Fiscal policy

• What does fiscal policy involve?

  Manipulation of government spending, taxation, and the budget balance
• What are the functions of fiscal policy?

  It has both macroeconomic and microeconomic functions
• What are the main instruments of fiscal policy?

  • Government spending
  • Taxation
• How can governments stimulate the economy through fiscal policy?

  By changing the amount of spending and taxation
• What is the aim of fiscal policy?

  To stimulate economic growth and stabilize the economy
• What does the UK government primarily spend its budget on?

  Pensions and welfare benefits
• What is the biggest source of tax revenue in the UK?

  Income tax
• What is expansionary fiscal policy?

  • Aims to increase aggregate demand (AD)
  • Governments increase spending or reduce taxes
  • May worsen the government budget deficit
• What is deflationary fiscal policy?

  • Aims to decrease aggregate demand (AD)
  • Governments cut spending or raise taxes
  • Leads to an improvement of the government budget deficit
• How can fiscal policy influence aggregate supply (AS)?

  By reducing income and corporation tax to encourage spending and investment

  
• What is the effect of government spending on training and education?

  It lowers costs for firms and improves the quality of the labor force
• What is a budget deficit?

  When expenditure exceeds tax receipts in a financial year
• What is a budget surplus?

  When tax receipts exceed expenditure
• How is government debt different from government deficit?

  Debt is the accumulation of the government deficit over time
• What are direct taxes?

  Taxes imposed on income paid directly to the government
• What are examples of direct taxes?

  Income tax, corporation tax, NICs, and inheritance tax
• What are indirect taxes?

  Taxes imposed on expenditure that increase production costs for producers
• What are the two types of indirect taxes?

  • Ad valorem taxes (e.g., VAT)
  • Specific taxes (e.g., fuel duty)
• What is a proportional tax?

  A tax with a fixed rate for all taxpayers, regardless of income
• What is a progressive tax?

  A tax that increases the average rate as income increases
• How does the UK income tax system illustrate a progressive tax?

  People pay different rates based on income brackets
• What is a regressive tax?

  A tax where lower-income individuals pay a higher proportion of their income
• What are the principles of taxation according to Adam Smith?

  1. Low cost of collection relative to yield
  2. Obvious timing and quantity paid
  3. Convenient timing and method of payment
  4. Taxes based on ability to pay
  5. Minimum loss of efficiency
  6. Compatibility with other countries' tax systems
  7. Adjustment with inflation
• What are some limitations of fiscal policy?

  Imperfect information, time lags, and potential crowding out
• What is current government expenditure?

  Spending on goods and services that are consumed and last a short time
• What is capital government expenditure?

  Spending on assets that can be used multiple times
• What are transfer payments?

  Welfare payments from the government with no goods or services exchanged
• What are examples of transfer payments in the UK?

  • Job Seeker’s Allowance
  • Income Support
  • Child benefit
  • State pension
• Why are transfer payments important?

  They provide a minimum standard of living and reduce inequality
• What is the significance of education spending in the UK?

  It has remained relatively constant due to protection from cuts
• What is the impact of government spending on productivity and growth?

  It can improve human capital and boost long-term growth
• What is crowding out in fiscal policy?

  When government borrowing reduces funds available for the private sector
• How can high government debt affect taxation?

  It may lead to increased tax rates to manage the debt
• What is the relationship between budget balance and national debt?

  A budget surplus decreases national debt, while a deficit increases it
• What is a cyclical deficit?

  A temporary deficit related to the business cycle
• What is a structural deficit?

  A deficit due to an imbalance in revenue and expenditure
• What are the consequences of budget deficits for macroeconomic performance?

  They can be inflationary and lead to crowding out
• What is the significance of the national debt size?

  It can increase the cost of borrowing and lead to higher taxes
• What is the role of the Office for Budget Responsibility (OBR)?

  • Provides analysis of UK finances
  • Produces 5-year economic forecasts
  • Judges government performance against fiscal targets
  • Scrutinizes tax and welfare spending measures
  • Assesses sustainability of public sector finances