Lecture 7: Static General Equilibrium
Lecture 7: Static General Equilibrium Nicolas Roys University of Wisconsin Madison
Econ 302 - Fall 2010
Increase in Government Expenditures
TFP
Topics of today’s class
Experiments in a one-period macroeconomic model: Increases in government spending Government Expenditures during World War II
Increases in total factor productivity Impact of a tax proportional to wages
Distortionary Tax
Increase in Government Expenditures
TFP
Outline
1
Increase in Government Expenditures
2
TFP
3
Distortionary Tax
Distortionary Tax
Increase in Government Expenditures
TFP
Distortionary Tax
WWII and Increase in G
During WWII government spending to finance the war effort increased to levels unseen previously in the US. What are the predictions of the model for this increase in spending?
Increase in Government Expenditures
TFP
Distortionary Tax
WWII and Increase in G
During WWII government spending to finance the war effort increased to levels unseen previously in the US. What are the predictions of the model for this increase in spending? Military expenditure protect us But means less consumption goods and services
:16;+)%!5< !"#$%$&'$#()!**+,-.)/*)01)21,'+0.+)$1) 3/4+'1(+1-)56+17$18
$%&'##%()*+,-.%/001,-."2),3)45%/33%+1678,%+),)+9)05
!"#
Increase in Government Expenditures
TFP
Increase in G
Essentially: Negative Income Effects increase in (Y , N) decrease in (c, w ).
Distortionary Tax
Increase in Government Expenditures
TFP
Distortionary Tax
Increase in G
Essentially: Negative Income Effects increase in (Y , N) decrease in (c, w ). Private consumption spending is “crowded out” by increased government spending.
Increase in Government Expenditures
TFP
Distortionary Tax
Increase in G
Essentially: Negative Income Effects increase in (Y , N) decrease in (c, w ). Private consumption spending is “crowded out” by increased government spending. loss of welfare as both c, l fall Crucial Assumption: G is not in the Utility Function
:16;+)%!5< !"#$%&'()*+,-.'($%/(0%!'123(+2(-%45,2(0.-*32)
$%#&''%()*+,-.%/001,-."2),3)45%/33%+1678,%+),)+9)05
!"#
Increase in Government Expenditures
TFP
WW2
Large Increase in Government Expenditures Y increases, C decreases by a small amount.
Distortionary Tax
Increase in Government Expenditures
TFP
Distortionary Tax
What Does This Analysis Miss?
Government debt. A large fraction of the wartime spending was financed by government debt. Deficit/GDP ratio hit 24% by 1944.
Increase in Government Expenditures
TFP
Distortionary Tax
What Does This Analysis Miss?
Government debt. A large fraction of the wartime spending was financed by government debt. Deficit/GDP ratio hit 24% by 1944. So Taxes Increased less which is maybe why consumption only decreased by a small amount
Increase in Government Expenditures
TFP
Distortionary Tax
What Does This Analysis Miss?
Government debt. A large fraction of the wartime spending was financed by government debt. Deficit/GDP ratio hit 24% by 1944. So Taxes Increased less which is maybe why consumption only decreased by a small amount
Increased productivity. Wartime mobilization of production increased labor productivity dramatically. Increased in Output is larger
Increase in Government Expenditures
TFP
Distortionary Tax
AARA 2009
American Recovery and Reinvestment Act of 2009 $787 billion in changes in the federal government’s budget (5.5% of 2008 GDP). $290 billion in changes in G (2% of 2008 GDP). tax cuts are not included in G goverment transfer are not included in G
Increase in Government Expenditures
TFP
AARA 2009
In current discussions of fiscal stimulus, the size of the multiplier a source of some controversy. Obama administration suggests ≈ 1.5 Barro suggests ≈ 0.
Distortionary Tax
Increase in Government Expenditures
TFP
Distortionary Tax
AARA 2009
In current discussions of fiscal stimulus, the size of the multiplier a source of some controversy. Obama administration suggests ≈ 1.5 Barro suggests ≈ 0.
Our model says: effect on GDP will be less than $290 billion, because of crowding out. This isn’t the best framework for current issues, as there’s no unemployment or idle resources. These are the main rationale for the fiscal stimulus.
Increase in Government Expenditures
TFP
Outline
1
Increase in Government Expenditures
2
TFP
3
Distortionary Tax
Distortionary Tax
Increase in Government Expenditures
TFP
TFP
an Increase in TFP Example: technological innovation
Distortionary Tax
Increase in Government Expenditures
TFP
TFP
an Increase in TFP Example: technological innovation
2 directs effects: 1
Can produce more with the same amount of labor
Distortionary Tax
Increase in Government Expenditures
TFP
TFP
an Increase in TFP Example: technological innovation
2 directs effects: 1 2
Can produce more with the same amount of labor Production Possibility Frontier is steeper
Distortionary Tax
;27
Econ 302 - Fall 2010
Increase in Government Expenditures
TFP
Topics of today’s class
Experiments in a one-period macroeconomic model: Increases in government spending Government Expenditures during World War II
Increases in total factor productivity Impact of a tax proportional to wages
Distortionary Tax
Increase in Government Expenditures
TFP
Outline
1
Increase in Government Expenditures
2
TFP
3
Distortionary Tax
Distortionary Tax
Increase in Government Expenditures
TFP
Distortionary Tax
WWII and Increase in G
During WWII government spending to finance the war effort increased to levels unseen previously in the US. What are the predictions of the model for this increase in spending?
Increase in Government Expenditures
TFP
Distortionary Tax
WWII and Increase in G
During WWII government spending to finance the war effort increased to levels unseen previously in the US. What are the predictions of the model for this increase in spending? Military expenditure protect us But means less consumption goods and services
:16;+)%!5< !"#$%$&'$#()!**+,-.)/*)01)21,'+0.+)$1) 3/4+'1(+1-)56+17$18
$%&'##%()*+,-.%/001,-."2),3)45%/33%+1678,%+),)+9)05
!"#
Increase in Government Expenditures
TFP
Increase in G
Essentially: Negative Income Effects increase in (Y , N) decrease in (c, w ).
Distortionary Tax
Increase in Government Expenditures
TFP
Distortionary Tax
Increase in G
Essentially: Negative Income Effects increase in (Y , N) decrease in (c, w ). Private consumption spending is “crowded out” by increased government spending.
Increase in Government Expenditures
TFP
Distortionary Tax
Increase in G
Essentially: Negative Income Effects increase in (Y , N) decrease in (c, w ). Private consumption spending is “crowded out” by increased government spending. loss of welfare as both c, l fall Crucial Assumption: G is not in the Utility Function
:16;+)%!5< !"#$%&'()*+,-.'($%/(0%!'123(+2(-%45,2(0.-*32)
$%#&''%()*+,-.%/001,-."2),3)45%/33%+1678,%+),)+9)05
!"#
Increase in Government Expenditures
TFP
WW2
Large Increase in Government Expenditures Y increases, C decreases by a small amount.
Distortionary Tax
Increase in Government Expenditures
TFP
Distortionary Tax
What Does This Analysis Miss?
Government debt. A large fraction of the wartime spending was financed by government debt. Deficit/GDP ratio hit 24% by 1944.
Increase in Government Expenditures
TFP
Distortionary Tax
What Does This Analysis Miss?
Government debt. A large fraction of the wartime spending was financed by government debt. Deficit/GDP ratio hit 24% by 1944. So Taxes Increased less which is maybe why consumption only decreased by a small amount
Increase in Government Expenditures
TFP
Distortionary Tax
What Does This Analysis Miss?
Government debt. A large fraction of the wartime spending was financed by government debt. Deficit/GDP ratio hit 24% by 1944. So Taxes Increased less which is maybe why consumption only decreased by a small amount
Increased productivity. Wartime mobilization of production increased labor productivity dramatically. Increased in Output is larger
Increase in Government Expenditures
TFP
Distortionary Tax
AARA 2009
American Recovery and Reinvestment Act of 2009 $787 billion in changes in the federal government’s budget (5.5% of 2008 GDP). $290 billion in changes in G (2% of 2008 GDP). tax cuts are not included in G goverment transfer are not included in G
Increase in Government Expenditures
TFP
AARA 2009
In current discussions of fiscal stimulus, the size of the multiplier a source of some controversy. Obama administration suggests ≈ 1.5 Barro suggests ≈ 0.
Distortionary Tax
Increase in Government Expenditures
TFP
Distortionary Tax
AARA 2009
In current discussions of fiscal stimulus, the size of the multiplier a source of some controversy. Obama administration suggests ≈ 1.5 Barro suggests ≈ 0.
Our model says: effect on GDP will be less than $290 billion, because of crowding out. This isn’t the best framework for current issues, as there’s no unemployment or idle resources. These are the main rationale for the fiscal stimulus.
Increase in Government Expenditures
TFP
Outline
1
Increase in Government Expenditures
2
TFP
3
Distortionary Tax
Distortionary Tax
Increase in Government Expenditures
TFP
TFP
an Increase in TFP Example: technological innovation
Distortionary Tax
Increase in Government Expenditures
TFP
TFP
an Increase in TFP Example: technological innovation
2 directs effects: 1
Can produce more with the same amount of labor
Distortionary Tax
Increase in Government Expenditures
TFP
TFP
an Increase in TFP Example: technological innovation
2 directs effects: 1 2
Can produce more with the same amount of labor Production Possibility Frontier is steeper
Distortionary Tax
;27
