Fiscal Policy

Question 1

Fiscal Policy

Answer 1

The use of taxation in order to achieve macro-economic objectives

Question 2

Loose fiscal policy

Answer 2

Policy used to encourage demand by the increase in government spending, and a decrease in taxation. Likely will result in an increase in economic growth

Question 3

Tight fiscal Policy

Answer 3

Policy to decrease overall demand in an economy involving an increase in taxation and a decrease in government spending. This will reduce a fiscal deficit.

Question 4

Taxation

Answer 4

A government policy which involves the government taking a % of populates incomes, generating revenue to spend on public services and investment

Question 5

Progressive taxes

Answer 5

Taxes which rise as income rises

Question 6

Proportional taxes

Answer 6

Taxes at the same rates and boundaries for each level of income

Question 7

Regressive taxes

Answer 7

Taxes which fall as income rises

Question 8

Altering the level of demand

Answer 8

Indirect tax - Raising the price of demerit goods, meaning consumers have to pay more for goods which hinder society e.g. raising tobacco tax in 2011
Subsidies - Supporting businesses which take a certain initiative lowering the price of merit goods e.g. Theresa may reintroducing grammar schools
Tax relief - Crediting tax for businesses so they can research and develop e.g. limited companies starting up in the U.K get a tax credit

Question 9

Deficit and Debt

Answer 9

When a governments tax revenues are insufficient to pay for a given level of state spending then a nation must borrow to make up the difference, this is a budget deficit. Quite common

All deficits added together = debt

The U.K as of 2019 is running at 86% of GDP prior to COVID, After Covid the UK debt has surged to over 100% of GDP

Question 10

Causes of a rising budget Deficit

Answer 10

Recession causes rising unemployment

• Decrease in consumer spending
• Increase in economic inactivity, meaning more welfare spending
• Deliberate use of fiscal stimulus by a government to boost aggregate demand
• Increase in interest rates on debt leading to a rise in debt service costs
• Demographic factors such as pensions to rise
• Deliberate attempts to increase spending on public service

Question 11

How does fiscal policy manage aggregate demand and inflation

Answer 11

Government spending, direct and indirect taxation and the budget can be used “counter-cyclically”
-Discretionary fiscal changes are deliberate changes in taxation
Automatic fiscal changes (automatic stabilisers) are changes in tax revenues and state spending arising automatically as the economy moves through the trade cycle.

Question 12

Measuring a governments fiscal stance

Answer 12

A neutral fiscal stance - if the government runs with a balanced budget
A reflationary budget - Government is running a budget deficit
A deflationary fiscal stance - government runs a budget surplus.

Question 13

Problems with fiscal policy

Answer 13

Recognition lags: It takes time for policy-makers to recognise a need for changes in spending or taxation
Imperfect information: key data in the economy is often delayed
Response lags: It takes time for the policies to be implemented, Tax revenue policy requires time to implement e.g. UK cooperation tax rise to 25% in 2021 is going to be introduced in 2023

Question 14

Impacts of fiscal policy on aggregate supply

Answer 14

Labour market incentives:

• Changes in income tax can improve incentives to work
• People will be more motivated at work

Capital Spending:

• Changes in infrastructure spending provides the capacity needed for businesses to flourish
• Lower rates of co-operation tax might attract inward investment from overseas.

Research and development:

-Can encourage research with excess money from tax cuts

Question 15

Fiscal policy which impacts distribution of general wealth

Answer 15

Welfare state transfers
Universal child benefits / Unemployment assistance
Public (State pensions)
Conditional welfare transfers
Targeted welfare spending

Question 16

Laffer Curve - Fiscal evaluative graph

Answer 16

Evaluative graph which illustrates that under certain circumstances, the total revenue collected may decrease due to the rate not being at the optimal tax rate.

Tax revenues will fall if tax rates increase too much because:

• Increased rate of tax avoidance
• Greater incentives to evade taxes
• Possible disincentive effects in the labour market - depending on which taxes have been increased
• Possible brain drain effects - Loss of highly skilled, high income taxpayers