Quiz Essay Questions Economics

CHAPTER 12 Fiscal Policy A. Short-Answer, Essays, and Problems 1. Give a brief definition of financial constitution? What argon its sparing goals? 2. What is the Council of stinting Advisers? 3. The Employment identification number of 1946 is no more than than a vague and ill-defined commitment by the Federal political sympathies to assistant in the come throughment of adept exercising. Do you agree? Explain. 4. Explain the consummation of a discretionary cut in taskes of $40 one thousand million on the rescue when the preservations marginal propensity to consume is . 75.By how much is output likely to expand if the preservation is operating in the horizontal foulground of its sum come out curve and on that point ar no complications to this monetary policy? How does this discretionary monetary policy differ from a discretionary add-on in brass pass of $40 gazillion? 5. Explain the power of a discretionary improver in governing disbursement of $50 bill ion on the delivery when the preservations marginal propensity to consume is . 75. By how much is output likely to expand if the economy is operating in the horizontal range of its coalesce supply curve and there are no complications to this fiscal policy? . Explain the aspects of expansionary and contractionary fiscal policy. During which phases of the business roulette wheel would each be leave? 7. Differentiate between discretionary fiscal policy and nondiscretionary or built-in stabilization policy. 8. Describe two ways the Federal judicature smoke pay a shortage and explain which would have the more expansionary effect. 9. Describe two ways the Federal regimen could retire debt in the event of a cipher surplus and explain which would have the almost contractionary impact. 10. What is the anti- flashary or contractionary effect of a reckon surplus? 11.Explain how a small cipher surplus could substantially be somewhat expansionary rather than contractionary. 197 Chapter 12 New 12. Comment on the affirmation Increasing government dischargeing is preferred to a cut in taxes when the U. S. government gossipks to fight a recession. 13. Explain what is meant by a built-in stabilizer and give two examples. 14. The more imperfect tense a tax system, the great is the economys built-in stability. Explain this statement for both recessionary and peak phases of the business cycle. 15. Explain how the below graph illustrates the built-in stability of a progressive tax structure. 6. In Year 1, the full-employment figure showed a deficit of about $100 billion and the actual calculate showed a deficit of $150 billion one year. In Year 2, the full employment budget showed a deficit of about $125 billion and the actual budget showed a deficit of $150 billion. Based on these data, what can be concluded about the direction of fiscal policy? 17. What is the difference between the actual deficit, the full-employment deficit, and the cyclical deficit? 18. What does the full-employment budget measure and of what significance is this concept? 19.Complete the table below by stating whether the direction of discretionary fiscal policy was contractionary (C), expansionary (E), or nevery (N), given the supposed(a) budget data for an economy. 198 Fiscal Policy (2) (3) Actual budget deficit () or Full-employment budget Yearsurplus (+)deficit () or surplus (+) fiscal policy 1 2 3 4 5 6 3. 9% 4. 5 4. 7 3. 9 2. 9 2. 2 2. 1% 2. 6 3. 0 2. 6 2. 0 1. 9 (1) (4) Direction of _____ _____ _____ _____ _____ 20. In what fundamental way do the consumption-taxation decisions of government differ from the consumption-saving plans of households?Why is this difference meaningful? New 21. Comment on the statement Discretionary fiscal policy offers an ideal approach to dealing with the nations scotch problems. It is without problems, criticisms, or complications. New 22. Explain the six problems, criticisms, or complications that stand up in the implementation of fiscal policy. New 23. Explain the problems giving hoist to this statement You would think the government would want to do something to improve frugalal conditions when the economy is in trouble, but the government is slow to act. New 24. How do expectations about the future tense by households and businesses affect the effectivity of fiscal policy? Cite examples. 25. If economic forecasting was a more exact science, the business cycle could be entirely corrected by fiscal measures. Do you agree? 26. Explain the crowding-out effect. 27. utilise the below graph, illustrate the possible impact of a crowding-out effect of a fiscal policy by drawing in the relevant aggregate occupy shifts. Label and explain any shifts in the demand curve shown. 199 Chapter 12 28.Explain how the net-export effect would reduce the effectiveness of fiscal policy. New 29. What fiscal policy is most likely to be invoked during a period of recession and high unemployment? A pe riod of rapid inflation? What political, investment funds, and foreign problems might the U. S. relation encounter in enacting these policies and putting them into effect? 30. (Last Word) What is the purpose of the Conference Boards superpower of leading economic indicators? 31. (Last Word) Why is the business leader finger of leading economic indicators a conglomerate index of ten economic statistics and non just one? 00 Fiscal Policy B. Answers to Short-Answer, Essays, and Problems 1. Give a brief definition of fiscal policy? What are its economic goals? Fiscal policy is the use of the federal budget to achieve full employment, control inflation, and stimulate economic growth. The channels to the federal budget can be made through appends or decreases in government disbursal or through increases or decreases in tax revenues. text E p. 214 MA p. 214. 2. What is the Council of Economic Advisers?The Council of Economic Advisors is responsible for assisting and advising the president on economic affairs. One of its principal responsibilities is to prepare an annual report for the president that is submitted to Congress that describes the state of the economy and recommends economic policies to achieve full employment, control inflation, and encourage economic growth. text E pp. 214-215 MA pp. 214-215. 3. The Employment Act of 1946 is no more than a vague and ill-defined commitment by the Federal government to assist in the achievement of full employment. Do you agree? Explain. To agree with this statement does not diminish the importance of the Employment Act of 1946. The Constitution has also been called vague and ill-defined, but that does not diminish its importance. This act committed the Federal government to following policies which would attempt to stabilize prices and promote full employment and established the CEA and JEC to assist in this task. While specific policies were not outlined, the intention of the act is clear it is a responsibility of the Federal government to assist in this effort.That had not been an explicit on-going policy before 1946. text E p. 214 MA p. 214 4. Explain the effect of a discretionary cut in taxes of $40 billion on the economy when the economys marginal propensity to consume is . 75. By how much is output likely to expand if the economy is operating in the horizontal range of its aggregate supply curve and there are no complications to this fiscal policy? How does this discretionary fiscal policy differ from a discretionary increase in government spending of $40 billion? If MPC is . 75, the multiplier is 4.A tax cut of $40 billion will burden in initial increase in consumption of $30 billion (. 75 ? $40 billion). This initial increase in spending will ultimately result in an increase in consumption spending of $120 billion because of the multiplier process. In contrast, an initial increase in government spending of $40 billion will ultimately increase consumer spending by $160 billion (4 ? $40) because none of the initial increase is siphoned off as savings as would be the case with a $40 billion tax cut. text E pp. 215-216 MA pp. 215-216 5.Explain the effect of a discretionary increase in government spending of $50 billion on the economy when the economys marginal propensity to consume is . 75. By how much is output likely to expand if the economy is operating in the horizontal range of its aggregate supply curve and there are no complications to this fiscal policy? If MPC is . 75, the multiplier is 4. An initial increase of $50 billion government spending will result in a total increase in output of $200 billion. text E pp. 215-216 MA pp. 215-216 6. Explain the aspects of expansionary and contractionary fiscal policy.During which phases of the business cycle would each be appropriate? 201 Chapter 12 Expansionary fiscal policy refers to increases in government spending or decreases in taxes or both, so that the net effect on aggregate demand is an increase in net go vernment spending. Contractionary fiscal policy is the opposite an increase in taxes or decrease in government spending or both, so that the net effect on aggregate demand is a decrease in net government spending. Expansionary policy would most likely be used during a recession (or trough) phase.A contractionary policy would most likely be assiduous near the peak of the business cycle as the economy reaches full-employment GDP and the potential for inflation accelerates. text E pp. 215-217 MA pp. 215-217 7. Differentiate between discretionary fiscal policy and nondiscretionary or built-in stabilization policy. Discretionary fiscal policy is the deliberate manipulation of taxes and government spending by the Congress to alter veridical domestic output and employment, to control inflation, and to stimulate economic growth during a particular period of time.Nondiscretionary fiscal policy, on the otherwise hand, is the change in government expenditures or taxes which occurs automati cally as a result of existing laws. In particular, personal income taxes have progressive rates and will slow spending and inflation as GDP expands when GDP declines, taxes will decrease by a more than proportionate amount allowing incomes and spending to decline at a sulky rate than GDP. There are also many transfer payment programs which become effective when incomes decline or unemployment occurs to reduce the decline in expendable income.Conversely, these programs automatically are trim back when the economy expands and unemployment declines and spending increases. text E pp. 215, 219-220 MA pp. 215, 219-220 8. Describe two ways the Federal government can finance a deficit and explain which would have the more expansionary effect. The government can borrow gold from the cloistered sector in which case it will be competing with private business borrowers for funds. If planned investment spending is crowded out, the impact of expansionary deficits will be offset by the declin e in investment spending.The government can also finance a deficit by issuing new money which essentially means that the Federal Reserve has financed the deficit. This type of financing would be more expansionary than borrowing from the private sector. text E pp. 217-218 MA pp. 217-218 9. Describe two ways the Federal government could retire debt in the event of a budget surplus and explain which would have the most contractionary impact. The government could use a budget surplus to pay off existing debt which would recycle funds back into the economy and potentially offset the decline in government spending.Alternatively, the government could impound the surplus funds, or allow them to stand idle, which means these funds are not injected into the economy and would have a more contractionary effect than the first alternative. text E p. 218 MA p. 218 10. What is the anti-inflationary or contractionary effect of a budget surplus? The anti-inflation effect of a budget surplus depends o n what the government does with the surplus. The budget surpluses whitethorn be used for debt reduction. In this case, bonds 202 Fiscal Policy are bought back by the government and money is pumped back into the economy.Interest rate will tend to fall, and this may increase consumer and investment spending, thus offsetting some of the contractionary effect of the budget surplus. The government may also impound funds (not spend them). This action will be more contractionary because it actually removes spending from the economy that would have been spent otherwise. text E p. 218 MA p. 218 11. Explain how a small budget surplus could actually be somewhat expansionary rather than contractionary. This could be the unlikely result of what the government decides to do with the surplus.If it is used to retire existing debt, then the surplus is pumped right back into the economy and with the multiplier effect this additional liquid wealth in the hands of individuals could lead to an increase in aggregate demand and GDP. text E p. 218 MA p. 218 New 12. Comment on the statement Increasing government spending is preferred to a cut in taxes when the U. S. government seeks to fight a recession. The statement is a normative one. Either action, increased government spending or taxation, can be use to fight a recession. The policy choice will depend on the preferences of the individual.Those individuals who want to fight a recession with an increase in government spending may want to preserve the size of government in the economy and have specific government programs they would like to see funded. Those individuals who prefer a tax cut may want to reduce the size of government and give people more money and the freedom to spend it as they chose. text E p. 218 MA p. 218 13. Explain what is meant by a built-in stabilizer and give two examples. Built-in stabilizers are changes in tax revenues or government spending which occur automatically during different phases of the business cycle.For example, the progressive income tax will dampen any expansion of aggregate demand in the recovery peak phases and will dampen any decline in income and aggregate demand during a recession as taxes are automatically decreased by a greater proportion than the decline in personal income. There are also government spending programs which increase during recessionary periods automatically as incomes decline or are lost. The so-called safety net programs include unemployment compensation, welfare programs, and food stamp spending.These spending programs are automatically reduced during a recovery peak phase which would dampen aggregate demand and inflationary pressures automatically. text E pp. 218-219 MA pp. 218-219 14. The more progressive a tax system, the greater is the economys built-in stability. Explain this statement for both recessionary and peak phases of the business cycle. A progressive tax would take a increasingly greater proportion of rising incomes during the peak phase of the business cycle which means it would dampen spending increases and aggregate demand which, in turn, reduces inflationary pressures.On the other hand, a progressive tax would take proportionately less away from declining incomes during a recessionary phase allowing disposable income to fall less rapidly than sure GDP. Therefore, aggregate demand would decline less rapidly than GDP and the magnitude of the spending decline that might occur in the absence of the tax would be reduced. text E pp. 219-220 MA pp. 219-220 203 Chapter 12 15. Explain how the below graph illustrates the built-in stability of a progressive tax structure. The graph illustrates how net taxes are cast out as GDP declines which will add to aggregate demand.When GDP expands, tax revenues increase which dampens aggregate demand. text E pp. 219-220 MA pp. 219-220 16. In Year 1, the full-employment budget showed a deficit of about $100 billion and the actual budget showed a deficit of $150 billion on e year. In Year 2, the full employment budget showed a deficit of about $125 billion and the actual budget showed a deficit of $150 billion. Based on these data, what can be concluded about the direction of fiscal policy? Fiscal policy was expansionary because the full-employment budget deficit increased from one year to the next.The actual deficit is composed of the full-employment portion and the cyclical portion. The full-employment portion of the actual budget deficit rose from $100 to $150 billion. The cyclical portion is castd by taking the actual deficit and subtracting the cyclical portion from it. The cyclical portion of the actual deficit fell from $50 billion to $25 billion. The actual budget deficit did not change, but it does not provide a good indication of the direction of fiscal policy. Only the full-employment budget tells the direction of fiscal policy. text E pp. 220-221 MA pp. 220-221 17. What is the difference between the actual deficit, the full-employment de ficit, and the cyclical deficit? The actual budget deficit for any year consists of the full-employment and the cyclical deficit. The full-employment deficit is the difference between government expenditures and tax collections which would occur if there were full employment output. The cyclical deficit is the portion of the actual deficit that arises because the economy is in recession and is produced by this downturn in the business cycle.During a recession, a cyclical deficit often occurs because tax revenues fall as incomes fall and government expenditures increase as more is spent for government transfer payments and other programs. The cyclical deficit occurs because of the operation of these automatic stabilizers. text E pp. 221-222 MA pp. 221-222 18. What does the full-employment budget measure and of what significance is this concept? The full-employment budget refers to the budget deficit or surplus that would result with existing tax and spending programs if the economy were operating at full-employment.In other words, tax revenues and government spending are estimated at the level that would result if full employment existed. 204 Fiscal Policy Some economists believe that the full-employment budgetary deficit or surplus is what should determine the expansionary or contractionary nature of fiscal policy rather than the actual budgetary deficit or surplus. If the full-employment budget is not in deficit, then expansionary fiscal policy is not being followed according to this view even if the actual budget is in deficit. text E pp. 221-222 MA pp. 221-222 19. Complete the table below by stating whether the direction of discretionary fiscal policy was contractionary (C), expansionary (E), or neither (N), given the hypothetical budget data for an economy. (2) (3) Actual budget deficit () or Full-employment budget Yearsurplus (+)deficit () or surplus (+) fiscal policy 1 2 3 4 5 6 3. 9% 4. 5 4. 7 3. 9 2. 9 2. 2 2. 1% 2. 6 3. 0 2. 6 2. 0 1. 9 ( 1) (4) Direction of E E C C C text E pp. 221-222 MA pp. 221-222 20.In what fundamental way do the spending-taxation decisions of government differ from the consumption-saving plans of households? Why is this difference significant? The spending-taxation decisions of government are made in a political environment in which the majority must be satisfied, or satisfied enough to continue to vote for its elected representatives. Furthermore, since the government does not have a exceptional lifespan and always has the ability to tax, deficit-spending and debt do not have the same significance to governments that they do to individual households.Households face a much more indefinite future with regard to their power to raise revenue (income) and therefore must plan their spending and saving to coincide with their lifetime earnings expectations. The difference is significant because so many people try to draw an analogy between government spending policies and household spending plans w hen it is usually not appropriate to do so. text E pp. 223-224 MA pp. 223-224 New 21. Comment on the statement Discretionary fiscal policy offers an ideal approach to dealing with the nations economic problems. It is without problems, criticisms, or complications. Discretionary fiscal policy does offer government policymakers potential tools (changing taxes or government spending) to use for stimulating the economy during a recession or for contracting the economy during a period of high inflation. Fiscal policy, however, is not without its problems, criticisms, or complications. First, there are timing problems in getting it implemented at the right time so it will be effective. Second, there are political problems in getting it accepted because it takes time to get the actions passed through Congress and signed by the President.Third, there are expectations problems because policies may be reversed in the future. Fourth, the taxing and spending decisions of the Federal government may be part offset by the taxing and spending decisions of state and local governments. Fifth, some economists are concerned that expansionary fiscal policy that requires the Federal government to borrow money will raise interest rates and crowd out investment spending, thus reducing 205 Chapter 12 the expansionary effect of the fiscal policy. Sixth, there are complications arising from the alliance of the domestic economy to the world economy.Aggregate demand shocks from abroad or a net export effect may increase or decrease the effectiveness of a given fiscal policy. text E pp. 223-225 MA pp. 223-225 New 22. Explain the six problems, criticisms, or complications that arise in the implementation of fiscal policy. First there is a timing problem. Three lags are identified under the timing problem category. There is a lag in recognizing the phase of the business cycle there is an administrative lag in deciding which policies to follow there is an operational lag in terms of the imp act of the policy once it is implemented.Second, there are political considerations in the adoption of fiscal policy. There is some evidence of a political business cycle where particular expansionary policies are followed in election years whether or not economic conditions merit them. Third, there is an expectations complication. If businesses and households expect that the fiscal policy will be reversed in the future, they may not change their behavior in the way that would be expected if the fiscal policy was permanent.Fourth, the taxing and spending decisions of state and local governments may stop or reduce the effectiveness of fiscal policy decisions at the federal level. The U. S. government may enact an expansionary fiscal policy by increasing its budget deficit, but state and local governments often have to balance a budget and economic conditions may force them to adopt a contractionary policy that part offset what the federal government is seeking to achieve.Fifth, the re is concern about possible offsetting effects of government borrowing crowding out private spending that would occur in the absence of the government deficit and an offsetting net export effect which partly counteracts expansionary policy or contractionary policy. Sixth, there are complications to domestic fiscal policy from the national economys connection to the world economy. Economic shock from abroad can have an effect on the nations imports and exports. The net export effect can reduce the intended effects of fiscal policy. text E pp. 223-226 MA pp. 223-226 New 23. Explain the problems giving rise to this statement You would think the government would want to do something to improve economic conditions when the economy is in trouble, but the government is slow to act. Fiscal policy is defer to timing problems. There are three timing lags that limit the speed with which fiscal policy can be enacted and effective. First, there is a lag in recognizing the phase of the busines s cycle to determine when the government might want to provide help.Second, there is an administrative lag in decision-making that involves deciding which specific policies should be adopted. Third, there is an operational lag because the adoption of policies takes time to have an effect on output and employment. text E p. 223 MA p. 223 New 24. How do expectations about the future by households and businesses affect the effectiveness of fiscal policy? Cite examples. If households or businesses expect that the fiscal policy changes are only temporary, they may not change their behavior in the expected way.For example, if tax cuts are enacted to stimulate consumer spending, some consumers may not change their 206 Fiscal Policy spending habits if they think the tax change is only temporary. In the future, they will have to pay more in taxes, so they might increase their saving. Similarly, businesses may not invest in new plants and equipment if they get a tax cut, if they expect taxes in the future to rise or the fiscal policy to be ineffective. text E pp. 223-224 MA pp. 223-224 25. If economic forecasting was a more exact science, the business cycle could be entirely corrected by fiscal measures. Do you agree? Exact forecasting, if possible, would politic not solve all of the problems encountered in trying to correct the business cycle. There is also the problem of timing the enactment and application of fiscal policy, not to mention the coordination of monetary policy and international economic policies, or reduced private spending (crowding out). text E pp. 223-225 MA pp. 223-225 26. Explain the crowding-out effect. The crowding-out effect is the notion that government borrowing to finance a deficit may crowd out or reduce private borrowing.To the extent that this occurs, the expansionary impact of fiscal policy is reduced because increased demand by the government is partially offset by reduced demand in private investment. text E pp. 224-225 MA pp. 224-225 27. Using the below graph, illustrate the possible impact of a crowding-out effect of a fiscal policy by drawing in the relevant aggregate demand shifts. Label and explain any shifts in the demand curve shown. Expansionary fiscal policy increases demand from AD1 to AD2, but this crowds out some private investment spending that offsets the increase to some extent causing AD2 to decrease to AD3.See graph below. text E pp. 224-225 MA pp. 224-225 28. Explain how the net-export effect would reduce the effectiveness of fiscal policy. 207 Chapter 12 If an expansionary fiscal policy brings with it higher interest rates, this could increase the demand for American dollars by foreign investors seeking to earn the higher U. S. returns. This appreciation of the dollar makes U. S. goods and function more expensive to foreigners and foreign imports less expensive to Americans. The net export category of ggregate demand will be reduced which would reduce the impact of expansionary fiscal policy. A contractionary fiscal policy could have the opposite effect causing net exports to increase that again reduces the desired effect of the contractionary fiscal policy. text E pp. 225-226 MA pp. 225-226 New 29. What fiscal policy is most likely to be invoked during a period of recession and high unemployment? A period of rapid inflation? What political, investment, and international problems might the U. S. Congress encounter in enacting these policies and putting them into effect?During recession and high unemployment, the government would most likely initiate an expansionary fiscal policy. A contractionary fiscal policy would most likely be called for during a period of rapid inflation, especially if it seems to be demand-pull inflation. Several problems are likely to arise in enacting either of these policies. Timing lags in recognition, implementation, and impact are one concern. Another has to do with political realities. A contractionary policy has many unpopular aspects to it because it calls for raising taxes and for cutting government spending.There are also unique problems associated with expansionary policy crowding out is one potential result that would reduce the expansionary effect of the policy. In both cases, the net-export part of aggregate demand is likely to move in a direction that would tend to offset the policy. text E pp. 223-226 MA pp. 223-226 30. (Last Word) What is the purpose of the Conference Boards index of leading economic indicators? The index of leading indicators is a monthly index of economic statistics that are used to forecast the direction of real GDP.Changes in the index provide an indication of the future direction of the economy and are useful to policy makers in developing responses to deteriorating conditions in the economy. The rule of thumb is that three concomitant decreases or increases in the index indicate a change of direction in the economy. text E p. 227 MA p. 227 31. (Last Word) Why is the index of leading e conomic indicators a composite index of ten economic statistics and not just one? Each of the economic statistics used to prepare the index may increase or decrease in any month and thus give false or contradictory signals about the direction of the economy.It is less likely that all these economic indicators, taken together, will give as many false signals about the direction of the economy as one indicator will. Thus the composite index is more reliable than any one indicator. The composite index, however, is not infallible and can also give false indications about the direction of the economy because of changes in the structure of the economy or developments that are not covered by the indicators that make up the index. text E p. 227 MA p. 227 208