A country's national debt is $500 billion at the start of a three-year period. Over those years it runs a deficit of $40 billion, then a deficit of $30 billion, then a surplus of $20 billion. What is the national debt at the end of the period?
$550 billion
✓
$590 billion
$570 billion
$450 billion
Correct Answer
$550 billion
Deficits add to the debt and surpluses reduce it, so the debt is 500 + 40 + 30 - 20 = $550 billion. $590 billion treats the surplus as if it added to the debt. $570 billion ignores the surplus entirely. $450 billion reverses the signs, subtracting the deficits and adding the surplus.
Category: Deficits and Debt
Question 2
In one year a government spends $4.2 trillion and collects $3.6 trillion in taxes, and GDP is $20 trillion. What is the budget deficit as a percentage of GDP?
0.6%
3%
✓
18%
21%
Correct Answer
3%
The deficit is spending minus taxes, $4.2 trillion - $3.6 trillion = $0.6 trillion, and 0.6 / 20 = 0.03, or 3% of GDP. 0.6% confuses the dollar amount of the deficit with a percentage. 18% is tax revenue as a share of GDP. 21% is spending as a share of GDP.
Category: Deficits and Debt
Question 3
A government runs a budget deficit every year. Its debt grows by 3% per year while its nominal GDP grows by 6% per year. What happens to its debt-to-GDP ratio over time?
It rises
It stays constant
It falls
✓
It rises at 3% per year
Correct Answer
It falls
The ratio falls because the denominator, GDP, grows faster than the numerator, the debt, so continued deficits can coexist with a shrinking debt burden relative to the economy. It rises would require debt to grow faster than GDP. It stays constant would require both to grow at the same rate. It rises at 3% per year ignores the faster growth of GDP.
Category: Deficits and Debt
Question 4
An income tax charges 10% on the first $10,000 of income, 20% on income from $10,000 to $40,000, and 30% on income above $40,000. How much tax does a person with $30,000 of income owe?
$6,000
$3,000
$9,000
$5,000
✓
Correct Answer
$5,000
Each rate applies only to the income inside its bracket: 10% of $10,000 is $1,000, and 20% of the next $20,000 is $4,000, for a total of $5,000. $6,000 wrongly applies the 20% rate to all $30,000. $3,000 applies the 10% rate to everything. $9,000 applies the 30% rate, which this person never reaches.
Category: Taxation
Question 5
Under an income tax, the first $10,000 is taxed at 10%, the next $30,000 at 20%, and everything over $40,000 at 30%. What is the average tax rate (total tax divided by total income) for someone earning $100,000?
25%
✓
30%
20%
10%
Correct Answer
25%
Total tax is $1,000 + $6,000 + $18,000 = $25,000, and $25,000 / $100,000 = 25%. 30% is the marginal rate on this person's last dollar, not the average. 20% is the simple average of the three bracket rates, which ignores how much income falls in each. 10% is only the rate on the first bracket.
Category: Taxation
Question 6
Every household pays 5% of its income in a particular tax, whether it earns $20,000 or $200,000. How is this tax classified?
Progressive tax
Proportional tax
✓
Regressive tax
Excise tax
Correct Answer
Proportional tax
A proportional tax takes the same percentage of income at every income level, as this 5% tax does. A progressive tax would take a larger percentage from the higher earner. A regressive tax would take a smaller percentage from the higher earner. An excise tax is a tax on a specific good, not a description of how the burden varies with income.
Category: Taxation
Question 7
Which federal tax, withheld from wages and paid by both employers and workers, funds Social Security and Medicare?
Individual income tax
Corporate income tax
Payroll tax
✓
Estate and gift tax
Correct Answer
Payroll tax
The payroll tax is levied on wages, split between employer and employee, and dedicated to Social Security and Medicare. The individual income tax goes to general federal revenue. The corporate income tax is a tax on company profits. The estate and gift tax applies to large transfers of assets to heirs.
Category: Taxation
Question 8
During a recession, which action is an example of expansionary fiscal policy?
Raising payroll taxes
Cutting grants to state governments
Reducing federal purchases
Cutting personal income taxes
✓
Correct Answer
Cutting personal income taxes
Cutting personal income taxes raises disposable income, which increases consumption and shifts aggregate demand to the right. Raising payroll taxes lowers disposable income and reduces demand. Cutting grants to state governments reduces spending in the economy. Reducing federal purchases directly lowers government spending, a contractionary step.
Category: Fiscal Policy and AD/AS
Question 9
An economy is producing above potential GDP and prices are rising quickly. In the AD/AS model, contractionary fiscal policy shifts which curve, and in which direction?
Aggregate demand to the left
✓
Aggregate demand to the right
Aggregate supply to the left
Aggregate supply to the right
Correct Answer
Aggregate demand to the left
Spending cuts or tax increases reduce consumption, investment, or government purchases, which shifts aggregate demand to the left and brings output back toward potential GDP. Aggregate demand to the right is the effect of expansionary policy. Aggregate supply to the left would worsen inflation and is not how fiscal policy is modeled here. Aggregate supply to the right reflects productivity growth, not a cut in demand.
Category: Fiscal Policy and AD/AS
Question 10
Equilibrium real GDP is well below potential GDP. According to the AD/AS model, what does expansionary fiscal policy do?
Lowers output and raises the price level
Raises output with a relatively small rise in the price level
✓
Raises the price level with no change in output
Lowers both output and the price level
Correct Answer
Raises output with a relatively small rise in the price level
Far below potential GDP the aggregate supply curve is relatively flat, so shifting aggregate demand to the right mainly raises output while the price level rises only a little. Lowers output and raises the price level describes a leftward shift of aggregate supply. Raises the price level with no change in output describes an economy already at its limit. Lowers both output and the price level is the effect of contractionary policy.
Category: Fiscal Policy and AD/AS
Question 11
Which of the following is an automatic stabilizer?
A one-time stimulus check approved by Congress
A new law funding highway construction
Unemployment insurance benefits
✓
A temporary tax rebate passed during a recession
Correct Answer
Unemployment insurance benefits
Unemployment insurance is already in law, so payments rise automatically when layoffs increase and fall when hiring picks up, with no new vote. A one-time stimulus check approved by Congress is discretionary policy. A new law funding highway construction also requires new legislation. A temporary tax rebate passed during a recession is a discretionary choice as well.
Category: Automatic Stabilizers
Question 12
During a recession, a government's actual budget deficit is $500 billion, while its standardized employment deficit is $300 billion. What does the $200 billion difference reflect?
Interest on the national debt
Discretionary tax cuts passed that year
Crowding out of private investment
The effect of automatic stabilizers
✓
Correct Answer
The effect of automatic stabilizers
The standardized employment budget estimates the deficit if the economy were at potential GDP, so the gap between it and the actual deficit shows how much the recession itself lowered taxes and raised benefit payments through automatic stabilizers. Interest on the national debt is part of both measures. Discretionary tax cuts passed that year are also included in both measures. Crowding out is an effect on private investment, not a budget measurement.
Category: Automatic Stabilizers
Question 13
A stimulus bill has been signed into law, but months pass before the money reaches government agencies and projects begin. Which delay does this describe?
Implementation lag
✓
Recognition lag
Legislative lag
Forecast lag
Correct Answer
Implementation lag
The implementation lag is the time between approving a fiscal program and getting the funds to the agencies that carry it out. Recognition lag is the time needed to confirm a recession has begun. Legislative lag is the time needed to debate and pass the bill. Forecast lag is not one of the standard fiscal policy lags.
Category: Limits of Fiscal Policy
Question 14
Compared with a permanent tax cut of the same size, how is a temporary one-year tax cut expected to affect aggregate demand?
It has a larger effect
It has a smaller effect
✓
It has the same effect
It shifts aggregate supply instead
Correct Answer
It has a smaller effect
People and firms change their spending more when they expect a policy to last, so a temporary tax cut shifts aggregate demand by less than a permanent one. It has a larger effect reverses the relationship. It has the same effect ignores how expectations shape behavior. It shifts aggregate supply instead is wrong because a tax cut aimed at spending works through aggregate demand.
Category: Limits of Fiscal Policy
Question 15
Many economists are skeptical of a rule requiring the federal budget to balance every single year. What is a key reason?
It would make the national debt grow faster
It would require tax increases during booms
It would prevent automatic stabilizers from working
✓
It would force the central bank to raise interest rates
Correct Answer
It would prevent automatic stabilizers from working
Recessions automatically enlarge deficits as taxes fall and benefits rise, so an annual balance rule would force spending cuts or tax increases in downturns and worsen fluctuations. It would make the national debt grow faster is wrong because balanced budgets add nothing to the debt. It would require tax increases during booms is wrong because booms tend to produce surpluses. It would force the central bank to raise interest rates is not a consequence of the rule.
Category: Balanced Budget Debate
Question 16
In the federal budget, what does the spending category called net interest represent?
Interest households pay on mortgages
Interest the central bank charges commercial banks
Interest earned on foreign aid loans
Payments on the government's past borrowing
✓
Correct Answer
Payments on the government's past borrowing
Net interest is what the federal government pays to holders of its debt on money it borrowed in earlier years. Interest households pay on mortgages is private spending, not a federal budget item. Interest the central bank charges commercial banks is part of monetary policy. Interest earned on foreign aid loans is not what this category measures.
Category: Government Spending
Question 17
Which of the following is an example of fiscal policy?
Congress cutting personal income tax rates
✓
The Fed lowering its target interest rate
The Fed buying government bonds
A bank raising its mortgage rates
Correct Answer
Congress cutting personal income tax rates
Fiscal policy is the use of government spending and taxation to influence the economy, so a tax rate cut passed by Congress qualifies. The Fed lowering its target interest rate is monetary policy. The Fed buying government bonds is also a monetary policy tool. A bank raising its mortgage rates is a private business decision.
Category: Fiscal Policy and AD/AS
Question 18
Critics of the claim that the government should balance its budget every year, just as a family must, point out that families in fact do what?
Are legally barred from ever borrowing
Routinely borrow for homes, cars, and tuition
✓
Balance their budgets every single month
Pay no interest on what they borrow
Correct Answer
Routinely borrow for homes, cars, and tuition
The household analogy is flawed because households regularly take on debt for large purchases and save or dissave at different stages of life. Are legally barred from ever borrowing is false, since mortgages and car loans are common. Balance their budgets every single month is not what most households do. Pay no interest on what they borrow is false, since household loans carry interest.
Category: Balanced Budget Debate
Question 19
Suppose that over a decade defense spending falls from 5.2% of GDP to 3.0% of GDP, while federal tax revenue rises from 18.1% of GDP to 20.8% of GDP. If nothing else changes, by how many percentage points of GDP does the budget balance improve?
0.5 percentage points
2.7 percentage points
4.9 percentage points
✓
2.2 percentage points
Correct Answer
4.9 percentage points
Lower spending and higher revenue both improve the balance, so the effects add: spending falls 5.2 - 3.0 = 2.2 points and revenue rises 20.8 - 18.1 = 2.7 points, for 2.2 + 2.7 = 4.9 points. 0.5 percentage points subtracts the two changes instead of adding them. 2.7 percentage points counts only the revenue change. 2.2 percentage points counts only the spending change.
Category: Government Spending
Question 20
A region's factory jobs disappear because new automation technology lets fewer workers produce the same output. Why might expansionary fiscal policy be unable to restore those particular jobs?
Fiscal policy affects only aggregate supply
Tax cuts lower disposable income
Government spending lowers aggregate demand
The losses reflect structural change in the economy
✓
Correct Answer
The losses reflect structural change in the economy
Fiscal policy can raise overall demand, but jobs eliminated by technology or shifts between industries may never return, and workers must move to new sectors over time. Fiscal policy affects only aggregate supply is wrong because it works mainly through aggregate demand. Tax cuts lower disposable income is backward, since tax cuts raise it. Government spending lowers aggregate demand is also backward, since spending is a component of aggregate demand.
Category: Limits of Fiscal Policy