Macroeconomic Policies

Question 1

Define macroeconomic policy

Answer 1

The use of government policies to influence the economy, with the aim of reducing large fluctuations in the level of economic activity and achieving certain economic goals

Question 2

What is the time-frame for macroeconomic policy?

Answer 2

Short to medium term

Question 3

What is the focus of macroeconomic policies?

Answer 3

To influence aggregate demand and spending in the short term

Question 4

What is fiscal policy?

Answer 4

The government use of taxation and spending to influence resource allocation, redistribute income and reduce fluctuations in economic activity

Question 5

What is the budget?

Answer 5

A tool which plans government expenditure and revenue for the next financial year

Question 6

What are the three budget outcomes?

Answer 6

Surplus (T>G)

Deficit (T

Question 7

What are discretionary changes in fiscal policy?

Answer 7

Deliberate changes to fiscal policy such as reducing spending or changing taxation rates (structural component)

Question 8

What are non-discretionary changes in fiscal policy?

Answer 8

Caused by changes in the level of economic activity (cyclical component)

Question 9

What are automatic stabilisers?

Answer 9

Policy instruments in the government’s budget that counterbalance economic activity

In a boom period they decrease economic activity and in a recession they increase economic activity

Examples include transfer payments and the progressive income tax system

Question 10

What is the effect of budgetary changes on resource use?

Answer 10

The government reallocates resources through taxes collected from different sectors and industries and reallocates to others (income tax)

This ensures efficient allocation of resources in the economy and accounts for the negative externalities of production

Question 11

What is the impact of budgetary changes on income distribution?

Answer 11

Fiscal policy can serve to make income distribution more equal (lowering taxes on low income earners) or less equal (the removal of the tax bracket)

Question 12

What is the impact of budgetary changes on economic activity?

Answer 12

When the government increases spending, it causes a multiplier effect on the initial income, supporting AD

The one-off financial payments of $900 made during the GFC, combined with other discretionary fiscal stimulus measures, was estimated to boost Australia’s real GDP by 2.75%

Question 13

What are the three ways that the government can finance a budget deficit?

Answer 13

Borrow from the Private Sector

Borrow From the RBA

Borrow From Overseas

Question 14

What is debt financing?

Answer 14

The selling of treasury bonds, where investors lend money through bond purchasing and the government pays back the money with interest

Pros; there is no change in the money supply, since the government is borrowing within the domestic economy, and this is injected through spending

Cons; it can lead to a crowding out effect that leads to a ‘crowding out’ effect - less money is invested in banks, putting upward pressure on interest rates

Question 15

What is quantitative easing?

Answer 15

The government sells securities to the RBA

This method increases the supply of money in the economy and is only used when the cash rate is nearing 0, as interest rate cuts become ineffective

Pros; no change to the interest rate, no accumulation of public debt, no increase in foreign debt

Cons; this can devalue the currency as there is an increase in the supply of money

Question 16

How can the government borrow from overseas?

Answer 16

The RBA sells government securities to foreign investors, then the RBA credits the Australian dollar equivalent of the loan to the government’s account

Pros; no increase in domestic interest rates, can be less expensive than domestic borrowing

Cons; the accumulation of foreign debt adds to CAD as interest repayments increase NPY outflow

Question 17

What are three ways that a government can use a surplus?

Answer 17

Pay Off Public Debt - will reduce future debt obligations, as interest repayments become lower, minimising future expenditure

Reduce Foreign Debt - will reduce interest payable and the size of the NPY deficit, hence reducing the CAD

Government Owned Investment Funds (Eg - the Future Fund helps cover superannuation liabilities)

Question 18

What is monetary policy?

Answer 18

Actions taken by the RBA to influence the cost and availability of credit in the Australian economy

Question 19

What is the purpose of monetary policy?

Answer 19

To achieve price stability, full employment and sustainable economic growth

The RBA inflation target band of 2-3% is integral to achieving these objectives

Question 20

What is the transmission mechanism?

Answer 20

Refers to how changes in the stance of monetary policy influence economic objectives, such as inflation and economic growth

Question 21

What is the wealth effect?

Answer 21

When lower interest rates makes borrowing cheaper, which encourages spending and increased demand

This occurs because a rise in the price of assets makes owners feel more wealthy, and thus more likely to spend

Question 22

What is the impact of changes in interest rates on the exchange rate?

Answer 22

High domestic interest rates increase demand for the AUD, as savings rates are more attractive for investors

This can cause an appreciation of the dollar, with the opposite occurring with lower rates

However, the impact on the exchange rates is a secondary function of monetary policy