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With reference to the Pro-cyclical Fiscal Policy stance during an economic boom, consider the following statements:
- An increase in government expenditure will increase growth.
- In this fiscal policy stance, the government also increases the tax rates.
Which of the statements given above is/are correct?
- a)1 only
- b)2 only
- c)Both 1 and 2
- d)Neither 1 nor 2
Correct answer is option 'A'. Can you explain this answer?
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Most Upvoted Answer
With reference to the Pro-cyclical Fiscal Policy stance during an econ...
Cyclicality of the fiscal policy
- The cyclicality of the fiscal policy refers to a change in direction of government expenditure and taxes based on economic conditions.
- These pertain to decisions by policymakers based on the fluctuations in economic growth. There are two types of cyclical fiscal policies - counter-cyclical and procyclical.
Pro-cyclical Fiscal Policy Stance
- In a pro-cyclical fiscal policy, the government reinforces the business cycle by being expansionary during good times and contractionary during recessions.
- Pursuing a pro-cyclical fiscal policy is generally regarded as dangerous. It could raise macroeconomic volatility, depress investment in real and human capital, hamper growth and harm the poor.
- In Recession
(i) The government takes the route of Expansionary Fiscal Policy i.e. the government expenditure is decreased and taxes are increased. This decreases the consumption potential of the economy and deepens the recession. - In Economic Boom
(i) The government takes the route of contractionary Fiscal Policy i.e. the government expenditure is increased and taxes are decreased. Hence, statement 2 is NOT correct.
(ii) This increases the consumption potential of the economy and amplifies the economic boom. Hence, statement 1 is correct.
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With reference to the Pro-cyclical Fiscal Policy stance during an econ...
Increase in government expenditure will increase growth:
- During an economic boom, the government may adopt a pro-cyclical fiscal policy stance, which involves increasing government expenditure. This is done with the aim of boosting economic growth further and taking advantage of the favorable economic conditions.
- When the government increases its expenditure, it injects more money into the economy. This increased spending can have a positive impact on various sectors such as infrastructure development, education, healthcare, etc. This, in turn, can lead to increased employment opportunities, higher consumer spending, and overall economic growth.
- The multiplier effect comes into play in such a scenario. The increase in government expenditure leads to increased income for individuals and businesses. This increased income, in turn, leads to higher consumption and investment, creating a cycle of economic growth.
Government also increases tax rates:
- In addition to increasing government expenditure, the government may also choose to increase tax rates during an economic boom. This is done to generate additional revenue for the government and maintain fiscal discipline.
- Higher tax rates can help the government in reducing budget deficits and managing inflationary pressures that may arise during a boom period. By increasing taxes, the government can curb excessive spending and prevent the economy from overheating.
- Additionally, higher tax rates can also help in reducing income inequality by redistributing wealth from higher-income individuals to fund social welfare programs and public goods.
Conclusion:
- Both the statements given in the question are correct. During an economic boom, the government may adopt a pro-cyclical fiscal policy stance by increasing government expenditure and tax rates. While the increase in government expenditure can stimulate economic growth, the increase in tax rates helps in maintaining fiscal stability and managing inflationary pressures.
- During an economic boom, the government may adopt a pro-cyclical fiscal policy stance, which involves increasing government expenditure. This is done with the aim of boosting economic growth further and taking advantage of the favorable economic conditions.
- When the government increases its expenditure, it injects more money into the economy. This increased spending can have a positive impact on various sectors such as infrastructure development, education, healthcare, etc. This, in turn, can lead to increased employment opportunities, higher consumer spending, and overall economic growth.
- The multiplier effect comes into play in such a scenario. The increase in government expenditure leads to increased income for individuals and businesses. This increased income, in turn, leads to higher consumption and investment, creating a cycle of economic growth.
Government also increases tax rates:
- In addition to increasing government expenditure, the government may also choose to increase tax rates during an economic boom. This is done to generate additional revenue for the government and maintain fiscal discipline.
- Higher tax rates can help the government in reducing budget deficits and managing inflationary pressures that may arise during a boom period. By increasing taxes, the government can curb excessive spending and prevent the economy from overheating.
- Additionally, higher tax rates can also help in reducing income inequality by redistributing wealth from higher-income individuals to fund social welfare programs and public goods.
Conclusion:
- Both the statements given in the question are correct. During an economic boom, the government may adopt a pro-cyclical fiscal policy stance by increasing government expenditure and tax rates. While the increase in government expenditure can stimulate economic growth, the increase in tax rates helps in maintaining fiscal stability and managing inflationary pressures.
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With reference to the Pro-cyclical Fiscal Policy stance during an economic boom, consider the following statements: An increase in government expenditure will increase growth. In this fiscal policy stance, the government also increases the tax rates.Which of the statements given above is/are correct?a)1 onlyb)2 onlyc)Both 1 and 2d)Neither 1 nor 2Correct answer is option 'A'. Can you explain this answer?
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