314 PART FouR • PolicymAking
monetary Policy during Recessions. A tight monetary policy is effective as a way of
taming inflation. (Some would argue that it is the only way that inflation can be stopped.)
If interest rates go high enough, people will stop borrowing. How effective, though, is a
loose monetary policy at ending a recession? Under normal conditions, it is very effective.
A loose monetary policy will spur an expansion in economic activity.
To combat the Great Recession, however, the Fed reduced its interest rate effectively to
zero. It could not go any lower. Yet when consumers had credit, they were still reluctant to
make major purchases. Many businesses found that they had little need to borrow to invest in
new activities—and no need to hire new staff. Overall demand for goods and services was so
low that companies could produce all they needed with their existing capacity and workforce.
Monetary policy had run out of steam—using it was like “pushing on a string.” The govern-
ment has little power to force banks to lend, and it certainly has no power to make people
borrow and spend. As a result, the Obama administration placed its bets on fiscal policy.
During 2008 and 2009, the Fed developed a new way to respond to the failure of banks
to lend. Relying on its ability to create money, it began to make loans itself, without turning
to Congress for appropriations. The Fed bought debt issued by corporations. It bought secu-
rities that were based on student loans and credit-card debt. By 2009, the Fed had loaned
out close to $2 trillion in fresh credit. In 2010 and 2011, the Fed implemented yet another
innovative policy, called quantitative easing, in an attempt to make monetary policy more
effective. Quantitative easing essentially means buying quantities of long-term treasuries and
mortgage-backed securities. In December 2012, the Fed announced that it would continue
to hold interest rates down until the unemployment rate falls to 6.5 percent.ThE PoliTics oF TAxATion
Congress enacts tax laws at the federal level. The Internal Revenue Code, which is the
federal tax code, encompasses thousands of pages, thousands of sections, and thousands
of subsections—our tax system is not very simple.
Americans pay a variety of taxes. At the federal level, the income tax is levied on most
sources of income. Social Security and Medicare taxes are assessed on wages and salaries.
There is an income tax for corporations, which has an indirect effect on many individuals. The
estate tax is collected from property left behind by those who have died. State and local govern-
ments also assess taxes on income, sales, and land. Altogether, the value of all taxes collected
by the federal government and by state and local governments is about 27 percent of the gross
domestic product. This is a substantial sum, but it is less than what many other countries collect.Federal income Tax Rates
Individuals and businesses pay income taxes based on tax rates. Not all of your income is
taxed at the same rate. The first few dollars of income that you earn are not taxed at all.
The highest rate is imposed on the “last” dollar of income that you make. This highest rate
is the marginal tax rate. Table 13–2 on the next page shows the 2013 marginal tax rates
for individuals and married couples. The higher the tax rate—the action on the part of the
government—the greater the public’s reaction to that tax rate. If the highest tax rate you
pay on the income you make is 15 percent, then any method you can use to reduce your
taxable income by one dollar saves you fifteen cents in tax liabilities that you owe the fed-
eral government. Individuals paying a 15 percent rate have a relatively small incentive to
avoid paying taxes, but consider individuals who were faced with a tax rate of 94 percent
in the 1940s during World War II. They had a tremendous incentive to find legal ways to
reduce their taxable incomes. For every dollar of income that was somehow deemed non-
taxable, these taxpayers would reduce tax liabilities by ninety-four cents.LO5: Describe the various
taxes that Americans pay, and
discuss some of the controversies
surrounding taxation.
Copyright 2014 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s).
Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it.