Discuss if conflicts in marcoeconomic goals limit the use of fiscal policy
4a)
National income is the total value of goods and services produced in a country in any given year. Government expenditure (G) is the amount of money the public sector spends on public goods and services, such as maintaining public schools, as well as public investment expenditure, such as building of public infrastructure. An increase in government expenditure will cause a direct increase in the aggregate expenditure (AE) of the economy. This will increase the national income of the economy via a multiplier (k) effect, assuming that there is spare capacity. The size of the multiplier effect will depend on the marginal propensity to consume (mpc). MPC measures how much money consumers spend for every unit of additional income they receive, and k=1/(1-mpc). The multiplier effect will be as illustrated below:
Suppose in an economy, the initial increase in G is $100M, and the mpc of the economy is 0.6. Initially, the $100M government spending will transfer to $100M received as income, wages and payments to factors of production to the consumers. Of the $100M, consumers will spend 0.6 fraction of it, $60M, on consumption of goods and services ©, and the rest on savings, imports or taxes. As such, producers will be forced to utilise more factors of production to increase their output, generating $60M of income back for the consumers. Of this additional $60M income, consumers spend $36M on the consumption of more goods and services, forcing producers to hire more factors of production, and causing an increase in income by $36M again. The process will continue until there is no longer an increase in consumption expenditure. By then, given the initial $100M increase in G, national income would have increased by $250M, where the multiplier effect is 1/(1-0.6)=2.5 times. The greater the value of MPC, the greater the multiplier effect, and the greater change in national income given a fixed increase in G.
b)
Conflicts in government macroeconomic objectives limit the
National income is the total value of goods and services produced in a country in any given year. Government expenditure (G) is the amount of money the public sector spends on public goods and services, such as maintaining public schools, as well as public investment expenditure, such as building of public infrastructure. An increase in government expenditure will cause a direct increase in the aggregate expenditure (AE) of the economy. This will increase the national income of the economy via a multiplier (k) effect, assuming that there is spare capacity. The size of the multiplier effect will depend on the marginal propensity to consume (mpc). MPC measures how much money consumers spend for every unit of additional income they receive, and k=1/(1-mpc). The multiplier effect will be as illustrated below:
Suppose in an economy, the initial increase in G is $100M, and the mpc of the economy is 0.6. Initially, the $100M government spending will transfer to $100M received as income, wages and payments to factors of production to the consumers. Of the $100M, consumers will spend 0.6 fraction of it, $60M, on consumption of goods and services ©, and the rest on savings, imports or taxes. As such, producers will be forced to utilise more factors of production to increase their output, generating $60M of income back for the consumers. Of this additional $60M income, consumers spend $36M on the consumption of more goods and services, forcing producers to hire more factors of production, and causing an increase in income by $36M again. The process will continue until there is no longer an increase in consumption expenditure. By then, given the initial $100M increase in G, national income would have increased by $250M, where the multiplier effect is 1/(1-0.6)=2.5 times. The greater the value of MPC, the greater the multiplier effect, and the greater change in national income given a fixed increase in G.
b)
Conflicts in government macroeconomic objectives limit the