fiscal policy Flashcards
what is public debt
the total a government owes e.g it is all the budget deficit added together. It is cumulative debt owed by a national government
(litch same as national debt)
what is a budget (fiscal) deficit
Is how much has been borrowed that year- it will increase the public debt by how much is borrowed
what is national debt
total of all debt government owes as a country
what is a budget surplus
tax revenue is greater than government spending- can be used to repay national debt
what is a budget deficit
government spending is greater than tax revenue - has to borrow instead
what is a balanced budget
gov spending= tax rev
what are the 2 types of budget deficits
cyclical and structural
whats an example of the gov using expansionary fiscal policy in uk
furlough scheme was a fiscal policy tool to support the economy
gov paid up to 80% of workers’ wages if their employers couldn’t afford to keep them working during lockdowns.
Goal: To boost aggregate demand, prevent mass unemployment and stimulate spending therefore econ growth
austerity meaning
set of gov policies that aim to reduce a budget deficit
whats an example of the gov using contractionary fiscal policy in uk
in the UK austerity measures introduced after the 2008 financial crisis
The government reduced public spending and increased some taxes.
The aim was to reduce the budget deficit, which had ballooned after the crisis.
Cut welfare spending, rise in VAT from 17.5% to 20% in 2011
whats a cyclical budget deficit
budget deficit that occurs when the econ is in downturn
caused by lower tax revenues and higher spending on unemployment benefits and other social programs.
expected to be repaid by a cyclical surplus when the economy recovers and tax revenues increase.
what is a structural deficit
the part of a fiscal deficit that remains even when the economy is operating at full potential output (full employment).
a sign that government policies or systems (like tax levels or spending commitments) are unsustainable in the long run.
how does a government fund a budget deficit
selling bonds
what is this
a loan certificate that tells the buyer the gov will repay the amount borrowed (price of bond) with interest
what happens when gov or central bank buy bonds
Injects money into the economy as they buy bonds from banks or investors.
In return, it gives them cash
Increases bank reserves so banks now have more money to lend, which can boost borrowing and investment.
Lowers interest rates on bonds so more demand for bonds raises their price → which lowers their yield (interest rate).
This puts downward pressure on interest rates across the economy.
Stimulates economic activity
Lower interest rates → more borrowing → more spending and investment → higher aggregate demand.
what happens when gov or central bank sells bonds
Investors buy them – This gives the government cash now to spend.
Government uses the money – Often to cover a budget deficit (when spending > revenue).
Future repayments – The government pays interest regularly (called the coupon) and repays the full amount when the bond matures.
what are the long term impacts of selling bonds
Increases national debt.
Future governments must repay it with interest = opportunity cost.
If debt gets too high, it may lead to:
Higher interest rates (as investors demand more risk compensation)
Pressure to raise taxes or cut spending later due to high amount of interest owed and this is the first thing gov need to pay back
what is crowding out
increased government spending or borrowing leads to a reduction in private sector investment or consumption, often due to higher interest rates or limited resources in the economy
does buying or selling bonds lead to crowding out
selling
why
investors use their savings to buy bonds
government sells bonds, it’s essentially borrowing from the financial markets.
This increases demand for loanable funds.
increased demand available for savings as banks have more money to distribute and so interest rates go lower
gov compete for money that would have been available in private sector
increased demand for savings so cost of borrowing goes up increasing interest rates as more competition for same funds
when may crowding out less likely to
when theres spare capacity in the economy
why
Businesses are more likely to invest in these unused resources, as they can expand without facing higher costs due to increased borrowing.
what is crowding in
Higher government spending leads to an increase in private sector investment due to increased economic growth and more profitable opportunities.
what effect is this due to
due to the income effect of higher government spending. If the economy is in a recession or below full capacity, expansionary fiscal policy can increase the economic growth rate and create a positive multiplier effect, which leads to greater private sector investment.
