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TUT Macro Unit 5 (Answer)

This document provides a tutorial on fiscal policy and macroeconomics concepts. It defines fiscal policy and its economic goals of full employment, inflation control, and economic growth stimulation. Expansionary fiscal policy involves increasing government spending or decreasing taxes to boost aggregate demand, while contractionary policy decreases spending or increases taxes. Expansionary policy is used in recessions, while contractionary is used near economic peaks. Discretionary fiscal policy deliberately alters taxes and spending, while built-in stabilization changes them automatically by existing laws like progressive taxes. The effect of a $40 billion tax cut and spending increase are compared using a marginal propensity to consume of 0.75.

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324 views3 pages

TUT Macro Unit 5 (Answer)

This document provides a tutorial on fiscal policy and macroeconomics concepts. It defines fiscal policy and its economic goals of full employment, inflation control, and economic growth stimulation. Expansionary fiscal policy involves increasing government spending or decreasing taxes to boost aggregate demand, while contractionary policy decreases spending or increases taxes. Expansionary policy is used in recessions, while contractionary is used near economic peaks. Discretionary fiscal policy deliberately alters taxes and spending, while built-in stabilization changes them automatically by existing laws like progressive taxes. The effect of a $40 billion tax cut and spending increase are compared using a marginal propensity to consume of 0.75.

Uploaded by

张宝琪
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© © All Rights Reserved
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MODULE: MACROECONOMICS

BB106
Unit 5: Government Expenditure and Revenue
TUTORIAL
Short-answer Problems 5

1. Give a brief definition of fiscal policy? What are its economic goals?

Answer:
Fiscal policy is the use of the federal budget to achieve full employment, control inflation and stimulate
economic growth. The changes to the federal budget can be made through increases or decrease in
government spending or through increases or decreases in tax revenues.

2. Explain the aspects of expansionary and contractionary fiscal policy. During which phases of the
business cycle would each be appropriate?

Answer:
Expansionary fiscal policy refers to increases in government spending or decreases in taxes or both, so that
the net effect on aggregate demand (AD) is an increase in net government spending. Contractionary fiscal
policy is the opposite: an increase in taxes or decrease in government spending or both, so that the net
effect on AD is a decrease in net government spending.

Expansionary policy would most likely be used during a recession (or through) phase. A contractionary
policy would most likely be employed near the peak of the business cycle as the economy reaches full-
employment GDP and the potential for inflation accelerates.

3. Differentiate between discretionary fiscal policy and nondiscretionary or built-in stabilization


policy.

Answer:
Discretionary fiscal policy is the deliberate manipulation of taxes and government spending by the
Congress to alter real domestic output and unemployment, to control inflation and to stimulate economic
growth during a particular period of time. Nondiscretionary fiscal policy, on the other hand, is the change
in government expenditures or taxes which occurs automatically 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 slower rate than GDP. There are also many transfer payments programs which become
effective when incomes decline or unemployment occurs to reduce the decline in disposable income.
Conversely, these programs automatically are reduced when the economy expands and unemployment
declines and spending increases.

4. Explain the effect of a discretionary cut in taxes of $40 billion on the economy when the economy’s
marginal propensity to consume is 0.75. How does this discretionary fiscal policy differ from a
discretionary increase in government spending of $40 billion?

Answer:
If the MPC is 0.75, the multiplier is 4. A tax cut of $40 billion will result in initial increases in
consumption of $30 billion (0.75 × $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 contract, an initial
increase in government spending of $40 billion will ultimately increase consumer spending by $160 billion
(4 ×$40 billion) because none of the initial increase is siphoned off as savings as would be the case with a
$40 billion tax cut.

True / False Questions


1) Expansionary fiscal policy is so-named because it involves an expansion of the nation's money
supply.

Answer: False

2) A contractionary fiscal policy shifts the aggregate demand curve leftward.

Answer: True

3) Demand-pull inflation can be restrained by increasing government spending and reducing taxes.

Answer: False

4) Tax revenues automatically increase during economic expansions and decrease during recessions.

Answer: True

5) If the MPC in the economy is 0.75, government could shift the aggregate demand curve rightward
by $30 billion by cutting taxes by $10 billion.

Answer: True
MCQ

1. If the MPS in an economy is 0.1, government could shift the aggregate demand curve rightward by
$40 billion by:
A. increasing government spending by $4 billion.
B. increasing government spending by $40 billion.
C. decreasing taxes by $4 billion.
D. increasing taxes by $4 billion.

2. If the MPC in an economy is 0.8, government could shift the aggregate demand curve rightward by
$100 billion by:
A. increasing government spending by $25 billion.
B. increasing government spending by $80 billion.
C. decreasing taxes by $25 billion.
D. decreasing taxes by $100 billion.

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