Question

Which of the following is likely to happen if the government raises tax rates?

Select one:

a. Unemployment will fall.

b. Consumption will decrease.

c. Price level will rise.

d. Investment will increase.

Answer 1

Answer :-

Option b - Consumption will decrease

Reason :-

• If the government raises the tax rates, it leads to decrease in disposable income in the hands of the consumers due to which there is a fall in their consumption levels.
• Due to fall in consumption levels , the aggregate demand will reduce which in turn will reduce the price level in the market.As we know there is an inverse relationship between inflation and unemployment rate as per the Phillips curve. Thus when the inflation is decreasing then unemployment will rise.
• As aggregate demand will reduce, the price level will also reduce due to Leftward shift of the aggregate demand curve.
• As a aggregate demand will reduce , the producers will also produce lesser amount then before due to which the investment will decrease.