AP Macroeconomics
Chapter 5:
Adding the Government to the
Economic Equation
5 key roles of Government
1-legal framework
 2-maintain competition



Monopolies vs. natural monopolies
3-redistribution of income
Transfer payments
 Market intervention
 taxes

4-reallocation of resources
Market failure
 Spillovers or externalities


CAN BE A SPILLOVER COST OR
SPILLOVER BENEFIT
Spillover costs
 How to fix this??

Spillover Benefits
Gov’t wants more of a good produced
because it is good for society
 Market demand curve understates total
benefits


How to fix this?
TYPES OF GOODS

PRIVATE



Competitive market
Rivalry
excludability

PUBLIC



No rivalry
No exclusion
Free rider problem
QUASI PUBLIC
-could be done thru
market system
But would be
underproduced
5th-promote stability

UNEMPLOYMENT
 What can the gov’t
do to fix this?

Gov’t spending
 Taxes
 Central bank*


INFLATION
 What can the gov’t
do to fix this?
Gov’t spending
 Taxes
 *central bank
Adding Gov’t to the Circular Flow
Net Taxes=
Taxes in
reverse
Exhaustive vs. Non-Exhaustive
Purchases

Exhaustive
 Directly absorb
resources thru gov’t
purchase
 Examples:

Non-Exhaustive
 Transfer payments
 No current use of
resources
 No contribution to
domestic output
Gov’t Spending vs. Revenue
Taxes
Taxes levied on taxable income after
exemptions
 Progressive
 Marginal tax rate

State and Local Gov’t
State Gov’t
 Revenue




47% sales & excise
36% income tax
Expenses



Local Gov’t
 Revenue

36% education
25% public welfare
8% health/hospitals



72% property taxes
17% sales & excise
Expenses



44% education
12% health/welfare
& hospitals
Other—
state/fed/utilities