chapter 12 - fiscal policy

Question 1

government role in an economy

Answer 1

govt needs to step in to stabalise the economy by using fiscal policy or monetary policy

Question 2

fiscal policy

Answer 2

changes in govt spending or taxes to reach desired Yf level

Question 3

sources of govt revenue

Answer 3

1. taxes
2. non-tax revenue (investment income, income from sales of goods n services, repayment of govt loans)

Question 4

areas of govt expenditure

Answer 4

Defence and justice
social & community services
economic services
servicing of its public debt.

Question 5

govt budget

Answer 5

T > G –> BUDGET SURPLUS
T < G –> BUDGET DEFICIT
T = G –> balanced budget

Question 6

expansionary FP

Answer 6

raising G and/or lowering taxes
when economy is in recession
results:
AD increases, output increases
When increasing G –> AD shift to right
When lower tax, after tax income will inc, C will inc, AD will shift to right, output will rise

Question 7

contractionary FP

Answer 7

lowering G and/or increasing taxes
when economy is in an inflationary situation
results:
Ad decreases output decreases
When decreasing G –> AD shifts to the left
When inc tax, aft tax income will decr, C will decr, AD will shift to the left, output will decrease

Question 8

Calculate the change in output if G is increased by $50B

Answer 8

$200B

Question 9

Calculate the change in output if taxes are reduced by $50B

Question 10

evalutation of FP

Answer 10

timing problem
political consideration
crowding-out effect
inflation

Question 11

timing problem

Answer 11

1. recognition lag (time is needed to identify the stage of the biz cycle a country is at before deciding on the appropriate policy to adopt.)
2. Administrative lag (time needed to obtain approval from various parties to change taxes or government spending)
3. Operational lag (fiscal policy enacted now requires time via the multiplier to work through the economy and affect income. By then, there may be a change in economic conditions so that the opposite fiscal policy is required)

Question 12

political consideration

Answer 12

The adoption of expansionary FP, comprising an  in G and/or a  in T, tends to make the government more popular.
Tendency for FP to be expansionary despite the fact that it may not the right policy to adopt.

Question 13

crowding-out effect

Answer 13

reduces the impact of the fiscal policy. E.g., when the government decides to increase government spending to help stimulate the economy by borrowing, the demand for funds in the country will increase.
The increase in the demand for funds causes interest rate to rise. This, in turn, causes investment and consumption to fall. While the increase in government spending helps push the AD to the right, the resultant increase in interest rates will, in turn, push the AD to the left because of its negative impact on consumption and investment.

Question 14

inflation

Answer 14

Expansionary FP, which leads to  AD and Y, may lead to inflation

Question 15

automatic stabilisers

Answer 15

1. unemployment compensation
2. progressive income tax

Question 16

UN compensation

Answer 16

1. during recession:
   * When a person becomes unemployed and loses his income, he reduces spending.
   * This reduction in spending causes the income of someone else to fall, and the multiplier process begins to contract the level of income.
   (prevents C and AD from falling too low)
2. during inflation:
   People have more money available to spend –> high AD.
   as people are employed they will have to contribute to the unemployment benefits fund.
   (prevents C and Ad from rising too high)

Question 17

progressive income tax

Answer 17

1. during recession
   As people’s income , they now pay less taxes.
   Prevents their Y from  too low.
   (prevents C and AD from falling too low)
2. during economic expansion
   People will now pay more taxes than before.
   After tax income or disposable income Yd will be prevented from  too much.
   (prevents C and AD from increasing too high)