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Chapter 29

Economics 1022 Chapter 29 notes

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Western University
Economics 1022A/B
Jeannie Gillmore

Chapter 29 Federal Budget  Federal budget: Annual statement of the outlays and revenues of the Government of Canada, along with the laws and regulations that approve and support those outlays and revenues  Provincial budget: Annual statement of the revenues and outlays of a provincial government, along with the laws and regulations that approve or support those revenues or outlays.  Fiscal policy: Use of the federal budget to achieve macroeconomic objectives such as full employment, sustained long- term economic growth, and price level stability. o Until 1940s, the federal budget was only used to finance the government businesses o Only after 1940s did the federal budget pursue the government’s fiscal policies.  Budget creation: o Begins with consultations between the Department of Finance officials and its provincial counterparts that deal with programs that are funded by both levels of government. o Economic projections are made, by the Department of Finance economists. o Minister of Finance develops proposals, which is presented to the Cabinet, then to the Parliament.  Canada’s budget (2011): o Revenues: Federal government’s receipts; projected at 249 billion for 2011 – 12  Personal income taxes: 125 billion  Corporate income taxes: 33 billion  Indirect and other taxes (including HST and alcohol & gas tax): 64 billion  Investment income: 27 billion o Overlays: Projected at 281 billion for 2011 – 12  Transfer payments: 166 billion  Payments to individuals, businesses, other levels of government, and other countries  Includes unemployment cheques, farm subsidies, grants to other levels of government, aid to other nations, and dues to United Nations.  Expenditure on final goods and services: 85 billion  Include national defence, highways, and other government investments.  Appears as (G) on the circular flow of expenditure and income  Debt interest: 30 billion  Interest on government debt (540 billion currently)  During the 1990s, exceeded government expenditure on goods and services. o Budget balance = Revenues – Outlays  Budget surplus: When revenues exceed outlays  Budget deficit: When outlays exceed revenues  Budget balance: When revenue equals outlays o Government debt: Total amount of government borrowing (past deficits – sum of past surplus)  A debt increases deficit, and persistent deficit feeds on itself due to interest due. Supply-Side Effects of Fiscal Policy  At full employment, the real wage rate adjusts to make quantity of labour demanded equal quantity of labour supplied.  Tax on labour income influences potential and aggregate supply by changing the full-employment quantity of labour. Income tax weakens the incentive to work, and there is a difference between cost of labour and take-home wage. o Tax wedge: Gap created between the before-tax and after-tax wage rate o No effect on demand for labour, because the quantity of labour demanded only depend on how productive labour is, and what its costs (real wage rate) are o Decrease in supply of labour because it depend on how much the workers receive (after-tax wage) o Quantity of labour and potential GDP decreases.  Taxes on consumption expenditure add to the wedge, because it raises the prices paid for consumption goods and services, which is equal to a cut in the real wage rate for workers.  Taxes on interest income decrease the incentive to save, and drive a wedge between the after-tax interest rate earned by savers and the interest rate paid by firms. o Effect of tax rate on real interest rate:  Investment and saving plans are influenced by real after-tax interest rate subtracted by income tax rate paid on interest income from the real interest rate  Higher the interest rate, higher the true tax rate on interest income. o Effect of income tax on saving and investment:  A tax on interest income has no effect on the demand for loanable funds, as the quantity of investment and borrowing that firms plan to undertake depend on the real interest rate.  However, a tax on interest income decreases the supply of loanable funds.  This causes the real interest rate to rise, and in turn decreases demand for loanable funds.  Laffer curve: Relationship between the tax rate and the amount of tax revenue collected o Higher tax rates and number of doll
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