Chapter 21: Problem 13

Which of the following statements is true? a. A reduction in tax rates along the downwardsloping portion of the Laffer curve would increase tax revenues. b. According to supply-side fiscal policy, lower tax rates would shift the aggregate demand curve to the right, expanding the economy and creating some inflation. c. The presence of automatic stabilizers tends to destabilize the economy. d. To combat inflation, Keynesians recommend lower taxes and greater government spending.

Short Answer

Expert verified

Statement a is true: a reduction in tax rates along the downward-sloping portion of the Laffer curve would increase tax revenues.

Step by step solution

: Understand the Laffer curve

: The Laffer curve theorizes that increasing tax rates beyond a certain point might be counterproductive for raising further tax revenue. It is characterized by an inverted U shape, suggesting that at certain high tax rates, reducing tax could actually increase tax revenue. #Step 2: Analyze statement a#

: Is statement a true?

: Based on the properties of the Laffer curve, on the downward-sloping part of the curve, a reduction in tax rates would theoretically increase tax revenues. Therefore, statement a is true. #Step 3: Analyze supply-side fiscal policy#

: Understand Supply-side fiscal policy

: Supply-side fiscal policies focus on increasing aggregate supply by reducing the barriers for production such as lower tax rates. The lower cost of production should, in theory, shift the aggregate demand curve right due to increased consumption from lower prices. #Step 4: Analyze statement b#

: Is statement b true?

: Statement b is incorrect. While lower tax rates would indeed potentially expand the economy due to enhanced production and consumption, it would shift the aggregate supply curve to the right, not the aggregate demand curve. #Step 5: Analyze automatic stabilizers#

: Understand automatic stabilizers

: Automatic stabilizer refers to government policies and programs designed to offset fluctuations in a nation's economic activity without the need for intervention by policymakers. #Step 6: Analyze statement c#

: Is statement c true?

: Statement c is false. The purpose of automatic stabilizers is to stabilize the economy, not to destabilize it. #Step 7: Analyze Keynesian recommendations#

: Understand Keynesian economics

: Contrary to the Keynesian approach, fighting inflation often involves reducing fiscal stimuli like government spending and potentially raising taxes to manage overheating in the economy. #Step 8: Analyze statement d#

: Is statement d true?

: Statement d is false. To combat inflation, Keynesians would typically recommend decreased government spending and potentially increased taxes to cool down the economy.

Unlock Step-by-Step Solutions & Ace Your Exams!

Full Textbook Solutions
Get detailed explanations and key concepts
Unlimited Al creation
Al flashcards, explanations, exams and more...
Ads-free access
To over 500 millions flashcards
Money-back guarantee
We refund you if you fail your exam.

Start your free trial

Over 30 million students worldwide already upgrade their learning with Vaia!