AQA A-Level Economics (7136) · The National & International Economy
Specification points
- Fiscal policy: government spending and taxation.
- Direct and indirect taxes; progressive, proportional and regressive taxes.
- Budget deficits, national debt and the effects of fiscal policy.
What is fiscal policy?
Fiscal policy is the use of government spending and taxation to influence aggregate demand and the supply side.
- Expansionary — higher spending and/or lower taxes → higher AD (fights recession/unemployment).
- Contractionary — lower spending and/or higher taxes → lower AD (fights inflation, reduces a deficit).
Taxation
| Type | Meaning |
|---|---|
| Direct | On income and wealth (income tax). |
| Indirect | On spending (VAT). |
| Progressive | Takes a higher % of higher incomes. |
| Regressive | Takes a higher % from lower incomes. |
Key definitions
| Term | Definition |
|---|---|
| Budget deficit | Government spending exceeding tax revenue in a year (a flow). |
| National debt | The accumulated stock of past deficits. |
| Automatic stabilisers | Taxes and benefits that dampen the cycle without policy changes. |
Deficits, debt and crowding out
A budget deficit is a yearly flow; the national debt is the accumulated stock. In a recession, tax falls and benefits rise automatically (automatic stabilisers), widening the deficit and cushioning the downturn. Concerns about high debt include interest costs and crowding out — government borrowing raising interest rates and reducing private investment — though borrowing to invest can raise future capacity.
Worked example
In a recession the government cuts income tax and raises infrastructure spending. AD rises via the multiplier, cutting unemployment. Risks: a larger deficit and, near capacity, higher inflation. If the spending is productive investment, it may also raise LRAS in the long run.
Common exam mistakes
- Confusing fiscal (spending/tax) with monetary (interest rates) policy.
- Confusing the deficit (flow) with debt (stock).
- Mixing up direct/indirect and progressive/regressive taxes.
Exam technique
State whether policy is expansionary or contractionary, trace it through AD/AS, and evaluate using time lags, crowding out and the state of the public finances.
Quick revision
- Fiscal policy = spending + taxation.
- Deficit = flow; national debt = stock.
- Automatic stabilisers smooth the cycle; watch crowding out.