Impact of high fiscal deficit/national debt

Question 1

Changing tax rates and base

KAA1 (+ves)

Answer 1

Knowledge:
Define fiscal deficit=when government spending exceeds governemtn revenue with a year
Define national debt=the accumulation of fiscal deficit over many years

Application:
-UK 2025 fiscal deficit= around $64.8 billion
-tax rates (20%,40% and 45%)
-Personal allowance is at £12,570
-UK Corporation tax rate=25%

Analysis:
widening tax base and reducing personal allowance-increase in the amount of taxable income in the UK-increase in income tax revenue
-increasing tax rates could help reduce AD-reducing demand pull inflation-reducing general price level-domestic goods are more price competitive in foreign markets

Question 2

Eval of changing tax rates

Eval 1

Answer 2

The laffer curve shows that if tax rates increase past the optimum point tax revenue will decrease-workers are less incentivised to work-also tax avoidance and evasion-less tax revenue-worsened fiscal deficit

Increasing corporation tax rates-reduced retained profits available for R&D-reduction investment (20% of UK AD)-reduced AD

Higher income tax rates-lower disposable income-less spending-lower consumption (60% of UK AD)-reduced AD

Reduced AD-reduced derived demand for labour-increase in cyclical unemployment-lower incomes-lower income tax revenue-worsening fiscal deficit

Diagram:
Laffer curve (Tax revenue on y axis and tax rate on x axis)

Question 3

Reducing govt spending

KAA2

Answer 3

Knowledge:
Government spending is speding by the public sector on goods and services education, health care and defence.

Application:
Investment in 15-20% of UK AD

Analysis:
Reduced govt spending on unemployment benefits-increased incentive to join the workforce-increase in the quantity of labour-increase in LRAS-Increase in potential economic growth

Reduction in govt spending through borrowing-less crowding out of private sector-better access to finance for private sector-increase in investment-increase in AD

Question 4

Impact of reducing govt spending

EVAL 2

Answer 4

Knowledge/Analysis:
-less spending in the public sector-lower incomes for public sector workers-lower income tax revenue

-Lower govt spending-less injections into circular flow of income-lower AD-increase negative output gap-lower actual economic growth-higher cyclical unemployment-lower incomes-lower income tax revenue-worsening budget deficit

Application:
Negatively affect healthcare market as most healthcare professionals and public transport workers work in the NHS and TFL

Govt spending is 20-25% of UK AD