Deck 19: Government Debt and Budget Deficits

Question 1

Holding other factors constant, the ratio of government debt to GDP can decrease as a result of any of the following changes except:

A) decreases in government spending.
B) increases in GDP.
C) decreases in tax revenues.
D) decreases in transfer payments.

Answer 1

decreases in tax revenues.

Question 2

Government debt equals the:

A) difference between current government purchases and taxes.
B) difference between saving and investment.
C) sum of past budget deficits and surpluses.
D) M1 money supply.

Answer 2

sum of past budget deficits and surpluses.

Question 3

If the debt of the U.S. federal government in 2008 was divided equally among the people in the United States, then the debt per person would equal approximately:

A) $3,500.
B) $35,000.
C) $53,000.
D) $153,000.

Answer 3

$35,000.

Question 4

In a time of inflation when the government budget is balanced in the conventional sense, the real (i.e., deflated) value of the government debt is:

A) growing at the rate of inflation.
B) growing, but at a rate less than the rate of inflation.
C) constant.
D) decreasing at the rate of inflation.

Question 5

The government budget deficit is the ______, and government debt is the ______.

A) amount by which imports exceed exports; amount by which government spending exceeds government revenue
B) amount by which government spending exceeds government revenue; amount by which imports exceed exports
C) amount by which government spending exceeds government revenue; accumulation of past government borrowing
D) accumulation of past government borrowing; amount by which government spending exceeds government revenue

Question 6

Compared to the size of government debt as a percentage of GDP in other major industrial countries, the federal government of the United States:

A) is one of the most heavily indebted governments.
B) has accumulated a relatively small debt.
C) has accumulated somewhat greater than average debt.
D) is one of the least indebted governments.

Question 7

When a government spends more than it collects in taxes, it runs a:

A) trade deficit.
B) trade surplus.
C) budget surplus.
D) budget deficit.

Question 8

If government debt is not changing, then:

A) the economy is at long-run equilibrium.
B) the government's budget must be balanced.
C) GDP must equal the natural rate of output.
D) capital per worker is constant.

Question 9

Assume that the nominal interest rate is 11 percent, the inflation rate is 8 percent, and government debt at the beginning of the year equals $4 trillion. By how much is the government budget deficit overstated as a result of inflation?

A) $0.12 trillion
B) $0.32 trillion
C) $0.44 trillion
D) $0.80 trillion

Question 10

Which of the following is the most likely explanation of the August 2011 decision by Standard and Poor's to reduce its credit rating on U.S. government bonds?

A) A U.S. government debt default was not a likely outcome, but was a possibility to occur in the short term.
B) The U.S. government budget deficit was too large.
C) Strategies to reduce predicted U.S. government future budget deficits did not appear likely, making default a possibility.
D) Foreign governments were no longer willing to lend to the U.S. government.

Question 11

An increase in the elderly population of a country affects fiscal policy most directly because:

A) the elderly generally are not required to pay taxes.
B) governments provide pensions and health care for the elderly.
C) the elderly favor high interest rates on their savings.
D) governments spend more on education as the proportion of the elderly increases.

Question 12

Historically, the primary cause of increases in government debt is:

A) printing too much money.
B) cutting taxes.
C) increasing interest rates.
D) financing wars.

Question 13

Relative to the size of GDP, the U.S. federal government debt was at its maximum:

A) at the end of the Revolutionary War.
B) at the end of the Civil War.
C) at the end of World War II.
D) following the 9/11 terrorist attacks in 2001.

Question 14

The factors most responsible for forecasts of the U.S. government debt spiraling out of control in the next half century are the projected:

A) slowdowns in the rates of technological change and human capital growth.
B) decrease in high-skilled domestic workers and the increase in immigration of low-skilled workers into the United States.
C) aging of the U.S. population and rising health care costs.
D) increase in international competition and the outsourcing of U.S. jobs.

Question 15

The large increase in U.S. government debt between 1980 and 1995 was unusual because it occurred:

A) during peacetime.
B) during an extended recessionary period.
C) without increased government spending.
D) without tax cuts.

Question 16

The amount by which government spending exceeds government revenues is called the ______, and the accumulation of past government borrowing is called the ______.

A) deficit; debt
B) debt; deficit
C) devaluation; deflation
D) deflation; devaluation

Question 17

A deficit adjusted for inflation should include only government spending used to make _____ interest payments.

A) real
B) nominal
C) foreign
D) domestic

Question 18

If capital budgeting procedures were employed, then a budget deficit would be measured as:

A) the sum of government debt.
B) the change in government debt.
C) the change in government debt minus the change in government capital assets.
D) the change in government capital assets.

Question 19

In a time of inflation when the real (i.e., deflated) value of the government debt is constant, then the conventionally:

A) reported government budget will show a deficit equal to the inflation rate times the outstanding debt.
B) reported government budget will show a deficit equal to less than the inflation rate times the outstanding debt.
C) reported government budget will be balanced.
D) measured government budget will show a surplus equal to the inflation rate times the outstanding debt.

Question 20

Current measures of the U.S. federal government's budget deficit account for all of the following except:

A) government expenditures.
B) government revenues.
C) changes in government indebtedness.
D) changes in government capital assets.

Question 21

According to the traditional viewpoint of government debt, a tax cut without a cut in government spending:

A) raises consumption in both the short run and the long run.
B) lowers consumption in both the short run and the long run.
C) raises consumption in the short run but lowers it in the long run.
D) lowers consumption in the short run but raises it in the long run.

Question 22

The debt of the United States government is underreported in the view of many economists because all of the following liabilities are excluded except:

A) future pensions of government employees.
B) debt owed to foreigners.
C) future Social Security benefits.
D) government guarantees of student loans.

Question 23

The cyclically adjusted budget deficit:

A) adjusts the deficit for inflation.
B) estimates what the deficit would be if the economy were operating at the natural rate of output.
C) accounts for assets as well as liabilities.
D) measures the impact of fiscal policy on the lifetime incomes of individuals of different ages.

Question 24

The amount the government would owe if a borrower were to default on a government-guaranteed loan is an example of:

A) capital budgeting.
B) a contingent liability.
C) a cyclically adjusted liability.
D) Ricardian equivalence.

Question 25

Capital budgeting is a procedure that:

A) adjusts the deficit for inflation.
B) estimates what the deficit would be if the economy were operating at the natural rate of output.
C) accounts for assets as well as liabilities.
D) measures the impact of fiscal policy on the lifetime incomes of individuals of different ages.

Question 26

According to the traditional view of government debt (as in the Mundell-Fleming model), if taxes are cut without cutting government spending, then the short-run effects are a(n) ______ of the dollar and a(n) ______ in net exports.

A) appreciation; increase
B) appreciation; decrease
C) depreciation; increase
D) depreciation; decrease

Question 27

One item that is considered part of the federal debt is:

A) Treasury bills.
B) future Social Security benefits.
C) student loans, which may go into default.
D) potential liabilities of savings and loan associations.

Question 28

An estimate of what government spending and tax revenue would be if the economy were operating at its natural rate of output and employment is called the ______ budget.

A) cyclically adjusted
B) inflation-adjusted
C) capital-asset
D) generational accounting

Question 29

According to the traditional viewpoint of government debt, a tax cut without a cut in government spending:

A) stimulates consumer spending in the short run and reduces national saving.
B) stimulates consumer spending in the short run and reduces private saving.
C) has no effect on consumer spending but reduces national saving.
D) has no effect on consumer spending but reduces private saving.

Question 30

Under capital budgeting, all of the following transactions would affect the federal budget deficit except the federal government's:

A) sending a check to a welfare recipient.
B) sending a check to the state of Massachusetts.
C) selling a highway to the state of New York and using the proceeds to retire federal debt.
D) selling an office building.

Question 31

The international impacts of a debt-financed tax cut, according to the traditional view of government debt, are a(n) ______ in net exports and a domestic currency _____.

A) increase; appreciation
B) increase; depreciation
C) decrease; depreciation
D) decrease; appreciation

Question 32

According to the traditional view of government debt, if taxes are cut without a cut in government spending, then in the United States this situation will lead to ______ net indebtedness on the part of the United States to foreign countries and ______ net exports.

A) more; more
B) more; fewer
C) less; fewer
D) less; more

Question 33

Assume that a government has a balanced budget when the economy is at full employment. If the economy then enters a recession, with no change in tax or spending laws, then the budget of the government is most likely to:

A) remain balanced.
B) be in deficit.
C) be in surplus.
D) be in either deficit or surplus, depending on the severity of the recession.

Question 34

According to the traditional view of government debt, if taxes are cut without cutting government spending, then the long-run effects will be ______ steady-state capital and ______ consumption.

A) higher; higher
B) lower; lower
C) higher; lower
D) lower; higher

Question 35

According to the traditional view of government debt, if taxes are cut without cutting government spending, then the international effect initially will be a capital ______ and a trade ______.

A) inflow; deficit
B) inflow; surplus
C) outflow; deficit
D) outflow; surplus

Question 36

Cyclically adjusted budgets are useful because they:

A) systematically account for changes in government assets and liabilities.
B) reflect policy changes, but not current economic conditions.
C) account for tax burdens on different generations of taxpayers.
D) correctly account for the impact of inflation on government indebtedness.

Question 37

According to the traditional view of government debt, if taxes are cut without cutting government spending, then the short-run effects will be:

A) higher output and lower unemployment.
B) higher output and higher unemployment.
C) no change in output or unemployment.
D) no change in output and higher unemployment.

Question 38

Measuring the size of government debt is complicated by all of the following factors except:

A) inflation.
B) uncounted liabilities.
C) capital assets of the government.
D) failure of the Office of Management and Budget to disclose figures on capital expenditures and credit programs.

Question 39

When the federal government incurs additional debt to acquire an asset, under current budgeting procedures the deficit ______, while under capital budgeting procedures the deficit ______.

A) does not change; increases
B) increases; does not change
C) does not change; decreases
D) decreases; does not change

Question 40

Each of the following changes would allow the measured budget deficit to provide a truer picture of fiscal policy except:

A) correcting for the effects of inflation.
B) offsetting changes in government liabilities with changes in government assets.
C) excluding some liabilities altogether.
D) correcting for the effects of the business cycle.

Question 41

Government tax policy can affect aggregate supply as well as aggregate demand, because changes in taxes change the:

A) supply of money in the economy.
B) length of the inside lag of fiscal policy.
C) incentives to work and invest.
D) tradeoff between inflation and unemployment.

Question 42

According to the theory of Ricardian equivalence, tax cuts combined with no plans to reduce government spending ______ public saving and ______ private saving.

A) reduce; reduce
B) reduce; increase
C) increase; increase
D) increase; reduce

Question 43

A debt-financed tax cut will ______ current consumption in the traditional view and ______ current consumption in the view of Ricardian equivalence.

A) increase; increase
B) increase; decrease
C) increase; not change
D) decrease; decrease

Question 44

A debt-financed tax cut will ______ saving in the traditional view and ______ saving in the view of Ricardian equivalence.

A) increase; increase
B) decrease; decrease
C) decrease; increase
D) decrease; not change

Question 45

Assume that nobody cares about the economic well-being of future generations. Then the Ricardian equivalence view of the effect of debt-financed tax cuts is:

A) totally invalid.
B) still fully valid because the government has the option to levy taxes to pay off the full debt in just a few years.
C) still fully valid as long as the government cuts spending also.
D) still partially valid because most of the taxpayers will live and pay taxes for a substantial number of years after the tax cut.

Question 46

Proponents of Ricardian equivalence argue that the relevant decision-making unit is the:

A) individual.
B) household.
C) infinitely lived family.
D) community.

Question 47

The logic of Ricardian equivalence implies that:

A) tax cuts do not influence consumer spending but changes in government spending do.
B) neither tax cuts nor changes in government spending affect consumer spending.
C) tax cuts combined with future decreases in government spending will decrease consumer spending.
D) if the government cuts taxes and increases current government spending, consumer spending will increase.

Question 48

The Ricardian view on fiscal policy makes less sense if people are:

A) rational and practice foresight.
B) shortsighted and not fully rational.
C) able to plan for the future.
D) able to borrow without constraint.

Question 49

Proponents of Ricardian equivalence argue that if taxes are cut without cutting government spending and taxes are not expected to increase in the future until after an individual expects to be dead, then the individual will:

A) spend all of the increase in income.
B) spend some of the increase in income and save the rest.
C) use the increase in income to buy government bonds to help finance the deficit.
D) save all of the increase in income and leave it as a bequest to his or her children.

Question 50

When President George H. W. Bush lowered tax withholding in 1992 without lowering the amount of taxes owed, surveys showed that:

A) almost everyone spent the higher take-home pay.
B) almost everyone saved the higher take-home pay.
C) a majority of respondents said they would spend the higher take-home pay, but a significant minority said they would save it.
D) a majority of respondents said they would save the higher take-home pay, but a significant minority said they would spend it.

Question 51

From the Ricardian point of view, a consumer should not raise his or her consumption when taxes are cut but government spending is not cut because:

A) the government is going to raise taxes by exactly as much as the cut in the next year.
B) the government is going to raise taxes by exactly as much as the cut plus interest in the next year.
C) the government is sure to raise taxes by an amount equal in present value to the debt incurred this year, sometime in the taxpayer's lifetime.
D) even if the government does not raise enough extra taxes during the taxpayer's lifetime to pay off, in present value, the debt incurred this year, the taxpayer should make provision for the taxes that will be levied on his or her heirs.

Question 52

The strategic bequest motive hypothesizes that parents:

A) leave bequests to children because they care about their children's well-being.
B) leave bequests to children who are borrowing-constrained.
C) make larger bequests the larger the quantity of taxes that will be shifted to their children.
D) use the threat of disinheritance to control their children's behavior.

Question 53

According to supply siders, tax cuts can raise total tax revenue if the tax cuts generate large enough:

A) decrease in aggregate supply.
B) increase in aggregate supply.
C) decrease in the money supply.
D) increase in the money supply.

Question 54

All of the following are arguments against Ricardian equivalence except:

A) consumers make consumption decisions myopically.
B) consumers are rational and forward-looking in consumption decision-making.
C) consumers are borrowing-constrained.
D) consumers do not expect future taxes to fall on them.

Question 55

Ricardian equivalence refers to the same impact of financing government:

A) whether by printing money or raising taxes.
B) in the long run as in the short run.
C) whether by debt or taxes.
D) in an open economy as in a closed economy.

Question 56

According to the theory of Ricardian equivalence, if consumers are forward-looking, they will view a tax cut combined with no plans to reduce government spending as ______, so their consumption will ______.

A) additional disposable income; increase.
B) additional disposable income; remain unchanged.
C) a rescheduling of taxes into the future; increase.
D) a rescheduling of taxes into the future; remain unchanged.

Question 57

Suppose a household considers only current income in making consumption decisions. This is an example of:

A) Ricardian equivalence.
B) the permanent-income hypothesis.
C) myopia.
D) the life-cycle model.

Question 58

According to the traditional view of government debt (as in the IS-LM model), if taxes are cut without cutting government spending, then in the short run interest rates will ______ and investment will ______.

A) increase; increase
B) increase; decrease
C) decrease; decrease
D) decrease; increase

Question 59

In response to a tax cut, the consumption of a consumer who is borrowing-constrained ______, whereas the consumption of a forward-looking, unconstrained consumer acting in accord with Ricardian equivalence ______.

A) increases; increases
B) increases; remains unchanged
C) remains unchanged; remains unchanged
D) remains unchanged; increases

Question 60

Given a reduction in income tax withheld, but no change in income tax owed, households that act according to Ricardian equivalence would ______ the extra take-home pay, while those facing binding borrowing constraints would ______ the extra-take home pay.

A) spend; spend
B) spend; save
C) save; save
D) save; spend

Question 61

Inflation-indexed government bonds have all of the following benefits except:

A) eliminating inflation.
B) reducing the government's incentive to produce surprise inflation.
C) encouraging financial innovation.
D) eliminating inflation risk.

Question 62

The real value of government debt is reduced by:

A) expected inflation.
B) expected deflation.
C) unexpected inflation.
D) unexpected deflation.

Question 63

Using fiscal policy, including automatic stabilizers, to stabilize output over a business cycle is not consistent with:

A) rational expectations.
B) inflation targeting.
C) the natural-rate hypothesis.
D) a strict balanced-budget rule.

Question 64

One way to shift the tax burden from the current generation to future generations is to finance a war:

A) by raising taxes.
B) by printing money.
C) by running a budget surplus.
D) by running a budget deficit.

Question 65

To minimize the disincentives of very high taxes, a policy of tax smoothing requires a budget ______ in years of unusually low government revenue and a budget ______ in years of unusually high government expenditures.

A) surplus; deficit
B) deficit; surplus
C) surplus; surplus
D) deficit; deficit

Question 66

High levels of government debt that raise investors' fear of a government default on debt will result in capital ______ and a(n) ______ of the country's exchange rate.

A) outflows; depreciation
B) outflows; appreciation
C) inflows; depreciation
D) inflows; appreciation

Question 67

Indexed bonds produce all of the following benefits except:

A) less inflation risk.
B) more financial innovation.
C) better government incentives.
D) lower rates of inflation.

Question 68

Tax smoothing is a desirable policy because it:

A) reduces the distortions of incentives caused by taxes.
B) reduces budget deficits in periods of recession.
C) eliminates the impact of automatic stabilizers.
D) is consistent with a balanced budget.

Question 69

To force politicians to judge whether government spending is worth the costs, some economists have argued for:

A) a balanced-budget rule for fiscal policy.
B) a constant money-growth rule for monetary policy.
C) avoiding the assumption of any contingent liabilities.
D) the application of Ricardian equivalence.

Question 70

One reason for not requiring a balanced federal budget at all times is that with a balanced-budget rule:

A) expenditures are not limited because, if the government wants to raise expenditures, it just raises taxes.
B) in a recession even the automatic stabilizing powers of our system of taxes and transfers could not work.
C) the distorting features of the tax system are minimized.
D) it is possible to shift the burden of a war from current to future generations.

Question 71

In the United States, having a balanced budget is currently enforced for:

A) the federal government.
B) no state governments.
C) all state governments.
D) many state governments.

Question 72

The possibility of capital flight is likely to be greater at higher levels of government debt because there is a greater:

A) temptation to default on the debt.
B) likelihood that the government will begin issuing indexed bonds.
C) probability that a balanced budget will be adopted by the government.
D) potential for tax smoothing policies to be eliminated.

Question 73

If the government levies a one-time temporary tax on the young and gives the proceeds to the elderly, and both generations follow the life-cycle consumption pattern and are altruistically linked:

A) both the young and the old will consume more.
B) there will be a net increase in overall consumption.
C) there will be a net decrease in overall consumption.
D) there will be no change in overall consumption.

Question 74

Financing a budget deficit by ______ leads to inflation, and inflation ______ the real value of government debt.

A) issuing debt; increases
B) issuing debt; decreases
C) printing money; increases
D) printing money; decreases

Question 75

Hyperinflations typically occur when governments:

A) attempt to keep the unemployment rate below the natural rate.
B) finance spending with the inflation tax.
C) set inflation targets too high.
D) use discretionary monetary policy to stabilize output.

Question 76

A strict balanced-budget rule would:

A) permit the use of fiscal policy for stabilization.
B) allow the use of tax smoothing to reduce tax distortions.
C) redistribute tax burdens across generations.
D) restrain political incompetence and opportunism.

Question 77

If the government levies a one-time temporary tax on the young and gives the proceeds to the elderly, and both generations follow the life-cycle consumption pattern but are not altruistically linked:

A) both the young and the old will consume more.
B) there will be a net increase in overall consumption.
C) there will be a net decrease in overall consumption.
D) there will be no change in overall consumption.

Question 78

Monetary policy is linked to fiscal policy when government spending is financed by:

A) taxes.
B) borrowing from banks.
C) borrowing from foreigners.
D) printing money.

Question 79

The experience of the 1980s:

A) clearly contradicted the Ricardian equivalence view because national saving was very low.
B) clearly supported the Ricardian equivalence view, for people saved little only because they were optimistic, as confirmed by the stock market.
C) will provide a clear answer on the validity of Ricardian equivalence as soon as economists are able to analyze it with their computers.
D) may be used to argue both in favor of and against the Ricardian equivalence view of the tax cuts.

Question 80

A measure of the expected rate of inflation can be found by the:

A) yield on nominal bonds plus the yield on index bonds.
B) yield on nominal bonds minus the yield on index bonds.
C) observed rate of inflation minus the yield on real bonds.
D) observed rate of inflation minus the yield on nominal bonds.