2019 Nov (Fiscal Policy Circular Flow) Paper 3 HL
(3) (a) Explain the impact that a cut in taxes (expansionary fiscal policy) and an increase in government spending (also an increase in fiscal policy) might have on the circular flow of income.
Definition
Circular Flow of Income – demonstrates how money, goods and services flow through an economy.
(Indirect/Direct) Taxation – Taxes may be classified as direct or indirect. Direct taxes are levied on a person’s income or wealth and indirect taxes on goods and services.
Government Spending – Expenditures by the Local, State or Federal government.
Understand that as Taxes are cut (expansionary fiscal policy) disposable income increases and as Government Spending increases citizens will have more income to spend on goods and services (an decrease in taxes would be a reduction of a leakage and an increase in government spending is an injection). Therefore there will be an increase (flow of) in incomes.
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