3.6 Demand Management: Fiscal Policy (DP IB Economics: SL): Flashcards
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Define fiscal policy.
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Cards in this collection (29)
Define fiscal policy.
Fiscal policy involves the use of government spending and taxation to influence aggregate demand in the economy.
How is a budget deficit financed?
A budget deficit has to be financed through public sector borrowing, which is then added to the public debt.
Define budget deficit.
A budget deficit occurs when government revenue is less than government expenditure.
A budget means that government revenue equals government expenditure.
A balanced budget means that government revenue equals government expenditure.
Define budget surplus.
A budget surplus occurs when government revenue is greater than government expenditure.
Define direct taxes.
Direct taxes are taxes imposed on income and profits, paid directly to the government by the individual or firm.
True or False?
Value Added Tax (VAT) is an example of a direct tax.
False.
VAT is an indirect tax because it is imposed on spending, not on income or profits.
Define indirect taxes.
Indirect taxes are taxes imposed on spending, with the supplier responsible for sending the payment to the government.
Other than taxation, name two sources of government revenue.
The government can also raise revenue from the sale of goods/services by state-owned firms and the sale of government-owned assets (privatisation).
Define transfer payments.
Transfer payments are payments made by the government for which no goods/services are exchanged, such as unemployment benefits.
True or False?
Transfer payments contribute directly to aggregate demand.
False.
Transfer payments do not contribute to aggregate demand, as income is only transferred from one group of people to another.
What is the difference between current and capital government expenditure?
Current expenditure covers the daily running costs such as public-sector wages, whereas capital expenditure is investment in infrastructure and capital equipment.
Which goal of fiscal policy relates to fairness in society?
Fiscal policy aims to redistribute income so as to ensure more equity.
Which tools are used to conduct expansionary fiscal policy?
Expansionary fiscal policy involves reducing taxes or increasing government spending to increase aggregate demand.
Expansionary fiscal policy aims to shift aggregate demand to the .
Expansionary fiscal policy aims to shift aggregate demand to the right.
Which tools are used to conduct contractionary fiscal policy?
Contractionary fiscal policy involves increasing taxes or decreasing government spending to decrease aggregate demand.
Give one strength of fiscal policy relating to how spending is directed.
Government spending can be targeted at specific industries.
Define automatic stabilisers.
Automatic stabilisers are automatic fiscal changes that occur as the economy moves through the stages of the business cycle.
How do automatic stabilisers support the economy in a recession?
In a recession, lower tax revenue and higher unemployment benefits automatically keep real GDP higher than it would otherwise have been.
In a recession, automatic stabilisers cause tax revenue to fall because of the nature of taxation.
In a recession, automatic stabilisers cause tax revenue to fall because of the nature of progressive taxation.
How do automatic stabilisers act in a boom?
In a boom, higher tax revenue and lower unemployment benefits automatically keep real GDP lower, creating an automatic disinflationary effect.
True or False?
Fiscal policy can only affect aggregate demand, never aggregate supply.
False.
Short-term government spending, such as building a new airport, can also increase the aggregate supply of an economy.
Define crowding out.
Crowding out is where expansionary fiscal policy, particularly government spending, results in a reduction of private sector spending or investment.
How does government borrowing crowd out private investment?
Government borrowing competes for the limited pool of savings, raising the real interest rate so that private investment falls.
Government borrowing competes for the limited amount of savings, causing the real rate to rise and private investment to fall.
Government borrowing competes for the limited amount of savings, causing the real interest rate to rise and private investment to fall.
True or False?
Fiscal policy can usually be adjusted more frequently than monetary policy.
False.
Government budgets are usually presented once a year, whereas monetary policy can be adjusted 4-8 times per year.
Why can time lags be a weakness of fiscal policy?
Fiscal policy takes longer to plan and implement than monetary policy, making it difficult to predict when the desired effect will occur.
How can political pressures weaken fiscal policy?
Policies can fluctuate significantly when new governments are elected, so long-term infrastructure projects may lack follow-through.
Why is unsustainable debt a weakness of fiscal policy?
Increased government spending can create budget deficits that add to the national debt, and repaying it may impose austerity on future generations.
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