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Recession Fiscal Policy

Essay by   •  November 12, 2012  •  Essay  •  1,065 Words (5 Pages)  •  1,215 Views

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Today, our economy is still slowing and we are currently in a recession. Therefore, we must choose a policy that decreases unemployment and increases spending in order to stimulate it. The best fiscal policy decision would be primarily a decrease in taxes, followed by subsequent but secondary increase in spending. The decrease in taxes should entail decreases in income taxes as well as taxes on small businesses and corporate profits. This decrease in taxes should be followed by an increase of government spending on goods and services. As a result of these changes, employment rates and real GDP will increase. If done correctly, while carefully monitoring changes made, the economy will eventually return to the full-employment level and full-employment level of real GDP (or output). These changes should help stimulate the economy and if done correctly, can be very successful without causing too much inflation.

In our current economy, the vast majority of our economic problems stem from unemployment and a drop in consumption. The first and most important policy that must be implemented to combat these issues is an overall decrease in taxes. By lowering income taxes, disposable income will increase causing consumers to increase consumption spending. This initial increase in consumption spending will lead to even more consumption spending and the total effect will be the initial increase in spending multiplied the money multiplier. As a result of the increase in consumption spending, aggregate demand will increase, causing subsequent increases in real GDP and employment rates, bringing us closer towards the full-employment level of real GDP. It is crucial that these tax cuts are permanent and not just temporary. Consumption spending in the economy is dependent on both our current disposable income and our future disposable income. A temporary tax change would only affect our amount of current disposable income. Therefore a permanent tax cut would have a greater effect on spending and stimulating our economy out of a recession. Furthermore, it is very important to include decreases on taxes on small business and corporate profit. There is often a stigma attached with high taxes on these groups because it seems to punish success and might discourage expansion. If we lower these sorts of taxes, people would most likely be encouraged to work harder. This will increase productivity and cause more saving and investing to occur also, which will benefit the economy in the long run. As a result the economy would expand. Aggregate supply would expand due to increased incentives to work, increased productivity, and increased investment spending. To be sure, aggregate demand will increase as well. The increase of aggregate supply keeps inflation lower than it would be from an increase in aggregate demand alone.

The increase in government spending is important, yet secondary. The initial increase in government spending on goods and services will add directly to real GDP, and eventually, real GDP will increase by even more (a multiple amount of the initial change). Income will increase for citizens causing disposable income to increase. This will consequently cause consumption spending to increase. As a result, aggregate demand increases and there is upward pressure on prices and we get greater real GDP and less

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