Answer:
The Cyclically Adjusted Budget is to adjust actual Federal budget deficit and surplus to account for the changes in tax revenues that happen automatically whenever GDP changes.
The Cyclical Adjusted Budget measures what the budget deficit and surplus would have been under existing tax rates and government spending levels if the economy has achieved its full-employment level of GDP.
The Cyclical Adjusted Budget is different from the actual budget because it removes budget deficits or surpluses that arise simply because of cyclical changes in GDP.
Diagram of Cyclically Adjusted Deficit:
Here, G refers to the Government Expenditure and T refers to Taxes.
The Cyclical Adjusted Budget deficit is zero. The economy's full employment is GDP3 , where the government spending equals to tax revenue. When the economy operates at GDP2 , which is smaller than GDP3 , tax revenue falls short of government spending automatically and actual budget deficit is positive, however, this deficit happens because of the cyclical change of GDP , rather than fiscal policy. Thus, the cyclical adjusted budget is zero, the same with that when the economy is operating at full-employment level.
Since the economy is suffering a recession, government should cut tax. This is reflected by a downward shift of the tax line from T to T'. The cyclical adjusted budget has a positive deficit, because there is a tax cut. It showed as below:
Diagram of Government Tax Cut:
Answer:
The Fiscal Policy refers to the economy is influenced by the policies of government tax collection and expenditure.
Time lag is the time between the recessions or inflation happens and the time of awareness of such a thing is actually happening. It takes months of economic slowdown for a confidence conclusion to arrive that a recession is at place. Thus, by the time the government announcement of the recession/inflation the economy has already been in it for a while.
A Political Business Cycle is the swing of the economy caused by politically motivated fiscal policy, not caused by the intrinsic problems of the economy itself. Politicians tend to overheat the economy in order to be reelected.
If there is an expectation of a near-term reversal of a tax cut, people will save more to meet the expected future tax raise, reducing the strength of the current tax cut.
Similarly, if there an expectation of a near-term reversal of tax raise, people will spend more than the policy intended, because they expect the current tax raise will be reversed and there will soon be a tax cut.
The Crowding-Out Effect is the reduction of private investment caused by an increase of government spending, which increases money demand and drives up interest rate.
The crowding-out effect is related to fiscal policy because when government spending increases, it is possible to reduce private investment, leaving total expenditure unchanged or even decreased, a result not intended by the expansionary fiscal policy.
Fiscal policy is useful to combat recession and inflation, but it has some criticisms such as time lag, political business cycle, policy reversal, and crowding-out effect. The initial intend may be dampened and the strength of fiscal policy may be reduced because of these problems. Thus, it is hard for fiscal policy to fine tune the economy.
Answer:
Refinancing the public debt would increase the money demand from government. With money supply constant the increased demand would drive up annual interest payment.
Investment is a negative function of interest rate; the increased interest rate would crowd out private investment.
Capital Stock is the accumulation of investment. The decreased private investment would decrease capital stock. If the increase in public spending leads to an increase in public investment, total capital stock may stay constant or increased.
Economic Growth is a function of capital stock. Other things equal, a decrease in capital stock leaves less resource for future economic growth. Economic growth would slow down. In summary, refinancing the public debt would slow down economic growth.
Investment in public capital may offset the crowding-out effect of private investment, and keep capital stock increased or unchanged.
Complimentary Public Investment may encourage more private investment and offset the crowding-out effects.