Unit 5

Question 1

Define fiscal policy

Answer 1

• Refers to the use of government spending and taxation to
  ○ Affect the level of economic activity
  ○ Affect resource allocation
  ○ Affect income distribution
• The government uses the annual budget in May to inform the population of the FP for the following tax year
• The budget can influence that achievement of the government economic objectives

Question 2

Distinguish between discretionary and non-discretionary fiscal policy measures.

Answer 2

• Types of fiscal policy
  ○ Non-discretionary (non-intentional influence of the economy directly)
  - Automatic or built-in stabilizers e.g. present tax structure, unemployment benefits, etc
  - Used to smoothen fluctuations of the economic cycle without need for government intervention
  ○ Discretionary (intentional influence of the economy directly)
  - Deliberate use of taxes or government spending to influence the economy e.g. direct taxes
  - Used when the non-discretionary FP is insufficient

Question 3

Describe a budget

Answer 3

• An estimation of revenue and expenses over a specified future period of time that is re-evaluated on a periodic basis.
• The budget is an annual statement of expected government revenue and expenditure for the forthcoming year

Question 4

Purpose of a budget

Answer 4

• Three purposes
  ○ Decides how revenue should be raised and funds allocated to areas of need
  - Decides how money should be earned and funds should be spent
  ○ Redistributes income from the wealthy to the less wealthy
  - Through the welfare program
  □ E.g. Centrelink
  ○ Influences the level of macroeconomic activity

Question 5

Explain budget outcomes

Answer 5

• There are three types of budget outcomes
  ○ Neutral
  - The budget has balanced
  - G = T
  ○ Deficit
  - Expansionary
  - G > T
  - Have the opportunity to maximise growth
  - More appealing than a surplus
  ○ Surplus
  - Contractionary
  - G < T

Question 6

Distinguish between government revenue and government expenditure and provide two examples of each.

Answer 6

• Government revenue
  ○ What they earn through tax revenue
  ○ Involves changing tax revenue (T)
  § Direct tax
  □ Income tax
  □ Property tax
  □ Company tax
  § Indirect tax
  □ GST
• Government expenditure
  ○ What they spend
  § E.g. infrastructure, healthcare
  ○ G1 - daily expenditure
  § Paying government wages, running buildings
  ○ G2 - capital/investment expenditure
  § Expenses that provide for future needs such as constructure of schools, roads etc.
  ○ Involves changing government expenditure (G)
  § On goods and services
  On transfer payments

Question 7

Explain expansionary fiscal policy

Answer 7

• Budget deficit
  ○ The value of the G revenue is less than the value of the G expenditure
  ○ Budget deficits cause less money to be taken out of the economy through T than in poured back into the economy through G
  ○ .
  ○ The budget will have an expansionary effect on AD and economic activity
  ○ It tends to stimulate production, employment, and possibly inflation
  ○ However, if the size of the deficit is cut, from one year to the next it is becoming less expansionary than previous (contractionary)
  ○ By contrast, a rise in the budget deficit relative to the size of the deficit on the previous years is an even more expansionary stance

Question 8

Explain contractionary fiscal policy

Answer 8

• Budget surplus
  ○ A surplus will have a contractionary impact on AD and economic activity
  ○ A surplus tends to limit growth in production, employment and inflationary pressure
  ○ However, when comparing successive years, if the size of the surplus is reduced due to less of a rapid rise in revenue the budget stance is becoming less contractionary (expansionary)
  ○ When the size of the budget surplus increases from the previous years, the budget stance is even more contractionary