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CHAPTER 18 ECONOMIC POLICY

Chapter Goals and Learning Objectives

The projected federal surpluses at the end of Bill Clinton's term have now turned to a projected federal deficit of $2.3 trillion over the next 10 years, due in part to President George W. Bush's large tax cuts, massive increases in federal spending (including the costs for the occupation of Iraq), and weaknesses in the economy.

Critics of the President say the Bush tax cuts were a failure because they cost Americans more on the local level to compensate for lost services, while the federal deficit sent jitters through the financial markets. Supporters of President Bush claim that tax cuts will impact the economy positively over the long-term. The Iraq occupation costs Americans $200 million per day. Total direct and indirect costs to U.S. taxpayers will likely by more than $400 billion, and one estimate puts the total economic impact at up to $2 trillion, far greater than projections made by the Bush Administration at the outset of the controversial war. Supporters of President Bush claim the costs are necessary to protect American interests. Critics claim the war has done far more to undermine than protect American security interests. Americans tend to measure their quality of life by their relative economic well-being. Americans vote with their pocketbooks and impact the economy by their faith in their leaders’ economic policies, as reflected in measures of consumer confidence. Americans intrinsically know that politics and economics are two sides of the same coin. The government and economy are, indeed, closely intertwined. The government defines and protects property rights, provides a common monetary system, grants corporate charters, issues patents and copyrights, handles bankruptcies, maintains law and order, and protects the environment, as well as many other economic tasks. In the early years of the republic, the federal government did little to regulate the economy. Following the era of large trusts and monopolies, the government substantially regulated business. Since the 1970s, deregulation has become the dominant buzzword of economic policy. This chapter will cover these historical processes and help you come to an understanding of why the role of government in the economy changes over time, where we are now, and where we might be going. This chapter is designed to give you a basic understanding of the economic policies of the United States. The main topic headings of the chapter are:

• The Origins of Government Involvement in the Economy • Stabilizing the Economy • The Economics of Environmental Regulation

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In each section, there are certain facts and ideas that you should strive to understand. Many are in boldface type and appear in both the narrative and in the glossary at the end of the book. Other ideas, dates, facts, events, people, etc. are more difficult to pull out of the narrative. (Keep in mind that studying for objective tests [multiple choice, T/F] is different than studying for essay tests. See the Study Guide section on test taking for hints on study skills.) In general, after you finish reading and studying this chapter, you should understand the following:

• the roots of government involvement in the economy • the role of the government in stabilizing the economy, sometimes called

“macroeconomic regulation” • the economics of government environmental regulation as an example of

“microeconomic regulation”

Chapter Outline and Key Points

In this section, you are provided with a basic outline of the chapter and key words/points you should know. Use this outline to develop a complete outline of the material. Write the definitions or further explanations for the terms. Use the space provided in this workbook or rewrite that material in your notebook. This will help you study and remember the material in preparation for your tests, assignments, and papers.

The Roots of Government Intervention in the Economy The Nineteenth Century mixed free-enterprise economic system— state regulation and promotion of economy— economic growth after the Civil War— business cycles— Adam Smith's The Wealth of Nations— laissez-faire— governmental involvement favored by business— public works projects such as the construction of the Erie Canal—

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Interstate Commerce Act of 1887— “trusts”— Sherman Antitrust Act of 1890— governmental influence in agriculture in nineteenth century— The Progressive Era Progressive movement—

regulatory actions of the Progressive administrations of Theodore Roosevelt and Woodrow Wilson— Pure Food and Drug Act and the Meat Inspection Act in 1906—

three actions by Congress to control banking and regulate business: 1) 2) 3) Sixteenth Amendment and expansion of federal revenue— The Great Depression and the New Deal end of Progressive era— conservative administrations of Harding, Coolidge, and Hoover— Great Depression— Franklin D. Roosevelt and New Deal— interventionist state— Financial Reforms— Roosevelt’s banking holiday— Glass-Steagall Act of 1933— Federal Deposit Insurance Corporation (FDIC)—

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Securities Act (1933)— Securities Exchange Act of 1934— Securities and Exchange Commission (SEC)— stocks bought on margin— Agriculture— Agricultural Adjustment Act of 1933— Soil Conservation and Domestic Allotment Act— Agricultural Adjustment Act of 1938— Labor— National Labor Relations Act of 1935 (Wagner Act)— unfair labor practices— National Labor Relations Board (NLRB)— Fair Labor Standards Act of 1938— Industry Regulations— Federal Communications Commission (FCC)— Civil Aeronautics Board (CAB)— Motor Carrier Act of 1935— Legacy of the New Deal Era— The Social Regulation Era economic regulation— social regulation— regulatory programs and legislation of the 1950s, 1960s and 1970s— regulatory agencies setup to implement new social regulations—

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various forms of social regulatory statutes— consequence of new social regulations on industry— four reasons for surge in social regulation: 1) 2) 3) 4) Deregulation deregulation— perceived defects in economic regulatory programs in 1950s and 60s— claims of advocates of deregulation— example of airline industry— Gerald Ford and deregulation— expansion under Carter of deregulation— Airline Deregulation Act of 1978— Telecommunications Act of 1996— further deregulation of the media by FCC in 2003— concern over concentrated corporate ownership of the media industry— changes in agricultural regulation— G.W. Bush’s 2002 agriculture bill— corporate scandals— economic deregulation and politics—

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Stabilizing the Economy Harding, Hoover and Roosevelt and depression— John Maynard Keynes— economic stability— inflation— recession— Monetary Policy: Controlling the Money Supply monetary policy— money— Federal Reserve Board of Governors— Federal Reserve System— Federal Reserve Board (FRB)— The Federal Reserve System (Figure 18.1)— presidential appointment of the Fed— Benjamin Bernake— independence of FRB from the executive branch— Alan Greenspan— Federal Reserve Banks (“bankers banks”)— reserve requirements— discount rate— open market operations— Federal Open Market Committee— “moral suasion”—

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The FRB and the Executive and Legislative Branches the president and the economy— the president and the FRB— Fiscal Policy: Taxing and Spending fiscal policy— total spending— discretionary fiscal policy— first significant application of fiscal policy theory— Revenue Act of 1964— “commercial Keynesianism”— tax cuts and the economy— Clinton veto of Republican tax-cut proposal in 1999— George W. Bush and tax cuts, May 2006— The Effects of Globalization the international economy— free trade and globalization— 2001 recession and “jobless recovery”—

between July 2000 and January 2004, U.S. manufacturing sector loses 3 million jobs—

labor unions and free trade—

dumping low-priced goods onto American markets and opening other nations to more American goods—

minimum wage— loss of real media American household income from 2000 to 2004—

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only gain in real income from 2003-2004 was in the top 5 percent of households— 5.4 million Americans fell into poverty between 2000 and 2004— Growth in the Minimum Wage Over Time (Figure 18.2)— warning of impact of globalization on income distribution—

erosion of income of average workers— outsourcing and the negative impact on American jobs— Republican opponents of outsourcing and workers’ concerns— The Budgetary Process purposes of federal budget— budget planning and implementation—

How the Federal Government Raises and Spends Money— variety of sources of federal income— most money raised by federal government from what?— Receipts and Outlays of the Federal Government (Figure 18.3)— social insurance and retirement receipts— individual income taxes between 1991 and 2001—

decrease in amount of federal income derived from income taxes during Bush Administration and resultant increasing in borrowing as a means of federal income during Bush Administration—

most government spending directed toward what?— human resources includes what?— increase in human resource expenditures, 1991-2006— Congress and the Budget Process—

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Budget and Accounting Act of 1921— Office of Management and Budget (OMB)— fiscal year— when does president send a budget to Congress?— Federal Budget Process (Table 18.1)— Article I of the Constitution and the budget— who authorizes sending on programs?— who actually provides the funding for programs?— backdoor spending— Budget and Impoundment Control Act of 1974— Congressional Budget Office (CBO)— reconciliation legislation—

Entitlements and Discretionary Spending, 1963-2007 (Figure 18.4)—

October 1 and action on appropriation bills— continuing resolution— Major Budget Conflicts— conflicts between Congress and the president over what?— budget conflicts during the 1980s— Clinton 1993 budget reduction plan— conflicts between Bill Clinton and Newt Gingrich— three Clinton vetoes of appropriations bills—

Budget Initiatives of the George W. Bush Administration— 2001 Economic Growth and Tax Relief Reconciliation Act—

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problems with the bill— what the bill called for— 2003, a stagnant economy and Bush tax cuts— 2002 supplemental request of $27.1 billion for Defense and Homeland Security— short-term and long-term effects of 2001 and 2003 Bush tax cuts— soaring deficits— 2006 Bush budget deficit of $423 billion, 3.2 percent of GDP— Bush 2007 budget proposals—

low Bush approval numbers and concern over the budget deficits—

The Budget Deficit and the Debt national debt— federal budget deficit— factors contributing to annual budget deficits and burgeoning national debt from early 1980s to early 1990s— gross domestic product (GDP)— national debt tripled in 1980s (Reagan Administration)— deficits and impact on economy and national debt— staggering national debt of $8.37 trillion in May, 2006— Americans paid $352 billion in interest on the national debt in 2005— Deficit Reduction Legislation—

budget surpluses— Gramm-Rudman-Hollings Act of 1985—

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Budget Enforcement Act of 1990— Omnibus Budget Reconciliation Act of 1993—

Budget Surplus and Renewed Deficits— Clinton budgets and significant declines in deficit— return to deficits under George W. Bush— Greenspan warnings against Bush return to large deficits— Deficit Reduction Act of 2005— The Economics of Environmental Regulation federal involvement in environmental controls until the late 1960s— growth of environmental problems in 1960s— extensive pollution control legislation of the 1970s— The Environmental Protection Agency EPA— role of the EPA— Clean Air Act— four major eras in political life of EPA— 1) 2) 3) 4) George W. Bush and Artic National Wildlife Refuge— Environmental Protections: Two Examples

disposal of hazardous and toxic wastes, and transboundary atmospheric pollution and its impact on global warming—

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economic costs of the problems— health threats of the problems— environmental threats of the problems— Hazardous and Toxic Wastes— increase in the production and use of chemicals— prevention, safe disposal, and cleanup— Toxic Substances Control Act (1976)— Resources Conservation and Recovery Act (1976)— “cradle to grave” regulation— “midnight dumping”—

Comprehensive Environmental Response, Compensation, and Liability Act of 1980 (also known as “the Superfund”)—

Love Canal— National Priority List— litigation— environmental civil rights— Third Circuit Court of Appeals in 2001 limits citizens’ rights to sue for environmental rights— Superfund funding dwindling (Bush cuts fund in 2003 budget and beyond)—

Atmospheric Pollution, Acid Rain, and Climate Change— pollution from power plants— acid rain— Clean Air Act of 1970—

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Reagan administration delayed action on acid rain—

President George H.W. Bush calls for major amendments to the Clean Air Act in early 1989 and Clean Air Amendments of 1990—

Clinton Administration crack-down on acid rain— George W. Bush eases up on enforcement against acid rain—

global warming— Kyoto Protocol of 1997— George W. Bush refuses to join Kyoto accord— Bush proposes “Clear Skies” initiative in 2002, allowing greater pollution and weakening major provisions of the Clean Air Act— some Republicans join Democratic members of Congress to kill the “Clear Skies” legislation— Bush implements key aspect of “Clear Skies” degradation of pollution controls administratively through EPA— George W. Bush decision not to regulate deadly carbon dioxide pollution has been met by legal action from states and environmental protection groups— some states work to address global warming threats despite Bush administration—

Research Ideas and Possible Paper Topics

1) Given the corporate scandals and convictions of recent years, such as with Enron,

does the deregulation of business fostered by Republicans at the behest of corporate business interests seem effective and useful for Americans? Has deregulation hurt or helped the American middle class? Who does deregulation help the most—consumers or corporate owners? Research some key areas such as energy deregulation and deregulation of the broadcast media and discuss.

2) The Chairman of the Federal Reserve Bank is often described as the most

powerful man in America. Do some research to determine why he is considered so powerful, who he is, and what his policies are. What are some arguments for and against the power vested in the hands of the Fed Chairman?

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3) There has been a debate in the past couple of decades over the pros and cons of a constitutional amendment requiring a balanced budget. Do some research on this topic. Be prepared to give the arguments of all sides in the discussion. If passed and ratified, what would happen? Who would decide what to cut if the president and Congress couldn’t propose a balanced budget regularly? Republicans in the 1980s supported such an amendment, but many now (with dramatically increased budget deficits created under the Bush Administration) oppose one, while many Democrats, who previously opposed an amendment, now support an amendment or other deficit reduction measures. What are the politics of deficit reduction? Would the current Bush Administration support a balanced budget amendment, do you believe, considering the massive deficits of the George W. Bush era of government?

4) A major concern of the nineteenth century was the business cycle. Monetary and

fiscal policies have minimized these swings to some extent. Test the truth of these statements by looking at historical economic trends.

5) The Environmental Protection Agency is the largest regulatory agency in the U.S.

government. It has also been attacked for a variety of reasons by Republicans and Democrats. Using the information in this chapter as a starting point, do some research about the EPA. How effective is it? What does it do? What impact does it have on business? What effect has the rejection of the Kyoto Protocols by George W. Bush had on environmental policy in this country and the world? Do young Americans, who generally have a greater concern about the environment than most age groups, have confidence in this Administration’s claims of environmental concern? What is the Bush Administration’s real record on the environment?

Web sites

Federal Reserve Board Web site has basic information about the FRB, its structure, and purpose. Also has publications, announcements, lists of related Web sites, biographies of members, reports, and statistics.

www.federalreserve.gov Office of Management and Budget (OMB) Web site offers budget information, reports, testimony, regulatory policies, and more from the perspective of the administration. www.whitehouse.gov/OMB Congressional Budget Office (CBO) Web site offers Congress' opinions on budget matters including statistics, reports, budget reviews, testimony, and more.

www.cbo.gov

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The Council of Economic Advisors Web site offers the Economic Report of the President and CEA publications, as well as basic information about the CEA and its members.

www.whitehouse.gov/cea

The National Debt Clock offers a running account of the public debt and offers links to a variety of groups and organizations interested in the debt and/or deficit and why and how it should be reduced. www.brillig.com/debt_clock GPO Access offers the full text of many Government Printing Office publications on the Web, including the economic indicators prepared for the Joint Economic Committee by the Council of Economic Advisors; updated monthly. Among the growing list of titles available are the Federal Register, the Congressional Record, Congressional Bills, United States Code, Economic Indicators and GAO Reports. http://www.gpoaccess.gov/index.html The Concord Coalition is a nonpartisan, grassroots organization dedicated to eliminating federal budget deficits and ensuring Social Security, Medicare, and Medicaid are secure for all generations; founded by Paul Tsongas (D) and Warren Rudman (R). The Coalition Web site offers lots of information about the debt and deficit, as well as some social policy issues. They offer e-mail newsletters, grassroots initiatives, statistics, and more. www.concordcoalition.org The Economic Policy Institute (EPI) is a nonpartisan think tank devoted to economic issues. This Web site offers a variety of reports on economic issues and a monthly newsletter delivered by e-mail. Despite their self-classification as nonpartisan, their board of directors is predominantly left-leaning (liberal).

www.epinet.org The Cato Institute is a libertarian think tank promoting an unregulated free market. Their Web site offers a variety of articles and links. Deregulation is a favorite topic on the Cato Web site. www.cato.org The American Enterprise Institute is a conservative think tank that addresses a variety of issues including the government and the economy. Their Web site offers information on their calendar of events, a variety of articles, and links. On the left side of the Web page, click on “Joint Center for Regulatory Studies.” www.aei.org Moving Ideas hosts policy, politics, and news from progressive and liberal research organizations and advocacy groups. Click on “The Economy” link at the left side of the Web page for information on the budget and the economy. www.movingideas.org

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The Brookings Institution is the oldest think tank in America and has the reputation of being fairly moderate. Their Web site offers policy briefings, articles, books, The Brookings Review, discussion groups, and links. On the left side of the Web page, click on “Research Topics” then on “Economic, U.S” for information on the budget and economy. www.brook.edu Bush Greenwatch is a Web site reporting on President George W. Bush’s record and policies on environmental regulation from an environmentalist perspective. http://www.bushgreenwatch.org

Practice Tests

MULTIPLE CHOICE QUESTIONS 1) The doctrine of laissez-faire is based on the theories of a. Adam Smith. b. Alexander Hamilton. c. John Maynard Keynes. d. Milton Friedman. 2) State “land grant” colleges were established by the a. Homestead Act. b. Morrill Land Grant Act. c. Clayton Act. d. Wagner Act. 3) Congress passed the Federal Reserve Act in a. 1961. b. 1948. c. 1935. d. 1913. 4) The income tax was made possible by the a. Clayton Act. b. law Congress passed on income taxes. c. Sixteenth Amendment. d. Hatch Act. 5) The law that created the New Deal government program called the Federal

Deposit Insurance Corporation was the a. Taft-Hartley Act. b. Glass-Steagall Act. c. Securities Act. d. Federal Reserve Act.

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6) The first acts of the New Deal were directed at a. the financial system. b. the country’s food and agricultural problems. c. labor problems. d. poverty problems. 7) Workers' rights to organize and bargain collectively through unions of their own

choosing were codified in the a. Taft-Hartley Act. b. Glass-Steagall Act.

c. Taylor Act. d. Wagner Act. 8) The radio, telephone, and telegraph industries became subject in 1934 to federal regulatory controls by the a. Federal Broadcasting Act. b. Federal Communications Commission. c. Telecommunications Act. d. Multimedia Act. 9) Deregulation first became a serious part of the national policy agenda due to the efforts in the 1970s of a. President Richard Nixon. b. President Gerald Ford and Senator Edward Kennedy. c. President Jimmy Carter. d. President Ronald Reagan. 10) The landmark federal legislation that deregulated radio, which benefited corporate profits but caused a decline in minority ownership and diversity of content, was a. the Communications Act of 1934. b. instituted by President Ronald Reagan. c. the Telecommunications Act of 1996. d. All of the above. 11) The idea that government spending could offset a decline in private spending and

thus help maintain high levels of spending, production, and employment was advocated by

a. David Ricardo. b. John Maynard Keynes. c. Herbert Hoover. d. Franklin Roosevelt.

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12) What seven-member federal agency has the responsibility for the formulation and implementation of monetary policy in the United States?

a. Federal Reserve Board b. Office of Management and Budget c. Council of Economic Advisors d. None of the above. 13) Federal government policies on taxes, spending, and debt management are

referred to as a. aggregate policy. b. economic policy. c. fiscal policy. d. monetary policy. 14) The president began preparing and submitting a budget to Congress under the authority given him by Congress in the a. Revenue Act of 1964. b. Budget and Accounting Act of 1921. c. Budget Enforcement Act of 1990. d. Budget and Impoundment Control Act of 1974. 15) President George W. Bush’s plan to replace provisions of the Clean Air Act with voluntary reductions in carbon dioxide emissions is known as a. Clear Skies. b. Silent Spring. c. Toxic Substances Control Act. d. All of the above. TRUE/FALSE QUESTIONS 1) The Progressive movement sought to bring corporate power under the control of

the government. 2) The Wagner Act increased the power of labor unions. 3) As a result of social regulation, many industries that previously had limited dealings with the federal government found they now had to comply with government regulation of their operations. 4) Financial scandals of several large U.S. corporations have lead to calls for

renewed oversight, accountability, and re-regulation. 5) The first significant application of fiscal policy theory occurred in 1964 with the Revenue Act of 1964.

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6) The Congressional Budget Office is a professional staff of technical experts to advise Congress with budgetary information so Congress can be more independent of the president’s budgetary influence.

7) President George W. Bush’s series of tax cuts early in his administration

dramatically revitalized the economy, provided substantive tax cuts for the middle class, and led to years of low budget deficits.

8) Following the Clinton budget and the Reconciliation Act of 1993, significant

declines in the federal deficit were attained. 9) The EPA is now confronting issues of environmental civil rights because many polluting industries are located in poor black neighborhoods. 10) Acid rain has been an important environmental problem for over half a century. COMPARE AND CONTRAST laissez-faire vs. interventionist state Wagner Act, the Fair Labor Standards Act, and Taft-Hartley economic regulation, social regulation, and deregulation economic stability and inflation recession and depression

reserve requirements, discount rate, and open market operations monetary and fiscal policies OMB and CBO budget deficit and national debt ESSAY AND SHORT ANSWER QUESTIONS 1) Discuss the American economic system, its roots and its interaction with political

forces within the country. 2) Discuss the Interstate Commerce Act and the Sherman Anti-Trust Act. 3) What is the Taft-Hartley Act, and what was its significance to American labor?

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4) Compare and contrast economic and social legislation. 5) Briefly explain the Federal Reserve System. 6) Explain the process that America went through in its evolution from a laissez-

faire state to an interventionist state. 7) Discuss the nature of economic and social regulation in the nineteenth and twentieth centuries. 8) How does the government use fiscal and monetary policy to stabilize the

economy? 9) Discuss the economics of regulating environmental pollution. 10) The huge national debt has led many people to suggest a number of reforms in

economic policy. Discuss the problem of the debt and deficit as well as the reforms that have been proposed. Discuss the positions Democrats and Republicans have taken and flip-flopped over in recent years.

ANSWERS TO STUDY EXERCISES Multiple Choice Answers

1) a 2) b 3) d 4) c 5) b 6) a 7) d 8) b 9) b 10) c 11) b 12) a 13) c 14) b 15) a

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True/False Answers

1) T 2) T 3) T 4) T 5) T 6) T 7) F 8) T 9) T 10) F

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