Book: Fiscal Policy Summary

Question 1

How foes a fiscal expansion affect output in the short run

Answer 1

Increasing government spending or cutting taxes increases output in the short run. If moves the IS curve to the right.

Question 2

How is the interest rate affected by a fiscal contraction

Answer 2

All else equal the central bank will reduce the interest rate to combat the downward effect on output

Question 3

Does fiscal policy have a one for one effect on output

Answer 3

No because of the multiplier effect. A change in fiscal policy changes disposable income which affects C in addition to G

Question 4

What role can fiscal policy play in avoiding the liquidity trap

Answer 4

When at the zero lower bound increased fiscal stimulus can still be used to ward of a recession. This was not enough to undo the gfc though

Question 5

What would happen if a fiscal consolidation took place at potential in the short run and medium run

Answer 5

In the short term it would lead ti a recession as consumption decreases but in the medium run it just changes the composition of output as investment increases in equal proportion to savings

Question 6

How does saving affect output in the long run. Aka running a public surplus or deficit

Answer 6

In the long run saving increases output through capital accumulation. A larger deficit is therefor bad in the long run

Question 7

How can reducing fiscal deficit improve short term growth

Answer 7

If expectations become higher consumption increases

Question 8

Is fiscal policy more affective in fixed or flexible exchange rate regimes

Answer 8

Fixed as in flexible foreign goods prices don’t move with the domestic economy

Question 9

Is debt and deficit the same thing

Answer 9

No but they are related. Debt is the total amount owed while deficit is the yearly amount for which the government acted beyond its means. Debt is the sum of past deficits

Question 10

How is deficit calculated

Answer 10

def=r*B + G - T

The sum of real interest payment on past debt and G-T

Question 11

Why use real interest rate when calculating deficit

Answer 11

Because inflation, inflation adjusted deficit is the correct deficit

Question 12

What is primary deficit or surplus

Answer 12

Difference between spending and taxes without counting interest payments for previous loans

Question 13

What primary surplus is required to repay the government debt in year t

Answer 13

T-G=(1+r)^ t-1

Question 14

What does interest payments on government debt imply for future taxes

Answer 14

Decreases in tax that creates a deficit will lead to increased tax payments in the future and the longer the government waits the greater the tax increase will need to be

Question 15

How can a country reduce its debt to gdp ratio

Answer 15

By running a surplus, growing faster than real interest payments or reduce the real interest by increased inflation which means paying bond holders with negative interest in real terms. ( pretty evil and unsustainable outside extreme circumstances )

Question 16

What is the Ricardian equivalence proposition or the Ricardo Barro proposition

Answer 16

That nether deficit nor debt have an effect on output if you take into account the government budget constraint as consumption does not change seeng as the deficit simply takes money from the future so their total wealth through time stays the same and the decrease in public savings will simply shift to private savings as the deficit is put into the private sector that saves for the coming tax increase

Question 17

How does the Ricardo Barro proposition hold up to reqlity

Answer 17

The detrimental effect in the long term is lessened but not entirely as tax cuts are rarely announced with a coupled tax increase and consumers are not totally calculating by total wealth especially when things are uncertain and potentially far into the future

Question 18

What is cyclically adjusted deficit

Answer 18

Taking account government debt cycles when judging if debt is abnormally high or low. If zero all id good

Question 19

What is the automatic stabilizer in a recession

Answer 19

As taxes are based in output and government spending is not it proportionally increases during a recession which as a stabilizing effect but also leads to a deficit

Question 20

What is required to calculate cyclically adjusted deficit and why is it difficult

Answer 20

You need to asses how change in output affects deficit and then you need to asses how far it is from potential to se how it will move. It is difficult because potential is a product of the natural rate of unemployment which is hard to know

Question 21

What is tax smoothing

Answer 21

Using debt and surplus to decrease the fluctuations in taxes to keep people from working black and complaining

Question 22

How can fears about the government debt worsen the situation

Answer 22

Increased fear leads to higher interest rates which demand higher surplus which slows down the economy which decreases the ability of payment

Question 23

What is the difference between interest rate on bonds called

Answer 23

Spread

Question 24

What is a basis point

Answer 24

0.01%

Question 25

What is a haircut of 30%

Answer 25

When a government realizes that it cannot repay its full debt and removes 30% of it

Question 26

Why not default

Answer 26

Depending on who holds it it will destroy pensions, banks, international reputation and credibility

Question 27

What is money finance or debt monetization

Answer 27

Relying on inflation to reduce debt

Question 28

What is fiscal dominance of monetary policy

Answer 28

When the government controls the central bank

Question 29

What is seniorage

Answer 29

Difference in money supply/prices
dH/P

Question 30

What is gross debt

Answer 30

Total debt including the debt owned by government entities such as social trust funds

Question 31

What is net debt

Answer 31

Debt held by the public, owed to entities outside the government, private individuals and foreign entities