CH16 - Government Debt and Deficits

Question 1

What relationship is summarized in the government’s budget constraints

Answer 1

Relationship between gov. expenditures, tax revenues, and borrowing

Question 2

What is the government’s budget constraint equation?

Answer 2

Gov. Expenditure = Tax revenue + Borrowing

Question 3

What are the 2 categories of government expenditure?

Answer 3

1. Purchase of goods and services (G)
2. Debt-service payments (D * i)

Question 4

What are debt-service payments?

Answer 4

Payments that represent the interest owed on a current stock of debt

Question 5

What is the 3rd component of gov. expenditure, and why is not directly included in it?

Answer 5

Transfers, because they are included in the net tax revenue (T)

Question 6

What is a budget deficit?

Answer 6

Any shortfall of revenue below current expenditure

(gov exp. > Tax revenue)

Question 7

What is the government debt?

Answer 7

The outstanding stock of financial liabilities for the government
It’s equal to the sum of past budget deficits

Question 8

What is the budget deficit equation?

Answer 8

∆D = (G + i * D) - T

Question 9

A budget deficit ________ the stock of government debt.

a) increases
b) decreases
c) does not change

Answer 9

increases

Question 10

What is the primary budget deficit?

Answer 10

The difference between the government’s overall budget deficit and its debt-service payments

i.e. Gov purchases - Net tax revenue

Question 11

What is the primary budget deficit equation?

Answer 11

PBD = G - T

Question 12

What does the primary budget deficit/surplus show?

Answer 12

The extent to which current tax revenues can cover the government’s current program spending

Question 13

What is it important to consider when examining the size and effects of budget deficits/surpluses?

Answer 13

All level of government

Question 14

What is fiscal policy?

Answer 14

The use of government spending and tax policies

Question 15

What is the budget deficit function?

Answer 15

A relationship that plots the government’s budget deficit as a function of the level of real GDP (for a given fiscal policy)

Question 16

What is the relationship between real GDP and the government’s budget deficit?

Answer 16

Negative

Question 17

What type of change to the budget deficit function does a change in real GDP in the absence of any policy do?

Answer 17

A movement along the budget deficit line

Question 18

What type of change to the budget deficit function does a fiscal policy do?

Answer 18

A shift of the budget deficit line

Contractionary = shift down
Expansionary = shift up

Question 19

The actual budget deficit is the sum of what 2 compontents?

Answer 19

Structural and cyclical deficits

Question 20

What is the structural budget deficit?

Answer 20

An estimate of what the government budget deficit would be if real GDP = Y*
(also called cyclically adjusted deficit)

Question 21

What is the cyclical deficit when GDP = Y*

Answer 21

0

Question 22

During recessionary gap, the actual budget deficit _______ the structural budget deficit

The cyclical component is ______

Answer 22

exceeds

positive

Question 23

Changes in the stance of fiscal policy are best identified by the resulting change in what?

Answer 23

The structural budget deficit

Question 24

What are the 2 forces that tend to increase the debt-to-GDP ratio?

Answer 24

1. If real interest rate (r) exceeds growth rate of real GDP (g), the debt accumulates faster than GDP grows, so debt-to-GDP will increase
2. If gov. has a primary budget deficit, it is incurring new debt to finance its program, so debt-to-GDP will increase

Question 25

In our macro model, we assume that an increase in the government’s budget deficit leads to a ________ in national savings

Answer 25

decrease

(borrowing reduces the government’s saving)

Question 26

What is crowding out?

Answer 26

The offsetting reduction in private expenditure caused by the rise in the interest rates that follows an expansionary policy

Question 27

The long run effect of a fiscal expansion is to:
_______ national savings
_______ the real interest rate
_______ private investment

Answer 27

reduce
increase
crowd out

Question 28

In an open economy, the government budget deficit attracts ___________ and _________ the domestic currency.
The long-run result is a ____________ of net exports

Answer 28

foreign financial capital
appreciates
crowding out

Question 29

The larger is the increase in potential output caused by a fiscal expansion, the _____ private expenditure will be crowded out

Answer 29

less

Question 30

What are the 2 categories of capital budgeting?

Answer 30

1. Consumption (for current generation)
2. Investment (for future generation)

Question 31

Government budget deficits are paid by who?

Answer 31

By future generations (by paying taxes)

Question 32

Fears of future debt monetization will likely lead to
expectations of _________ and put ________
pressure on nominal interest rates and on some prices
and wages

Answer 32

Future inflation

upward

Question 33

Having fiscal expansions during recessions and fiscal
contractions during booms is _________.

Answer 33

counter-cyclical fiscal
policy

Question 34

What would be the 2 consequences of an annually balanced budget?

Answer 34

1. It would eliminate the
   automatic fiscal stabilizers
2. It would accentuate the swings in real GDP