Quiz #12

• 1. An ever expanding budget deficit is likely to be inflationary
• only if it is not accompanied by proportional increases in borrowing.
• when it increases nominal demand beyond the saving desire of the non-government sector.
• because it adds to bank reserves and thus allows them to extend more credit which results in too much money being in the system.
• 2. The Australian government is in a better position to weather this current crisis and expand the deficit
• because it inherited a very low level of public debt.
• because it can enforce tax obligations in $AUD on its citizens and the currency trades internationally at market-set parities.
• because it has taken a cautious approach by not favouring business or unions.
• 3. BHP builds its business by borrowing and investing in assets which allow it to earn an economic rate of return. Most commentators applaud this level of entrepreneurship. The analogy
• also applies to the national government as long as it is earning a positive return on the projects it borrows against.
• does not apply to the national government because its investment decisions are not disciplined by the private market which forces funds to be efficiently deployed.
• does not apply to the national government because unlike BHP, its spending is not constrained by available revenue.
• 4. The projected budget deficit is $58 billion next financial year. It is likely that this injection will be
• inflationary if the private sector reacts to it and the lower interest rates and expands borrowing.
• deflationary because the potential output is growing faster than projected output (as evidenced by the Budget growth projections for GDP, labour productivity and the labour force).
• deflationary because the banks are not prepared to pass on the full central bank interest rate cuts.
• 5. Commercial banks should applaud the government going into deficit because
• they provide net additions to bank reserves which increase their capacity to lend.
• they finance non-government saving which means the banks get more deposits which means they can expand credit to make profit.
• they generate an optimistic environment for investment which increases the proportion of credit-worthy customers.

Quiz #12 answers

• 1. An ever expanding budget deficit is likely to be inflationary

Answer: when it increases nominal demand beyond the saving desire of the non-government sector.

Explanation: Please see A response to (green) critics - finale (for now)! for more information. If you are unsure ask a question via the comments.

• 2. The Australian government is in a better position to weather this current crisis and expand the deficit

Answer: because it can enforce tax obligations in $AUD on its citizens and the currency trades internationally at market-set parities.

Explanation: Please see Debts and deficits again! for more information. If you are unsure ask a question via the comments.

• 3. BHP builds its business by borrowing and investing in assets which allow it to earn an economic rate of return. Most commentators applaud this level of entrepreneurship. The analogy

Answer: does not apply to the national government because unlike BHP, its spending is not constrained by available revenue.

Explanation: Please see Debts and deficits again! for more information. If you are unsure ask a question via the comments.

• 4. The projected budget deficit is $58 billion next financial year. It is likely that this injection will be

Answer: deflationary because the potential output is growing faster than projected output (as evidenced by the Budget growth projections for GDP, labour productivity and the labour force).

Explanation: Please see Debts and deficits again! for more information. If you are unsure ask a question via the comments.

• 5. Commercial banks should applaud the government going into deficit because

Answer: they generate an optimistic environment for investment which increases the proportion of credit-worthy customers.

Explanation: Please see A response to (green) critics - finale (for now)! for more information. If you are unsure ask a question via the comments.