Fiscal Policy

Question 1

Fiscal Policy

Answer 1

Government expenditure and taxation

Question 2

Reasons for fiscal policy

Answer 2

Prevent disequilibrium
Prevent fluctuations
Increase potential output

Question 3

Budget deficit

Answer 3

Spending > Taxation

Question 4

Budget surplus

Answer 4

Spending < Taxation

Question 5

General government

Answer 5

Combination of central and local government

Question 6

National debt

Answer 6

Accumulated deficits of central government, domestically and internationally

Question 7

Public-sector net borrowing

Answer 7

Difference between spending and taxation

Question 8

Public-sector net cash requirements

Answer 8

The amount the government needs to borrow

Question 9

Current expenditure

Answer 9

Recurrent spending on goods and factor payments

Question 10

Capital expenditure

Answer 10

Expenditure on investment and assets

Question 11

Final expenditure

Answer 11

Expenditure on goods and services, included in GDP

Question 12

Transfer

Answer 12

Payments to recipients, not injections by negative taxation

Question 13

Net borrowing

Answer 13

Relative flow receipts in comparison to expenditure

Question 14

Net debt

Answer 14

Accumulated debt stock

Question 15

Current budget deficit

Answer 15

Current expenditure minus public sector receipts

Question 16

Primary deficit

Answer 16

The sum of public sector expenditure minus interest < receipts

Question 17

Relationship between primary surplus and debt to GDP ratio

Answer 17

PS/Y=D/Y * (r-G)

PS/Y: Primary surplus to GDP
D/Y: Debt to GDP
r: Interest rate
G: Real growth rate

Question 18

Structural deficit/Surplus

Answer 18

Public sector deficit or surplus if the economy were operating at the potential level of national income

Question 19

Fiscal stance

Answer 19

How expansionary or contractionary a budget is

Question 20

Automatic stabilisers

Answer 20

Changes in government spending and taxation without a change in policy
Reduce fluctuations in the economy via counter-cyclical response

Question 21

Problems of automatic stabilisers

Answer 21

Adverse supply side effects
- A higher progressive tax system may led to the substitution of work with leisure
- Unemployment benefits may decrease the incentive to work, shifting Philips curve to the right
- Steeper income curve may create a poverty trap

Fiscal drag
- Can prevent an economy from recovering as additional income generated is absorbed into higher taxation

Fiscal stabilisers cannot completely eliminate fluctuations in national income

Question 22

Discretionary fiscal policy

Answer 22

Deliberate changes in the governments tax rates or level of government expenditure
Used to alter AD, AS, and the distribution of income

Question 23

Fiscal impulse

Answer 23

Non-cyclical fiscal stance arising from discretionary fiscal policy changes

Question 24

Influences on the effectiveness of discretionary fiscal policy

Answer 24

Predicting the effects of changes in government expenditure
- Crowding out: if the government employs the pure fiscal policy then the government will need to borrow the funds, leading to higher interest rates

Predicting the effects of changes in taxes
- A cut in tax will not only increase consumption not savings too
- Lower taxation may not alter income is the substitution effect > income effect

Predicting the resulting multiplier effect on national income
- Multiplier effect can fluctuate based on expectations
- Induced investment via the accelerator is based on sustained confidence
- Credit conditions may be pro-cyclical
- Small differences in predictions can lead to large divergences

Random shocks
- Forecasts cannot take into account unpredictable events

Problems of timing
- Time to recognition
- Time to action
- Time to effect taking place
- Time to changes in government spending and taxation
- Time to changes in consumption

Question 25

Pure fiscal policy

Answer 25

Fiscal policy which does not alter the money supply

Question 26

Crowding out

Answer 26

The increase in interest rates, preventing private sector investment, from an increase in government borrowing

Question 27

Factors influencing the size of crowding out

Answer 27

The shape of the L curve; Flatter, the lower change in interest rates
Whether the money supply is exogenous; If an increase in money demand increases the money supply then the curve will slope upwards
The responsiveness of investment to a change in real interest rates