Macro Government Policies Quiz
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Questions and Answers

What are the main components of fiscal policy?

The main components of fiscal policy are government expenditure and taxation.

What is expansionary fiscal policy?

Expansionary fiscal policy is when the government decreases taxation or increases government expenditure to stimulate economic activity.

How does contractionary fiscal policy impact the economy?

Contractionary fiscal policy impacts the economy by increasing taxation or decreasing government expenditure, leading to lower aggregate demand.

What is a budget deficit?

<p>A budget deficit occurs when the government spends more money than it earns in tax revenue.</p> Signup and view all the answers

List two sources from which the government can fund a budget deficit.

<p>The government can fund a budget deficit through borrowing from overseas and direct and indirect taxation.</p> Signup and view all the answers

What effect does expansionary fiscal policy have on aggregate demand?

<p>Expansionary fiscal policy increases aggregate demand by increasing government expenditure and decreasing taxes.</p> Signup and view all the answers

Why is printing money to fund a budget deficit generally avoided?

<p>Printing money is avoided because it can lead to inflation, diminishing the value of money.</p> Signup and view all the answers

What is the formula for aggregate demand, and how does government spending affect it?

<p>The formula for aggregate demand is AD = C + I + G + (X - M); government spending increases 'G', thereby raising aggregate demand.</p> Signup and view all the answers

What is the primary function of open market operations in relation to government borrowing?

<p>The primary function is to allow the government to raise funds by buying and selling bonds, which helps finance a budget deficit.</p> Signup and view all the answers

How do bonds function as a financial instrument for investors?

<p>Bonds allow investors to pay a premium upfront, earn interest over a specified period, and receive their original investment back at maturity.</p> Signup and view all the answers

What is crowding out in the context of fiscal policy?

<p>Crowding out occurs when government borrowing drives up interest rates, thus limiting private sector access to funds for investment.</p> Signup and view all the answers

Name two goals of fiscal policy.

<p>Two goals of fiscal policy are to achieve low unemployment and maintain low and stable inflation.</p> Signup and view all the answers

Identify one constraint on fiscal policy effectiveness.

<p>One constraint is political pressure, which can influence decision-making and priorities in resource allocation.</p> Signup and view all the answers

What is the Keynesian multiplier effect in economic terms?

<p>The Keynesian multiplier is the ratio of change in national income to an initial change in injections like investment, government spending, or consumption.</p> Signup and view all the answers

How can fiscal policy effectively target specific economic sectors?

<p>Fiscal policy can direct government spending and tax incentives towards specific sectors to stimulate growth or address imbalances.</p> Signup and view all the answers

Why might some argue that private sector management of funds is preferable to government intervention?

<p>Some argue that the private sector can allocate funds more efficiently, directing investments to the most competitive and profitable firms.</p> Signup and view all the answers

What effect does increased government expenditure have on the aggregate demand curve?

<p>It shifts the aggregate demand curve outward from AD to AD1, increasing both the price level and output.</p> Signup and view all the answers

How does government borrowing to finance infrastructure projects impact interest rates?

<p>Government borrowing tends to raise interest rates because it competes with the private sector for available funds.</p> Signup and view all the answers

Under what economic conditions is crowding out likely to occur?

<p>Crowding out is likely to occur when the economy is expanding and private sector confidence is high, making firms sensitive to interest rate changes.</p> Signup and view all the answers

In what circumstances might crowding out be less of a concern for government fiscal policy?

<p>Crowding out is less of a concern during recessions when private sector investment is low, and government spending can activate idle funds.</p> Signup and view all the answers

Why does the type of government spending matter in the context of crowding out?

<p>The type of spending matters because investment that creates new opportunities may lead to different effects on crowding out compared to consumption spending.</p> Signup and view all the answers

What happens to output and price levels when crowding out occurs?

<p>When crowding out occurs, output and price levels may revert to lower levels as reduced private investment offsets government spending.</p> Signup and view all the answers

How can foreign financing influence the effects of government spending in less developed countries (LDCs)?

<p>Foreign financing in LDCs can help build infrastructure without significantly affecting domestic interest rates but may introduce other economic challenges.</p> Signup and view all the answers

Study Notes

Macro Government Policies

  • Government policies aim to manage the economy through demand-side and supply-side policies.
  • Demand-side policies focus on altering aggregate demand (AD).
  • Supply-side policies aim to increase the economy's capacity to produce.

Demand-Side Policies

  • Fiscal policy involves altering government spending and taxation.
  • Expansionary fiscal policy involves decreasing taxation or increasing government spending, or both.
  • Deflationary/Contractionary fiscal policy involves increasing taxation or decreasing government spending, or both.
  • Monetary policy involves changing the interest rate or the money supply

Fiscal Policy

  • Fiscal policy is used to alter the economy by changing either government expenditure, taxation or both.
  • Taxes include direct taxes and corporate taxes.
  • Expansionary fiscal policy occurs when the government decreases taxation, increases government spending or both.
  • Deflationary/contractionary fiscal policy occurs when the government increases taxation, decreases government spending or both.

Monetary Policy

  • Monetary policy is where the government adjusts the economy by changing interest rate or the money supply.
  • The interest rate affects the decisions of firms to invest.
  • An increase in capital stock will increase the economy's ability to produce.
  • Increasing the money supply decreases interest rates and vice versa.

Evaluating the Effectiveness of Fiscal Policy

  • Constraints on fiscal policy include political pressure, time lags, and the sustainability of debt.
  • Strengths of fiscal policy include targeting specific economic sectors and effectiveness in deep recessions.
  • Automatic stabilizers help to moderate short-term fluctuations.

Evaluating the Effectiveness of Monetary Policy

  • Constraints on monetary policy include limited scope, low consumer and business confidence.
  • Strengths of monetary policy include short time lags, flexibility, and ease of reversibility

Keynesian Multiplier

  • A multiplier is the ratio of change in the level of national income to an initial change in one or more injections into the circular flow model (I, G, C).
  • It assumes the government is increasing expenditures or businesses are increasing investment.
  • It also assumes looking at one instance, not a continuous flow.
  • Finally it assumes AD rises.

Accelerator Effect

  • Due to depreciation (loss of value over time), all capital equipment must be replaced over time. This requires investment.
  • The accelerator effect is the relationship between induced investment and the rate of change of national income.
  • It explains the level of investment in society
  • Induced investment - the incentive to invest in new equipment to meet an increase in AD and increase capacity.
  • Firms work at full employment, to increase output you need to invest constantly, firms want to maintain a fixed output ratio

Crowding Out

  • Crowding out occurs when public sector spending replaces private sector spending.
  • If the government borrows domestically to fund spending, this may drive up interest rates, reducing private sector investment.
  • The price level falls and output falls back from Y1 and Y2.

Tools of Monetary Policy

  • Open market operations (OMO) involve the buying and selling of government securities (a type of public sector debt).
  • Minimum reserve requirements (MRR) are the minimum amount that commercial banks are required to keep as reserves in the central bank.
  • Changing the central bank's minimum lending rate (MLR) affects the interest rates charged on credit transactions, bank loans, and mortgages. Quantitative easing (QE) injects money directly into the economy and increases the money supply.

Government Policies - Supply Side Policies

  • Supply-side policies improve the quality and quantity of factors of production, and increase the economy's capacity to produce.
  • They're designed to increase competition and efficiency.
  • Examples include removing labour market rigidities, incentives, deregulation, trade liberalization, encouraging small business startups, and investing in research and development.

Macro Goal: Sustainable Level of Government (National) Debt

  • Measurement of government debt as a percentage of GDP.
  • Relationship between budget deficit & government debt.
  • Costs of high government debt include: Debt servicing costs, credit ratings, and impacts on future taxation & government spending.

Real vs. Nominal Interest Rates

  • Nominal interest rate is the actual rate agreed upon by a bank and a customer (e.g. 8%).
  • Real interest rate reflects the impact of inflation on return to savers and debt to borrowers (e.g., real interest rate = nominal interest rate - inflation rate).

Economic Growth and the PPC

  • Economic growth can be an increase in actual output (movement along curve).
  • It can also be an increase in production possibilities (outward PPC shift).
  • Factors that influence economic growth include increased investment and productivity.

Economic Growth and AD/LRAS

  • AD increase leads to higher output and price level in the short run.
  • LRAS increase leads to potential output increasing and a potential stable increase in income and output levels in the long run (non inflationary growth).

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Macro Government Policies PDF

Description

Test your knowledge on macroeconomic government policies, focusing on demand-side and supply-side strategies. This quiz covers crucial concepts such as fiscal policy, monetary policy, and their impacts on the economy. Challenge yourself with questions related to government spending and taxation.

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