Economics - Questions 8
 
 

1. What is meant by the multiplier?

Give examples.

(Answer) The multiplier relates to the fact that when additional money is spent in the economy, it has a multiplied effect on national income.

This is due to the ripple effects which spending repeatedly has throughout the economy.

For example if a large factory sets up in a small town, the workers (in the factory) initially benefits and spend more money. However as a result retailers in the area will benefit who in turn will spend more creating business for others.

The same effects could arise for example from tax concessions in a budget which would generate several waves of additional spending throughout economy.
 

2. Distinguish fiscal policy from monetary policy

What is another well-known term for fiscal policy?

(Answer) Fiscal policy relates to tax (borrowing) and government spending. Monetary policy relates to changes in money supply and interest rates.

Fiscal is also referred to as budgetary policy.
 

3. In the following cases what happens to the level of National Income?

the Government increases spending (through borrowing) without further increases in taxation.

The Government reduces income tax in the budget (without any other changes).

There is a sharp rise in savings due to special incentive schemes while business confidence falls.

There is a large increase in imports (while exports remain unchanged)

The corporate tax rate is increased leading to a significant drop in foreign investment

Government spending increases but private spending falls by the same amount.

(Answer) (i) national income increases (ii) national income increases (iii) national income falls (iv) national income falls (v) national income falls (vi) national income remains unchanged
 

4. If according to theory, National Income will rise as long as J (injections) > W(withdrawals), why not ensure that the level of injections always exceeds the levels of withdrawals in the economy?

(Answer) The economy at an any given time can only produce so many goods and services. Therefore if we keep increasing expenditure it will lead to inflation where national income rises in money (rather than real terms). This is counterproductive as inflation would eventually reduce competitiveness.
 

5. What is meant by (i) a deflationary gap (ii) an inflationary gap?

(Answer) a deflationary gap arises represents the amount by which expenditure falls short of the required level (to maintain the economy at full capacity.

The inflationary gap is the amount by which expenditure exceeds the required amount (to maintain economy at full capacity).
 
 

6. If the size of the multiplier is 5 by how much must spending increase so that National Income can rise by € 5 bl.?

(Answer) €1 bl.
 

7. What is meant by per capita income?

(Answer) income per head – obtained by dividing national income for a country by the population.
 

8. If wages are index-linked (i.e. guaranteed to rise by the same amount as inflation) should we worry about a high inflation rate (say 100 % p.a.)?

(Answer) Yes! Such inflation would greatly increase speculation. Also it could easily escalate making economic management extremely difficult