Fiscal Policy: Basics

Question 1

What is the rationale of fiscal policy?

Answer 1

To shift aggregate demand in order to stabilise the business cycle, by:

• Increasing leakages and decreasing injections in an upturn or boom
• Decreasing leakages and increasing injections in a downturn or recession

Question 2

The Australian Government’s budget balance changes from $10b in Year 1 to $20b in Year 2. What is the budget outcome in Year 2?

Answer 2

Surplus

Question 3

The Australian Government’s budget balance changes from $10b in Year 1 to $20b in Year 2. What is the fiscal stance in Year 2?

Answer 3

Contractionary

Question 4

The Australian Government’s budget balance changes from $10b in Year 1 to -$20b in Year 2. What is the budget outcome in Year 2?

Answer 4

Deficit

Question 5

The Australian Government’s budget balance changes from $10b in Year 1 to -$20b in Year 2. What is the fiscal stance in Year 2?

Answer 5

Expansionary

Question 6

The Australian Government’s budget balance changes from $20b in Year 1 to $10b in Year 2. What is the fiscal stance in Year 2?

Answer 6

Expansionary

Question 7

The Australian Government’s budget balance changes from -$20b in Year 1 to -$10b in Year 2. What is the fiscal stance in Year 2?

Answer 7

Contractionary

Question 8

The Australian Government’s budget balance is $10b in Year 1 and $0b in Year 2. What is the budget outcome in Year 2?

Answer 8

Balanced

Question 9

The Australian Government’s budget balance is $10b in Year 1 and $10b in Year 2. What is the fiscal stance in Year 2?

Answer 9

Neutral

Question 10

True or false: the Australian Government had a contractionary fiscal stance from 2015-2019 and by 2019 did not have a budget deficit

Answer 10

True

Question 11

True or false: the Australian Government had a contractionary fiscal stance from 2015-2019 and by 2019 had paid off its debt

Answer 11

False

Question 12

What are cyclical components of the budget?

Answer 12

Types of taxation or government spending that change with the business cycle (e.g. income tax, Jobseeker)

Question 13

What are structural components of the budget?

Answer 13

Types of taxation or government spending that do not change with the business cycle (e.g. hospital funding)

Question 14

What are discretionary changes to the budget, and what are examples of discretionary changes to tax and to government spending?

Answer 14

Changes to taxation or government spending due to a deliberate government decision (e.g. the government increase income tax rates or the amount of money paid to someone on Jobseeker)

Question 15

What are non-discretionary changes to the budget, and what are examples of non-discretionary changes to tax and to government spending?

Answer 15

Changes to taxation or government spending due to changes in the business cycle (e.g. in a boom incomes and income tax rise and the number of people receiving Jobseeker falls)

Question 16

What are the disadvantages of a budget deficit?

Answer 16

1) Crowding out effect
2) Worsens external stability
3) Inflationary pressures
4) Must be repaid by future generations

Question 17

How long is the time lag of fiscal policy?

Answer 17

6-12 months for implementation (must pass through Parliament)

Immediate impact once it is spent

Question 18

What are the ways to finance a budget deficit?

Answer 18

1) Borrow from the private sector
2) Borrow from overseas
3) Borrow from the RBA (print money)
4) Sell assets

Question 19

How can the government use a budget surplus?

Answer 19

1) Pay off existing government debt
2) Invest in the Future Fund
3) Deposit with the RBA

Question 20

How can fiscal policy be used to address high inflation?

Answer 20

A contractionary fiscal stance can decrease AD and demand inflation

Question 21

How can fiscal policy be used to address an unequal distribution of income and wealth?

Answer 21

A progressive tax system and spending on welfare and government services (e.g. education) can reduce the income gap

Likewise, the government could charge a tax on assets (wealth) - but the Australian Government doesn’t do this

Question 22

How can fiscal policy be used to address high unemployment?

Answer 22

An expansionary fiscal policy can increase AD and the derived demand for labour

The government can also spend on programs that reduce structural and frictional unemployment

Question 23

How can fiscal policy be used to address environmental issues?

Answer 23

The government can tax negative externalities and subsidise positive externalities as incentives for actions that protect the environment

Question 24

How can fiscal policy be used to improve external stability?

Answer 24

A contractionary fiscal policy can reduce government foreign debt, which lowers NFD and improves the NPY (due to lower interest repayments)

A contractionary fiscal policy also slows growth, which reduces consumption and import spending, improving the BOGS