Question

Analyze the effect of built-in (or automatic) stabilizers on a country's economy.

Explain how built-in stabilizers work.

Explain the differences between proportional, progressive, and regressive tax systems as they relate to an economy's built-in stability.

Answer 1

Automatic stabilizers exaggerate the budget deficit during a deflationary period and enhance its surplus during inflationary period without the interference of government. During growth period, GDP increases, tax revenues also increase as the progressive tax system is in place. Here, people in the top rung of the economic ladder pay higher taxes. Tax revenues are decreasing during recession. If households were paying the same taxes even now, the economy would have been in a jeopardy, since proportional tax system is in place. In regressive taxation, people in the top rung of the economic ladder pay lower taxes. Tax revenue falls as the income rises and tax revenue rises as the income falls.