“Nothing is certain
except death and
taxes.”
Chapter 14 – Taxes and Government Spending
Section 1 – What are Taxes?
• Tax – a required payment to a local, state, or
national government
– Income, sales, property, capital gains, etc.
• Revenue – income received by the government
from tax collection
• Tax Base – income, property, good or service that is
subject to a tax
Tax Structures
• Proportional Tax – % of income taxes remains
the same for all income levels (Flat tax)
It’s the same percentage for all.
$40,000 income vs. $140,000 income
10% on $1000 = $100, Who has more in the
end?
• Progressive Tax – % of income paid in taxes
increases as income increases (Federal
Income Tax)
“The more you make the more they take”
• Regressive Tax - % of income paid in taxes
decreases as income increases (Sales Tax)
6% tax on a can of beans for the $25,000 and
the $125,000. Who does this impact more?
Characteristics of a Good Tax
1. Simplicity – easy to
understand, keep records,
prepare tax forms, anticipate
amount of taxes
2. Efficiency – easy to collect,
taxpayers should not pay too
much or take too much time to
pay
3. Certainty – clear due dates,
amount to be paid, how to pay
4. Equity – fair, so not one person
bears too much or too little of
the tax burden
Individual Income Taxes
•
•
•
•
“Pay-As-You-Earn” Taxation – taxes are paid based on
annual income; individuals pay income taxes throughout
the year
Tax Withholding – tax payments taken out of employees
pay before they receive it; ensures annual payment
Tax Return – form used to file income taxes; declare
income and taxable income
Taxable Income-A person’s gross (or total ) income minus
exemptions and deductions.
Individual Income Taxes
•
•
Taxable Income – A person’s gross income minus exemptions
and deductions
Personal Exemptions – set amounts that you subtract from
your gross income
–
•
Deductions – amounts you can subtract, or deduct from your
gross income.
–
•
0, 1, 2, 3, 4, 5, 6, etc.
Interest on a home, children, charity, religious, education, etc.
Tax Bracket – scheduled rate at which you are taxed based on
your annual income
Corporate Income Taxes
• Like individuals, corporations
must pay income tax on their
taxable income.
• Corporate taxes make up less
than 10% of revenues in recent
years.
• Corporate taxes are progressive.
Social Security, Medicare, and
Unemployment Taxes
•
•
•
•
•
FICA (Federal Insurance Contributions Act) – funds Social Security and
Medicare.
Social Security – funds people of old-age, survivors and disabilities,
established in 1935, originally to provide old-age pensions of workers
Medicare – national health insurance program that helps pay for
people over age of 65 or with certain disabilities
Medicaid – national health insurance for people within the poverty
threshold
Unemployment – insurance for workers laid off through no fault of
their own
Other Types of Taxes
•
•
•
•
Excise tax – tax on gasoline, cigarettes, alcohol, phone service,
cable, internet, etc.
Estate tax – “death tax”, tax on estate or value of money and
property of a person who has died
Gift tax – tax on money or property that one living person
gives to another; a person can give up to $10,000 a year taxfree per individual
Tariff – import tax on foreign goods brought into the country
Daily Assignment Questions –
Ch. 14 Section 1 pgs. 359 – 360
*Answer in complete sentences*
1. How did taxes affect early American colonists?
2. What gives the government the right to tax U.S.
citizens?
3. What is the purpose of taxation?
4. What are some things that are provided by the
government through revenue?
5. Where is the power to tax found in the Constitution?
6. What are the two limitations of taxes found in the
taxation clause?
7. What is Congress unable to tax?
8. What is a tax base?
9. List the items that could be included in the tax base.
Section 2: Federal Spending
Mandatory and Discretionary Spending
Spending Categories
• Mandatory spending refers to money that
lawmakers are required by law to spend
on certain programs or to use for interest
payments on the national debt.
• Discretionary spending is spending about
which government planners can make
choices.
*Entitlements
(Mandatory)
An entitlement program is a social welfare program
that people are “entitled” to if they meet certain
eligibility requirements.
•
•
•
Social Security
– Social Security is the largest category of government
spending.
Medicare
– Medicare pays for certain health benefits for people over
65 or people who have certain disabilities and diseases.
Medicaid
– Medicaid benefits low-income families, some people with
disabilities, and elderly people in nursing homes. Medicaid
costs are shared by the federal and state governments.
Discretionary Spending
Defense Spending
Other Discretionary Spending
• Spending on defense accounts • Other discretionary spending
for about half of the federal
categories include:
government’s discretionary
– Education
spending.
– Training
• Defense spending pays
– Environmental cleanup
military personnel salaries,
– National parks and
buys military equipment, and
monuments
covers operating costs of
– Scientific research
military bases.
– Land management
• 18% of the national budget is
spent on defense.
– Farm subsidies
– Foreign aid
Federal Aid to State and Local
Governments
• Federal Tax dollars • Federal Grants-ingive to state and
Aid are grants of
local governments
federal money for
certain closely
• $346 billion/yr
defined
divided among the
purposes…educati
states
on or highway
construction
State Budgets
• States have two budgets(Federal Gov’t has only one):
• Operating Budget
• Capital Budget
• Operating Budget
• Pays for day-to-day expenses i.e.,
Salaries, supplies, maintenance of facilities
Capital Budget
•Pays for major capital, or investment,
spending.
Balancing State Budgets
• In most states the
Governor prepares the
budget with the help of a
budget agency
• 49 states require balanced
budgets=revenues are
equal to spending
(unlike Federal
Gov’t)
Where Are State Taxes Spent?
•
•
•
•
•
•
Education
– State education budgets help finance public state universities and provide some
aid to local governments for elementary, middle, and high schools.
Public Safety
– State governments operate state police systems, as well as correctional facilities
within a state.
Highways and Transportation
– Building and maintaining highways is another state expense. States also pay
some of the costs of waterways and airports.
Public Welfare
– State funds support some public hospitals and clinics. States also help pay for
and administer federal benefits programs.
Arts and Recreation
– State parks and some museums and historical sites are funded by state
revenues.
Administration
– Like the federal government, state governments spend money just to keep
running.
Chapter 14 + 15 Do Now
• Out of the 3.5 Trillion dollars of U.S. federal budget, break down in
percentages the amount that you think should go towards the following
areas of the economy:
Category
Social Security
National Defense
Unemployment/
Welfare/Mandatory
Programs
Medicare
Medicaid
Interest on Debt
Education
Percentage
Allocated
Chapter 14 + 15 Do Now
• Out of the 3.5 Trillion dollars of U.S. federal budget, break down in
percentages the amount that you think should go towards the following
areas of the economy:
Category
Percentage
Allocated
Dollars
Social Security
19.63
$ 695 billion
National Defense
18.74
$ 664 billion
Unemployment/
Welfare
16.13
$ 571 billion
Medicare
12.79
$ 453 billion
Medicaid
8.19
$ 290 billion
Interest on Debt
4.63
$164 billion
Education
1.32
$ 46.7 billion
Other
18.0
$ 635 billion
Fiscal Policy and The Federal Budget
• Fiscal Policy – the use of government spending and revenue
collection to influence the economy
• Federal budget – a written document indicating the amount of
money the government expects to receive and how they will spend it
– Released the first Monday in February each year
• Fiscal year – 12 month period, October 1 – September 30
Creating The Federal Budget
• Step 1 – Federal agencies request money; spending
proposals are sent to the Office of Management and
Budget (OMB)
• Step 2 – The OMB works with the President to create a
budget, President presents to Congress
• Step 3 – Congress makes changes to the budget and sends
the amended budget to the President
• Step 4 – The President signs the budget into law
Step 1
→
Step 2
→ Step 3
→
Step 4
Federal Spending
• Mandatory Spending – programs that lawmakers are
required by existing laws to spend money on (Social
Security, Medicare, Medicaid, etc.)
• Discretionary Spending – spending that government can
adjust; increase or decrease (Defense, environment,
scientific research, etc.)
Budget Deficits and the National Debt
1. Which President had
the smallest budget
deficit’s in recent
history?
2. Which President had
the largest budget
deficit in recent
history?
3. Other than our current
President, which three
presidents had the
largest budget deficits?
4. What do you have to
do when you spend
more than you can
afford?
Budget Deficits and the National Debt
• Balanced budget – money going into the U.S. Treasury is the same
amount of money going out
– Revenue = Spending
– The last balanced budget occurred in 1997 under
President Bill Clinton
Balancing the Budget
• Budget Surplus – occurs when the government takes in more
than it spends
– Revenue > Spending
• Budget Deficit – occurs when the government spends more
than it takes in
– Revenue < Spending
Dealing with a Budget Deficit
• Create money – the government can print or inject money
into economy
• Borrow money – government borrows money by selling bonds
– Bond is a type of loan with a promise to repay with interest
– Bonds sold domestically or globally
– China owns 1 trillion dollars in U.S. bonds
The National Debt
• National debt – the total amount of money the federal
government owes to bondholders
• Budget deficit – the amount of money the government owes
to bondholders in one fiscal year
• Who does the United States owe money to?
http://www.ritholtz.com/blog/wp-content/uploads/2011/03/who-owns-us-national-debt-30-sept-2010.png
• US Debt Clock
http://www.usdebtclock.org/
Mandatory and Discretionary Spending Chart pgs. 371-373
Mandatory Spending
Description
Entitlements
Social welfare programs that people are “entitled to” if they meet certain
eligibility requirements.
Social Security
The largest category of federal spending. More than 50 million retired or
disabled people and their families and survivors receive monthly benefits.
Medicare
Serves around 40 million people, most over 65 years old. Pays for hospital
care and the costs of physicians and medical services.
Medicaid
A program that benefits low-income families, disabled and elderly people in nursing homes.
Largest source of funds for medical and health related services for people within the poverty
threshold.
Other Mandatory
Spending Programs
Food stamps, supplemental security income and child nutrition, retirement benefits
and insurance for federal workers, veterans pensions and unemployment.
Discretionary
Spending
Description
Defense Spending
Pays the salaries of people in the army, navy, air force, marines and civilian
employees. Largest portion of discretionary spending.
Other Spending
Education, training, scientific research, student loans, technology, national parks
and monuments, law enforcement, environmental cleanup, housing.
Expansionary and Contractionary Fiscal Policies, pgs. 389-390
Word
Definition
Description
Expansionary Fiscal
Policies
1. Purpose
2. Increase in
government
spending
3. Cutting Taxes
Contractionary
Fiscal Policies
1. Purpose
2. Decrease in
government
spending
3. Increasing Taxes
Tools of Fiscal Policy Chart
Fiscal Policy
1. The government cuts
business and personal
income taxes and
increases its own
spending.
2. The government
increases the personal
income, Social Security
and corporate income tax.
3. Government spending
goes up while taxes remain
the same.
4. The government reduces
the wages of its employees
while raising taxes on
consumers and
businesses.
Expansionary/
Contractionary
Explanation
Tools of Fiscal Policy Chart
Fiscal Policy
Expansionary/
Contractionary
Explanation
1. The government cuts
business and personal
income taxes and
increases its own
spending.
Expansionary
Decreased taxes increase C & I.
Increase in government spending increases
G.
Shifts AD to the right.
2. The government
increases the personal
income, Social Security
and corporate income tax.
3. Government spending
goes up while taxes remain
the same.
4. The government reduces
the wages of its employees
while raising taxes on
consumers and
businesses.
Tools of Fiscal Policy Chart
Fiscal Policy
Expansionary/
Contractionary
Explanation
1. The government cuts
business and personal
income taxes and
increases its own
spending.
Expansionary
Decreased taxes increase C & I.
Increase in government spending increases
G.
Shifts AD to the right.
2. The government
increases the personal
income, Social Security
and corporate income tax.
Contractionary
I & C decrease because of the tax increase.
Shifts AD to the left.
3. Government spending
goes up while taxes remain
the same.
4. The government reduces
the wages of its employees
while raising taxes on
consumers and
businesses.
Tools of Fiscal Policy Chart
Fiscal Policy
Expansionary/
Contractionary
Explanation
1. The government cuts
business and personal
income taxes and
increases its own
spending.
Expansionary
Decreased taxes increase C & I.
Increase in government spending increases
G.
Shifts AD to the right.
2. The government
increases the personal
income, Social Security
and corporate income tax.
Contractionary
I & C decrease because of the tax increase.
Shifts AD to the left.
3. Government spending
goes up while taxes remain
the same.
Expansionary
Higher government spending without a
corresponding rise in tax receipts increases
G.
Shifts AD to the right.
4. The government reduces
the wages of its employees
while raising taxes on
consumers and
businesses.
Tools of Fiscal Policy Chart
Fiscal Policy
Expansionary/
Contractionary
Explanation
1. The government cuts
business and personal
income taxes and
increases its own
spending.
Expansionary
Decreased taxes increase C & I.
Increase in government spending increases
G.
Shifts AD to the right.
2. The government
increases the personal
income, Social Security
and corporate income tax.
Contractionary
I & C decrease because of the tax increase.
Shifts AD to the left.
3. Government spending
goes up while taxes remain
the same.
Expansionary
Higher government spending without a
corresponding rise in tax receipts increases
G.
Shifts AD to the right.
4. The government reduces Contractionary
the wages of its employees
while raising taxes on
consumers and
businesses.
Reduction in government spending results in
a decrease in aggregate demand.
Increases in taxes reduces C.
Increased business taxes reduce I.
Shifts AD to the left.
Model of aggregate demand & aggregate supply

Model used to explain short-run fluctuations in economic activity around
its long-run trend

Aggregate - sum of all supply and demand in an economy

Two variables:

Economy’s output of goods and services

Average level of prices (CPI or GDP Deflator)
Price
Level
Aggregate supply (AS)
Equilibrium
price level
Aggregate demand (AD)
Equilibrium
output
Quantity of
37
Output
Why is the AD Curve Downward Sloping?
• Wealth effect – consumers are wealthier, which stimulates the demand
for consumption goods
• Interest rate effect – interest rates fall, which stimulates the demand for
investment goods
• Exchange Rate effect – currency depreciates, which stimulates the
demand for net exports, vice versa
Price
Level
Equilibrium
price level
Aggregate demand (AD)
Equilibrium
output
Quantity of
38
Output
Aggregate Demand

Aggregate-demand curve
– Sum of C+I+G+NX (real GDP) at each price level
– Downward sloping
– Low price levels increase the quantity of goods and
services, vice versa
Price
Level
Equilibrium
price level
Aggregate demand (AD)
Equilibrium
output
Quantity of
39
Output
Why the AD Curve Might Shift?
• Shifts arising from changes in consumption
– Decreases in spending – people become more concerned with saving
for retirement
– Increases in spending – stock market boom increases disposable
income
• Shifts arising from changes in investment
– Change in firm investing – tax policy, pessimism about economy in
future, interest rates
• Shifts arising from changes in government purchases
– Congress increases/decreases spending
• Shift arising from changes in net exports
– Global recessions would cause a decrease in demand for U.S. products
40
What Shifts the Aggregate Demand Curve?
Price
Level
A
B
C
Situation
Change in AD
Quantity of
Output
New AD Curve
Congress cuts taxes
C
Business spending decreases
A
Government spending increases; no new taxes
C
Survey shows consumer confidence jumps
C
Stock collapses; investors lose billions
A
President cuts defense spending by 20%; no increase
in domestic spending
A
Effects of Fiscal Policy Chart
Scenario
1. National
unemployment rate
rises to 12%
2. Inflation is strong at a
rate of 14% per year.
3. Surveys show
consumers are losing
confidence in the economy,
retail sales are weak and
business inventories are
increasing rapidly
4. Business sales and
investment are expanding
rapidly, and economists
think strong inflation lies
ahead.
Expansionary/
Contractionary
Expansionary
Contractionary
Expansionary
Contractionary
Effect on
Federal
Budget
Move
toward a
deficit
Move
toward a
surplus
Move
toward a
deficit
Move
toward a
surplus
Objective
for
Aggregate
Demand
Action
on
Taxes
Action on
Gov’t
Spending
Effect on
the
National
Debt
Chapter 15 Practice Worksheet
1. If a country’s central bank were to engage in activist stabilization policy, in
which direction should it move the money supply in response to the following
events?
a. A wave of optimism boosts business investment and household
consumption causing price levels to increase.
• Decrease the money supply
b. To balance its budget, the government raises taxes and reduces
expenditures causing a slowdown in the economy.
• Increase the money supply
c. OPEC raises the price of crude oil causing people’s disposable income to
reduce.
• Increase the money supply
d. The taste for the country’s products amongst the residents of other countries
declines.
• Increase the money supply
e. The stock market falls.
• Increase the money supply
Chapter 15 Practice Worksheet
2. In which direction should the Federal Reserve move interest rates in
response to the following events?
a. A wave of optimism boosts business investment and household
consumption causing price levels to increase.
• Increase interest rates
b. To balance its budget, the government raises taxes and reduces
expenditures causing a slowdown in the economy.
•
Decrease interest rates
c. OPEC raises the price of crude oil causing people’s disposable income to
reduce.
• Decrease interest rates
d. The taste for the country’s products amongst the residents of other countries
declines.
•
Decrease interest rates
e. The stock market falls.
•
Decrease interest rates
Chapter 15 Practice Worksheet
3. If policy makers were to use fiscal policy to actively stabilize the economy, in
which direction should they move government spending and taxes?
a. A wave of optimism boosts business investment and household
consumption causing price levels to increase.
• Decrease spending, increase taxes
b. To balance its budget, the government raises taxes and reduces
expenditures causing a slowdown in the economy.
•
Increase spending, decrease taxes
c. OPEC raises the price of crude oil causing people’s disposable income to
reduce.
•
Increase spending, decrease taxes
d. The taste for the country’s products amongst the residents of other countries
declines.
•
Increase spending, decrease taxes
e. The stock market falls.
•
Increase spending, decrease taxes
Daily Assignment Questions
State and Local Taxes and Spending, pgs. 375-376
1. What does a states operating budget pay for?
List examples.
2. What does a state’s capital budget pay for? List
examples
3. How do the state budgets differ from the federal
government?
4. Where are taxes spent? List and describe each of
the following:
1.
2.
3.
4.
5.
6.
Education
Public Safety
Highways and Transportation
Public Welfare
Arts and Recreation
Administration
Flow Chart Types of Taxes, pgs. 365-369
Types of Taxes
Individual Income
Taxes
Corporate Income
Taxes
Social Security,
Medicare and
Unemployment
Taxes
Other Types of Taxes
1. Pay-As-You-Earn
Taxation
1. Impact on
Federal Budget
1. FICA
1. Excise Taxes
2. Tax Withholding
2. Deductions
2. Social Security
2. Estate Taxes
3. Progressive
structure of
Corporate taxes
3. Medicare
3. Gift Taxes
4. Unemployment
Taxes
4. Import Taxes
(Tariffs)
3. Tax Return
4. Taxable Income
5. Personal
Exemptions
6. Deductions
7. Tax Brackets
5. Tax Incentive
Flow Chart Types of Taxes, pgs. 365-369
Types of Taxes
Individual Income
Taxes
Corporate Income
Taxes
Social Security,
Medicare and
Unemployment
Taxes
Other Types of Taxes
1. Pay-As-You-Earn
Taxation
1. Impact on
Federal Budget
1. FICA
1. Excise Taxes
2. Tax Withholding
2. Deductions
2. Social Security
2. Estate Taxes
3. Progressive
structure of
Corporate taxes
3. Medicare
3. Gift Taxes
4. Unemployment
Taxes
4. Import Taxes
(Tariffs)
3. Tax Return
4. Taxable Income
5. Personal
Exemptions
6. Deductions
7. Tax Brackets
5. Tax Incentive
Consumers Expect a Recession
Fall in AD – Prices fall, real GDP
falls
Foreign Income Rises
Rise in AD – Prices rise, real GDP
rises
Government Spending Increases
Rise in AD – Prices rise, real GDP
rises
Workers Expect Future Inflation,
Negotiate Higher Wages Now
Fall in AS – Prices rise, real GDP
falls
Foreign price levels fall
Fall in AD – Prices fall, real GDP
falls
Technological Improvements
Increase Productivity
Rise in AS – Prices fall, real GDP
rises