Unit III (Discretionary vs. Automatic Fiscal Policies)

• Discretionary:
  
  
  -Increasing or Decreasing Government Spending and/or Taxes in order to return the economy to full employment. Discretionary policy involves policy makers doing fiscal policy in response to an economic problem.
  
  
  -Example: Recession and Inflation
  
  
• Automatic:

-Unemployment compensation and marginal tax rates are examples of automatic policies that help mitigate the effects of recession and inflation. Automatic fiscal policy takes place without policy makers having to respond to current economic problems.

-Example: Medicare and Medicaid

“Easy” Expansionary Fiscal Policy	“Tight” Contractionary Fiscal Policy
Combats Recession	Combats Inflation
Increases Government Spending Decreases Taxes	Decrease in Government Spending Increase in Taxes

• Automatic or Built-In Stabilizers:

-Anything that increases the government’s budget deficit during a recession and increases its budget  surplus during inflation WITHOUT REQUIRING EXPLICIT ACTION BY POLICY MAKERS

• Economic Importance: 

-Taxes reduce spending and aggregate demand  

-Reductions in spending are desirable when the economy is moving toward inflation 

-Increases in spending are desirable when the economy is heading toward recession