Question

GOVERNENT BUDGET BALANCE AND FISCAL STIMULUS

Let’s assume that Country X is in a recession ( and it’s a high-income country where wage earners and businesses pay taxes and the government offers unemployment benefits)

A. What is the inpact of the automatic stabilisers on the government’s budget position?

B. Let’s assume that the government wants to increase its spending during a recession. Explain the impact on the government’s budget position

C. Let’s assume that government of country X doesn’t want its budget to go into deficit during a recession. What should it do during booms ?

Answer 1

A. In a recession, government's budget balance goes into deficit. The automatic stabilizers like unemployment allowances and reduction in tax revenue will increase the budget deficit of the government.

B. Increase in spending will increase the budget deficit of the government as tax revenue of the government is already low at the time of recession and further increase in spending will increase the budget deficit of the government.

C. During the time of booms government should increase the tax rates and reduce its expenditure if it does not want to go into deficit during a recession.