Economics Study Set 18

Business

Quiz 35 :
the Federal Budget and the National Debt

Quiz 35 :
the Federal Budget and the National Debt

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Does the national debt have to be paid off at some time in the future? What will happen if it is not?
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The Japanese growth rate during 1960-1990 was quite remarkable. They had a annual growth rate of 6.2 during this period and by 1990 its GDP was equal to 80% of US GDP. This remarkable recovery from devastation of World War II is sometimes called the catch up phenomenon.
The remarkable growth and rising income created wave of optimism, and the demand for real estate and shares of business firm increases. As a result the demand increases the prices of these assets. On the other hand, the Bank of Japan decreases its discount rate, which made the credit easily available, even to those who had little equity in the purchased asset. Every one including the investors and the bank thought that the price will continue to rise, just as the US home buyers and bank thought that the price of housing will rise. During 1986 to 1989 the Japanese stock prices increases by 200%. The bubble burst in 1990, as the stock prices decreases by 46% in 9 months. The stock and asset prices collapsed, and took down the investors as well as the bank with high leverage ratio, just as the US experienced during 2008. This collapse soon spread to entire economy and led to severe decrease in economic growth to 3.3% in 1991 and further to 1% in 1992-1993.

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What is the difference between the national debt and privately held federal debt? Why is the distinction between the two important?
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The Japanese growth rate during 1960-1990 was quite remarkable. They had a annual growth rate of 6.2 during this period and by 1990 its GDP was equal to 80% of US GDP. This remarkable recovery from devastation of World War II is sometimes called the catch up phenomenon.
During the economic downturn the Japanese government took expansionary physical policy. To enhance economic growth and increase aggregate demand Japanese government passed several stimulus packages. The government increased their spending as well as cut the tax rate in two year period. This increase in spending was financed through budget deficit and increased borrowings. This increases the government debt as high as 14% in 1992 to 88% in 2008.
This huge fiscal stimulus was unable to recover the growth rate of Japanese economy. This is because the increased government spending increases the future taxes and interest rate. The increased interest rate decreases the private spending and thus reduced the aggregate demand.

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When government bonds are held by foreigners, the interest income from the bonds goes to foreigners rather than to Americans. Would Americans be better off if we prohibited the sale of bonds to foreigners?
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The Japanese growth rate during 1960-1990 was quite remarkable. They had a annual growth rate of 6.2 during this period and by 1990 its GDP was equal to 80% of US GDP. This remarkable recovery from devastation of World War II is sometimes called the catch up phenomenon.
The Japanese experience of 1990s is quite similar to that of the US experience in 2008. The only difference that helped US to through with quick recovery is the expansionary monetary policy. However, this was not the case with Japan 1990s. The Japanese money supply was highly restrictive during the period. The price level and the inflation rate of quite low too. This is because the people expected a future deflation and kept nominal interest rate close to zero. The policy maker thought it is due to expansionary monetary policy but it was not true. Deflation and low interest rate was quite similar to the phenomenon of great depression of 1930s that kept the aggregate demand low and Japan fail to recover to its pre-recession state.

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How did the Social Security system influence the size of the budget deficit during 1985-2010? How will it influence the deficit during the next two decades? Is this a cause for concern? Why or why not?
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Would you predict that government expenditures would be higher or lower if taxes (or user charges) were required for the finance of all expenditures? Why? Do you think the government would spend funds more or less efficiently if it could not issue debt? Explain.
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"Given the incentive of elected political officials to spend and their reluctance to tax, two-thirds approval of the House and Senate should be required for both spending measures and increases in government debt." Do you think this is a good idea? Why or why not?
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