government can enact expansionary fiscal policies, such as:
1. increase government spending (↑G)
2. decrease income taxes (causing increase in consumer spending).
3. decrease in corporate tax (causing increase in business investments).
This will cause an increase the aggregate demand from $AD_1→AD_2$ .
As a result, the recessionary gap will be eliminated, and the economy will be producing at $Y_p$.

Note

In the New Classical model, when government uses expansionary fiscal policy (when current output is at LRAS):

Aggregate demand increases, shifting the curve to the right.
In the short run, this leads to higher output and lower unemployment.
However, in the long run, the economy returns to the full employment level of output, and the only effect is a higher price level.

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Here, we will differentiate between the two types of fiscal policy:

Expansionary Fiscal Policy
Contractionary Fiscal Policy

Expansionary Fiscal Policy

Definition

Expansionary Fiscal Policy

Fiscal policy aimed at increasing aggregate demand by increasing government spending and/or reducing (business and personal) taxes.

Expansionary fiscal policies are used to close deflationary gaps by increasing aggregate demand.

Observing the diagram above, the economy initially produces at $Y_{rec}$ with $AD_1$, below potential output as $Y_{rec}<Y_p$.
The government can enact expansionary fiscal policies, such as:
1. increase government spending (↑G)
2. decrease income taxes (causing increase in consumer spending).
3. decrease in corporate tax (causing increase in business investments).
This will cause an increase the aggregate demand from $AD_1→AD_2$ .
As a result, the recessionary gap will be eliminated, and the economy will be producing at $Y_p$.

Note

In the New Classical model, when government uses expansionary fiscal policy (when current output is at LRAS):

Aggregate demand increases, shifting the curve to the right.
In the short run, this leads to higher output and lower unemployment.
However, in the long run, the economy returns to the full employment level of output, and the only effect is a higher price level.

Definition

Paywall

(on a website) an arrangement whereby access is restricted to users who have paid to subscribe to the site.

anim nostrud sit dolore minim proident quis fugiat velit et eiusmod nulla quis nulla mollit dolor sunt culpa aliqua

Duis aute irure dolor in reprehenderit

Note

Lorem ipsum dolor sit amet, consectetur adipiscing elit, sed do eiusmod tempor incididunt ut labore et dolore magna aliqua. Ut enim ad minim veniam quis nostrud exercitation.

Excepteur sint occaecat cupidatat non proident

Tip

Lorem ipsum dolor sit amet, consectetur adipiscing elit.
Sed do eiusmod tempor incididunt ut labore et dolore magna aliqua.
Ut enim ad minim veniam, quis nostrud exercitation ullamco laboris.
Duis aute irure dolor in reprehenderit in voluptate velit esse cillum.

1. Introduction to Economics2 subtopics

2. Microeconomics12 subtopics

3. Macroeconomics7 subtopics

4. The Global Economy10 subtopics

IB Economics 3.6.3 Expansionary and Contractionary Fiscal Policies in Order to Close Deflationary/recessionary and Inflationary Gaps Notes

1. Introduction to Economics2 subtopics

2. Microeconomics12 subtopics

3. Macroeconomics7 subtopics

4. The Global Economy10 subtopics

Expansionary Fiscal Policy

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Expansionary Fiscal Policy

anim nostrud sit dolore minim proident quis fugiat velit et eiusmod nulla quis nulla mollit dolor sunt culpa aliqua

Duis aute irure dolor in reprehenderit

Excepteur sint occaecat cupidatat non proident

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