Fiscal Integration (II)

Question 1

Positive output gaps lead to…

Answer 1

Inflation

Question 2

Negative output gaps lead to…

Answer 2

Unemployment

Question 3

In a Keynesian model how does the government decrease demand?

Answer 3

Decrease in gvt spending and increase in taxes, vice versa.

Question 4

6 arguments against fiscal policy

Answer 4

1- Uncertainty:

Increases in output and prices can be the result of simultaneous shifting:
 Positive demand shock
 Increase in LR supply curve due to technological development

2- Policy lags:

2 years to see results of the policy changes

3- Shocks in fiscal policy:

G as a tool for stabilization is not compatible with public sector services planning
o Economic policy collides with social policies and environmental issues
o High diversity of public goal makes planning even more complex:

4- Ricardian equivalence:

The impact of G in an economy does not depend on whether it is financed through debt or taxes.
Higher debt is equivalent to higher taxes in the future.

5- Crowding out effect:

The effect of budget deficit on private investment. When the gvt borrows it limits the private sectors ability to do so.

6- The Phillips curve:

• Inflation versus Unemployment

Question 5

what is the public deficit? What explains it?

Answer 5

Its the structural deficit plus the contextual deficit, when the gvt spends more than it has.

o 1. The business cycle or how the GDP growth is behaving in a specific point in time
o 2. The structural characteristics of the economy and its capacity to collect taxes

Question 6

Structural deficit formula

Answer 6

Public Deficit = Contextual Deficit + Structural Deficit

Question 7

Calculate structural balance…

Answer 7

SB= structural rev - structural spending

SR= Actual Revenues x (Potential output/actual output)*alpha

SS= Actual Spending x (Potential output/actual output)*beta

actual output is 100 - number given

Question 8

When is debt sustainable?

Answer 8

When debt/GDP ratio is constant = 0. Debt can rise if GDP rises.

Question 9

What is primary balance

Answer 9

Public revenue-Public spending

Question 10

When can G run a surplus

Answer 10

if g<r there is no room at all and the country must run surpluses to offset

Question 11

When can G run a deficit

Answer 11

if g>r there is room for a bit of increase in debt so that the country can afford primary deficits (increase in gvt spending)

Question 12

What are budget deficits for

Answer 12

Consumption and investment

Question 13

Cyclical considerations on deficits

Answer 13

o Recessions mean low tax collections, high pay-outs
o Should taxes increase during recessions?
 Distortionary effects on taxation
 Tax smoothing

Question 14

what does cost of debt vary on?

Answer 14

The cost of debt varies depending on the rating agencies give to the issuer of the debt (“sovereign rating” in the case of public debt)