Question 1

Which of the following ﬁscal policy changes would be the most expansionary?

Accepted Answer

An increase in government spending directly injects money into the economy, leading to a larger multiplier effect compared to tax cuts, which depend on consumer spending behavior.

Question 2

Refer to the graph. Automatic stability in this economy could be enhanced by

Accepted Answer

The answer of  Refer to the graph. Automatic stability...

Question 3

In the graph, tax revenues vary

Accepted Answer

The graph shows that as GDP increases, tax revenues also increase. Therefore, tax revenues vary directly with the level of GDP.

Question 4

The more progressive the tax system, the

Accepted Answer

A progressive tax system, where higher earners are taxed at a higher rate, leads to a more equal distribution of income and wealth. This reduces income inequality and increases purchasing power for lower income households, which can lead to greater economic stability as these households are more likely to spend their additional income on goods and services. Therefore, a more progressive tax system results in a greater built-in stability for the economy.

Question 5

Which of the following is an example of built-in stability? As real GDP decreases, income tax revenues

Accepted Answer

Built-in stability, or automatic stabilizers, work to dampen economic fluctuations without any new government policy. As real GDP decreases, income tax revenues decrease because individuals and businesses earn less and therefore pay less in taxes. At the same time, transfer payments (like unemployment benefits and welfare) increase because more people qualify for these programs during economic downturns. This automatic response helps to stabilize the economy by increasing spending (through higher transfer payments) and decreasing the tax burden during recessions.

Question 6

The built-in stabilizers in the economy tend to

Accepted Answer

The built-in stabilizers in the economy, such as progressive income taxes and unemployment insurance, work to dampen the irregular swings in real GDP by automatically cushioning the impact of economic disturbances. They do not fully offset or overcompensate for these swings, nor do they magnify them.

Question 7

As the economy declines into recession, the collection of personal income tax revenues automatically falls. This phenomenon best illustrates how a progressive income-tax system

Accepted Answer

A progressive income-tax system means that higher-income individuals pay a higher percentage of their income in taxes. When the economy declines into a recession, people often lose their jobs or see a decrease in income, which means they will pay less in income taxes. This decrease in tax revenue automatically helps to stabilize the economy and soften the impact of the recession. This is an example of how the progressive income-tax system serves as an automatic stabilizer for the economy.

Question 8

Due to automatic stabilizers, when the nation's total income rises, government transfer spending

Accepted Answer

Automatic stabilizers work to moderate the impact of economic fluctuations. When the nation's total income rises, government transfer spending (such as unemployment benefits) typically decreases because fewer people need financial assistance. At the same time, tax revenues increase because individuals and businesses earn more and thus pay more in taxes.

Question 9

Which of the following ﬁscal policy changes would be the most contractionary?

Accepted Answer

Option B is the most contractionary because it combines both an increase in taxes and a cut in government spending, totaling a $40 billion reduction in the economy's aggregate demand, which is more impactful than the other options.

Question 10

Actions by the federal government that decrease the progressivity of the tax system

Accepted Answer

Actions by the federal government that decrease the progressivity of the tax system include reducing or eliminating tax credits, deductions, and exemptions for low-income households, as well as lowering tax rates for high-income households. These actions decrease the overall progressivity of the tax system and make it less fair for low-income households. Decreasing the amount of government spending (A) would not necessarily have a direct impact on the progressivity of the tax system. Increasing the effect of automatic stabilizers (B) would generally have the effect of making the tax system more progressive, as automatic stabilizers like unemployment insurance and food stamps disproportionately benefit low-income households. Increasing the multiplier effect (D) would not necessarily have a direct impact on the progressivity of the tax system.

Question 11

The so-called negative taxes are better known as

Accepted Answer

Negative taxes refer to transfer payments from the government to individuals or households whose incomes fall below a certain level. Therefore, choice B, transfer payments, is the correct answer. Government spending refers to the use of government funds to pay for goods and services, built-in stabilizers refer to automatic mechanisms that help stabilize the economy, and fiscal multipliers refer to the multiplier effect of government spending on the economy.

Question 12

If the economy is to have signiﬁcant built-in stability, then when real GDP increases, the tax revenues should

Accepted Answer

If the economy has significant built-in stability, then tax revenues should rise proportionately more than the change in GDP. This indicates that the tax system is designed in such a way that tax collections automatically increase as the economy grows, providing a stabilizing force. This stability helps to prevent boom and bust cycles in the economy.

Question 13

In an economy, the government wants to increase aggregate demand by $50 billion at each price level to increase real GDP and reduce unemployment. If the MPS is 0.4, then it could increase government
Spending by

Accepted Answer

To increase aggregate demand by $50 billion, we need to increase government spending by a multiple of the reciprocal of the MPS. 
Reciprocal of MPS = 1/0.4 = 2.5 
Increase in government spending = 2.5 x $50 billion = $125 billion 
Therefore, the government can increase government spending by $20 billion (closest option) to achieve the desired increase in aggregate demand.

Question 14

One advantage of automatic ﬁscal policy over discretionary ﬁscal policy is that automatic ﬁscal policy

Accepted Answer

Automatic fiscal policy is not subject to the timing problems of discretionary policy because it is designed to automatically adjust government spending and/or taxes in response to changes in the economy, without the need for Congress or the President to take specific action. This means it can work more quickly and efficiently to stabilize the economy, which is especially important during times of economic crisis. Unlike discretionary fiscal policy, which is subject to the political process and can be delayed or blocked by political disagreements, automatic fiscal policy can be implemented without delay. Therefore, automatic fiscal policy is a more reliable and effective policy tool for stabilizing the economy. A, B, and D are incorrect because they do not accurately describe the advantages of automatic fiscal policy over discretionary fiscal policy.

Question 15

Automatic stabilizers smooth ﬂuctuations in the economy because they produce changes in the government's budget that

Accepted Answer

Automatic stabilizers are built-in mechanisms in the government's budget that help offset changes in GDP by increasing government spending during economic downturns and decreasing it during economic booms. This ensures that government spending is counter-cyclical and helps to stabilize the economy. Therefore, the correct choice is B, which states that automatic stabilizers help offset changes in GDP.

Question 16

The economy is in a recession. The government enacts a policy to increase spending by $2 billion. The MPS is 0.2. What would be the full increase in real GDP from the change in government spending,
Assuming that the aggregate supply curve is horizontal across the range of GDP being considered?

Accepted Answer

The answer of The economy is in a recession. The...

Question 17

Refer to the graph. A budget surplus would be associated with GDP level

Accepted Answer

The answer of  Refer to the graph. A budget...

Question 18

In an economy, the government wants to decrease aggregate demand by $48 billion at each price level to decrease real GDP and control demand-pull inﬂation. If the MPS is 0.25, then it could

Accepted Answer

The correct answer is A because increasing taxes by $16 billion would decrease disposable income by $16 billion, which would then decrease consumption spending by $12 billion (MPS of 0.25). This would then decrease aggregate demand by $12 billion, which is the desired amount.

Question 19

Which of the following serves as an automatic stabilizer in the economy?

Accepted Answer

The progressive income tax serves as an automatic stabilizer as it helps to stabilize the economy during economic fluctuations. During a recession, taxpayers' incomes decrease, and the amount of taxes they pay also decreases. This reduction in tax revenue helps to stimulate the economy by allowing taxpayers to keep more of their money, which they can then spend or invest. During an economic boom, taxpayers' incomes rise, and the amount of taxes they pay also increases. This increase in tax revenue helps to prevent the economy from overheating by reducing the amount of disposable income available for spending or investment.

Question 20

An economy is experiencing a high rate of inﬂation. The government wants to reduce consumption by $36 billion to reduce inﬂationary pressure. The MPC is 0.75. By how much should the government raise
Taxes to achieve its objective?

Accepted Answer

To reduce consumption by $36 billion, we need to use the formula: 
∆Y = (∆C) / MPC 
Where, 
∆Y = change in income
∆C = change in consumption 
MPC = marginal propensity to consume

Given, 
∆C = -$36 billion 
MPC = 0.75 
Substituting these values in the formula, we get: 
∆Y = (-$36 billion) / 0.75 
∆Y = -$48 billion

This means that in order to reduce consumption by $36 billion, the government needs to reduce aggregate demand (Y) by $48 billion. Since taxes are a leakage in the circular flow of income, an increase in taxes (T) will reduce consumption and hence decrease aggregate demand.

Since the question asks by how much should the government raise taxes, we need to figure out the value of the multiplier (k) using the formula: 
k = 1 / (1 - MPC)

Substituting the value of MPC in this formula, we get: 
k = 1 / (1 - 0.75) 
k = 4

This means that for every $1 increase in taxes, aggregate demand will decrease by $4. Hence, to achieve a reduction of $48 billion in aggregate demand, the government needs to increase taxes by: 
∆T = (∆Y) / k 
∆T = (-$48 billion) / 4 
∆T = -$12 billion

Therefore, the government should raise taxes by $12 billion to achieve its objective of reducing consumption by $36 billion.

Quiz 13: Fiscal Policy, Deficits, and Debt