unit 4 aos 1 budgetary policy

Question 1

sources of government revenue

Answer 1

• direct taxation
  > progressive taxes
  > regressive taxes
  > proportional taxes
• indirect taxation
• revenue from government businesses
• sale of government assets

Question 2

direct taxation

Answer 2

levied on those receiving incomes. ~70% of all gov receipts
- personal income tax, medicare levy, capital gains tax, company tax

Question 3

indirect taxation

Answer 3

added onto the price of some goods at point of sale. 24% of all receipts
- excise duty, customs duties/tariffs

Question 4

progressive taxes

Answer 4

narrow the gap between individuals with higher vs lower incomes. tax rate rises with the level of income.

Question 5

regressive taxes

Answer 5

increase income inequality, because tax on a g or s represents more of a lower income earners income. (GST, excise tax on fuel)

Question 6

proportional taxes

Answer 6

neutral impact on the distribution of income, because the tax rate remains constant no matter how much income is earned (company tax)

Question 7

types of government expenses

Answer 7

• gov current spending (G1): ongoing costs, consumption spending on the payment of wages & salaries for federal gov employees in the public sector & day to day operating expenses. ~90% of spending in the 23-34 budget
• gov capital expenditure: spending into physical assets, capital or investment spending into national social & economic infrastructure such as building of schools, roads, airports etc. helps grow countrys productive capacity. ~10% of 23-24 budget
• gov transfer payments: one way payments on welfare benefits & industry assistance. payments to the neediest in society. benefits to the aged, unemployed, job seeker, etc. ~35% of 23-24 budget

Question 8

what are government outlays

Answer 8

how the government uses revenue to provide households & businesses with goods, services and incomes, and can affect AD & economic activity
includes:
- welfare outlays
- health spending
- defence
- education spending
- debt interest
- mining, manufacturing & construction
- general public services
- net payments to other governments

Question 9

three types of budget outcome

Answer 9

BUDGET OUTCOME= total value of receipts($) - outlays ($)
- a budget balance: total value of receipts is equal to the total value of outlays
- a budget deficit: total annual value of receipts is less than the value of outlays. financed by borrowing locally (RBA or private investors) or overseas.
- a budget surplus: the annual value of receipts is greater than the value of outlays. leakages rise relative to injections

Question 10

budget deficit can lead to..

Answer 10

• loss of a nations good credit rating
  > future borrowing becomes more expensive
• interest payments take money from providing community services
  > diverting money from more productive uses
• less able to deal with economic crisis
  > as it runs down cash reserves
• increasing debt is unsustainable & a burden on future generations
  > debt will eventually need to be repaid by higher taxes, impacting LS of future gens

Question 11

budget surplus can be used to..

Answer 11

• reduce debt
  > pay off debts owed to other countries, can lead to crowding in, as interest rate falls and stimulates spending
• build up savings balances with the RBA
  > build up a fund to be used in times when a large deficit is required. reduce availability of bank credit and put upward pressure on interest rates
• add to investment balances in special savings funds
  > benefit current and future generations by setting money aside that is invested to generate returns , growing the govs wealth to fund future projects

Question 12

underlying cash balance

Answer 12

• most common way of reporting the budgets result.
• represents the headline balance after subtracting the value of volatile, one off items such as earnings from future fund, asset sales and net cash flows gained from investments
• more clearly reflects governments real financial position, tells how much cash is coming in or out of the economy
• helps to understand the impact of the budget on AD & eco activity

Question 13

headline cash balance

Answer 13

• represents the annual difference between the total value of cash receipts collected by government minus the total value of outlays from all sources
• can make the budget look more positive than it is and give a misleading picture of the budgets actual economic effects

Question 14

underlying cash balance as a proportion of GDP

Answer 14

• underlying budget outcome expressed as a positive or negative % of the value of GDP
• allows us to compare the outcome with the size of the economy
• bad if deficit grows faster than GDP
• eg. a $20B deficit for a $40B economy = underlying cash outcome of 50%

Question 15

methods of financing a deficit

Answer 15

• finance = borrow
• government borrows money from investors by selling bonds
• bond = an ‘i owe you,’ the investor buys the bond from gov and receives interest & their money back at a certain date
• bonds can be sold to local investors, overseas investors and the RBA

Question 16

methods of utilising a surplus

Answer 16

excess money from a surplus can be used to:
- pay off debt owed to bondholders
- investing in future fund: a pool of money which is invested and put away for future spending
- saving with the RBA: save and earn interest

Question 17

relationship between the budget outcome & level of gov debt

Answer 17

• there is a close connection between the budget outcome and level of government debt, as budget deficits are financed by gov borrowing
• more deficits add to gov debt
• more surpluses means finds can be used to pay off debts

Question 18

role of automatic stabilisers in influencing AD and stabilising the business cycle

Answer 18

• budget relies on stabilisers to become more expansionary/contractionary
• cyclical component of the budget
• unconscious changes in the budget without gov intervention that help regulate AD, promote macroeconomic goals and improve LS
• in a slowdown/ recession, auto stabilisers (decrease tax/ increase outlays) work countercyclically, causing the budget to become an expansionary deficit to boost household consumption and investment to stimulate AD & EA
• during a recovery/ boom, auto stabilisers cause the budget to become a contractionary surplus to slow consumption & investment, slowing AD & EA to a sustainable pace.

Question 19

role of discretionary stabilisers in influencing AD and stabilising the business cycle

Answer 19

• structural component of the budget
• deliberate policy decisions announced by the treasurer to help regulate AD, promote macroeconomic goals and improve LS
• introduced when auto stabilisers are not enough on their own
• in a recovery, discretionary rises in tax rates and cuts in outlays, causing budget to switch to a contractionary surplus to slow AD
• used in a slowdown to make budget stance more expansionary (deficit)
• can lead to permanent structural deficits if not removed after crisis

Question 20

effect of automatic & discretionary changes in the budget on budget outcome & gov debt

Answer 20

• when EG is weak, the budget stance becomes a more expansionary deficit. this happens first by automatic reductions in tax and increased welfare outlays, as well as discretionary reductions in tax receipts by cutting tax rates, and increasing generosity of outlays.
  > this increases the budget deficit, meaning that gov will need to borrow more money, increasing public debt in short term, but once EA picks up some debt may be able to be repaid
• when EG is strong and budget needs to switch to a contractionary surplus, taxes will automatically rise and outlays will fall, and discretionary measures will gradually be removed
  > slows AD, EG and incomes to a sustainable pace, government can use funds to pay off some debt if EA is stable

Question 21

budget stance

Answer 21

• whether the change in the budget outcome is expected to have an expansionary (accelerating), neutral or contractionary (slowing) impact on the level of AD & EA
• the size of the budget outcome, in dollars or as a percentage of GDP (preferred) can be used to decide whether an expansionary or contractionary stance is needed
  > bigger deficit = more expansionary impact on AD
  > bigger surplus = more contractionary impact on AD

Question 22

expansionary budget stance

Answer 22

• a bigger deficit is seen as expansionary because LESS is taken out in tax & other receipts than is returned through gov spending and outlays
• deficits boost income, employment, AD, EA and overall LS
• budgetary policy for 2024-25 is forecast to be an expansionary deficit
  > eg. budget stance would become more expansionary if the deficit increased from 5% of GDP to 10% of GDP

Question 23

contractionary budget stance

Answer 23

• surpluses are contractionary because MORE is taken out in tax and receipts than is returned in outlays and other gov spending
• stance becomes contractionary to slow AD and EA
• contractionary surplus in 2022-23 and 2023-24 (althought 2023-24 was forecast to be deficit)
  > eg. budget stance would become more contractionary if the size of the surplus increased from 5% to 10% of GDP

Question 24

strengths of using budgetary policy to stabilise AD & influence achievement of domestic macroeconomic goals & LS

Answer 24

1. automatic & some discretionary stabilisers can work quickly, because they have short time lags
   > 3 time lags: recognition, implementation & impact lag. auto stabilisers work quickly to reduce instability with almost no time lag as they work by themselves without any intervention.
2. discretionary policy can precisely target specific areas of greatest weakness
   > allocate resources to target particular problems/industries in the economy in need of support
3. budgetary policy works directly & effectively to regulate AD, esp in a recession
   > directly affect AD & EA, reduced receipts & increased outlays can be used to inject extra cash into households for spending, lifting EA
4. some budget measures can also grow AS
   > lower tax rates & increased outlays on infrastructure and education can improve AS conditions and grow productive capacity

Question 25

weaknesses of using budgetary policy to stabilise AD & influence achievement of domestic macroeconomic goals & LS

Answer 25

1. some discretionary stabilisers can become pro-cyclical due to time lags between recognition of a problem & the impact of policy
   > time lags in some policies, due to delays in planning and completing the project mean they do not take effect in the short term, but can instead impact EA when they are no longer needed
2. financial constraints & the creation of a structural deficit can limit budget options during a slowdown
   > limited money available w/o increasing taxes or adding to debt. benefits of policy must be weighed against burden of paying off debt.
3. policy can undermine the effectiveness of monetary policy through problems of crowding out or in
   > when gov runs large deficits, interest rates rise, leading to crowding out (low demand for credit) & vice versa during surplus
4. constraints due to trade offs in pursuing gov economic, social & enviro goals
   > some policies prevent achievement of other goals
5. adverse political constraints can limit budget options & their effectiveness, esp short term
   > absence of gov majority in the senate, adverse voter reaction
6. psychological constraints can reduce the budgets effectiveness as a stabiliser
   > reduced consumer & business confidence weakens expansionary effects