24 Questions
What is the primary objective of a government's stabilization intervention?
To eliminate macroeconomic fluctuations
What is the role of fiscal policy in the stabilization function?
To change aggregate demand through government spending and taxes
Why should redistribution policies be accomplished with minimal efficiency costs?
Because they may have deadweight losses
What is the relationship between fiscal federalism and the division of governmental functions?
Fiscal federalism deals with the division of governmental functions and financial relations
Which level of government is responsible for the allocation of resources?
State and local governments
What is the role of the central government in fiscal federalism?
To be responsible for economic stabilization and income redistribution
What is the primary goal of stabilization policies?
To eliminate macroeconomic fluctuations
How does monetary policy work in the stabilization function?
By controlling the size of money supply and interest rate
What is the primary objective of expansionary fiscal policy?
To alleviate recession
What happens to aggregate demand when the government increases its expenditure?
It increases
What is the effect of taxes on disposable income?
It reduces disposable income
What type of fiscal policy is adopted to control high inflation?
Contractionary fiscal policy
What is the effect of a deficit budget on economic activity?
It stimulates economic activity
What is the outcome of a surplus budget on economic activity?
It slows down economic activity
During a recession, what does the government usually do to stimulate demand?
Increases expenditure or cuts down taxes
What is the primary tool used in monetary policy to control the economy?
Size of money supply and interest rate
What is the likely response of the government to high inflation?
Decrease government spending, raise taxes, and reduce the money supply
What is the challenge in designing an effective budgetary policy?
To pursue multiple goals simultaneously without compromising on others
Who introduced the concept of fiscal federalism?
Richard Musgrave
What is the primary responsibility of the central government according to fiscal federalism?
Economic stabilization and income redistribution
What is the name of the list that classifies the powers of the union and the state governments?
Union list, state list, and concurrent list
What is the purpose of an independent judiciary in a federal system?
To resolve disputes between the central government and the states
What is the likely response of the government to high unemployment?
Increase government spending, reduce taxes, and increase the money supply
What is the fundamental principle of federalism?
Autonomous governments at the national and regional levels
Study Notes
Macroeconomic Stability and Fiscal Policy
- The 2008 economic crisis and COVID-19 pandemic have highlighted the importance of macroeconomic stability and countercyclical fiscal policy.
- Government intervention can be through monetary policy (controlling money supply and interest rate) or fiscal policy (expenditure and taxation decisions).
Fiscal Policy for Stabilization
- During recession, the government increases expenditure or cuts taxes to stimulate demand and stabilize aggregate demand.
- To control high inflation, the government cuts expenditure or raises taxes.
- Expansionary fiscal policy alleviates recession, while contractionary fiscal policy controls high inflation.
Budget and Economic Activity
- Deficit budgets stimulate economic activity, while surplus budgets slow it down.
Redistribution Policy
- Redistribution policies aim to balance equity and efficiency objectives with minimal efficiency costs.
Stabilization Function of Fiscal Policy
- The stabilization function aims to eliminate macroeconomic fluctuations arising from suboptimal allocation.
- It concerns the performance of the aggregate economy in terms of labor employment, capital utilization, output, income, price levels, economic growth, and balance of international payments.
Fiscal Federalism
- Fiscal federalism deals with the division of governmental functions and financial relations among different levels of government.
- The central government should focus on economic stabilization and income redistribution, while state and local governments should allocate resources.
Government Intervention in Economy
- In high inflation, the government may decrease spending, raise taxes, and/or reduce money supply.
- In high unemployment, the government may increase spending, reduce taxes, and/or increase money supply.
Challenges of Budgetary Policy
- There is often a conflict between the different goals and functions of budgetary policy.
- Effective policy design to meet diverse goals of government is difficult to conceive and implement.
This quiz covers the importance of macroeconomic stability and the role of fiscal policy in maintaining stability, particularly in the context of economic crises. It explores the relationship between monetary and fiscal policy and their effects on the economy.
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