2.6.2 Fiscal Policy - Government Budget Flashcards
Define the government budget
Consists of government spending and tax revenue
What is a balanced budget
Government spending is equal to tax revenue during a financial year
What is a budget deficit
Government spending is greater than tax revenue in a financial year
What is a budget surplus
Government spending is less than tax revenue in a financial year
Give some key causes of a budget deficit
- recession causing rising unemployment
- decrease in consumer spending so falling profits for firms
- deliberate use of fiscal stimulus to boost AD
- increase in economic inactivity
How does a recession cause a budget deficit
Rising unemployment so more spending on welfare benefits and less tax revenue collected
How does lower consumer spending cause a budget deficit
Falling profits for firms leading to less tax revenue collected
How does an increase in economic inactivity cause a budget deficit
Rise in welfare spending
Define the national debt
The cumulative total of past government borrowing
What it national debt the result of
A country consistently running budget deficits
What does servicing the national debt involve
Paying interest on the outstanding debt and when necessary repaying the principal amount borrowed
What is the relationship between a budget deficit and the national debt
As deficit rises, so does national debt
what are the two types of budget deficit
- cyclical
- structural
what is a cyclical budget deficit
a temporary budget position, which is related to the trade cycle.
a deficit may occur during a recession as tax revenues fall and expenditure on unemployment benefits rises
what is a structural budget deficit
due to an imbalance in the revenue and expenditure of the government, so it exists at every point in the business cycle
which type of budget deficit is most concerning
structural, as it suggests a lack of budgetary control by the government
what are the negative effects of a budget deficit
- increased borrowing
- higher interest rates (crowding out)
- expectations of higher taxes
- demand-pull inflationary pressure
explain increased borrowing and how it leads to higher interest rates
- to finance a budget deficit, the government needs to borrow money through the issuance of bonds
- when the government competes with private borrowers for funds, it can lead to higher interest rates
what is the effect of higher interest rates
can lead to reduced private sector investment and borrowing as there is a reduced availability of funds (crowding out)
explain expectations of higher taxes
a growing fiscal deficit may lead to some businesses and households to expect higher taxes in the future causing them to cut back on spending and save more, which lower AD
how can a fiscal deficit cause demand-pull inflationary pressure
increased government spending, higher AD, demand pull inflationary pressure
give two possible justifications for the government running a large fiscal deficit
- increasing AD to stimulate the economy in a recession
- if spending is capital spending to boost LRAS and long-run growth
what is meant by crowding out
happens when an increase in government borrowing leads to a rise in demand for loanable funds, which causes market interest rates to rise
this can then crowd out capital investment spending by private sector firms
define discretionary fiscal policy
involves deliberate, one-off changes in government spending and taxation with the intention of influencing AD
