How can fiscal policy eliminate a GDP gap?

Fiscal policy can eliminate a GDP gap by increasing government spending (which directly increases aggregate demand) or by decreasing taxes (which increases consumption). The changes in government spending and taxes have a multiplier effect on income.

How has U.S. fiscal policy changed over time?

Government spending has increased from 3 percent of the GDP before the great Depression to approximately 24 percent of the GDP.

What are the effects of budget deficits?

Budget deficits can be harmful to the economy. If the deficit is financed by borrowing, interest rates may be driven up and private domestic investment may be crowded out. Higher interest rates make U.S. financial instruments attractive to foreigners, and the resulting increase in the demand for dollars may cause the dollar to appreciate. The appreciation of the dollar decreases net exports. Greater interest costs as a result of the deficit may decrease national wealth if the debt is held by foreign residents and the debt did not increase investment and productive capacity in the United States.

How does fiscal policy differ across countries?

Industrial countries spend more of their budgets on social programs than do developing countries and they depend more on direct taxed and less on indirect taxes as sources of revenue.