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Tax Bases, Budget Financing, Budget Deficits

1. Contrast the three major classes of tax bases, also addressing economic bases.

2. Analyze various methods of government financing in their budget, and provide a synthesis of the strengths and weaknesses of these methods, as well as their long term effects.

3. The classical economists argued that budget deficits would not affect current spending. Suppose the federal government increases its purchases of goods and services by $100 billion this year. Classical economists who believe in the idea of Ricardian equivalence would argue that the increase in federal spending would have no effect on aggregate spending in the economy and no effect on private investment. Why would a $100 billion increase in spending financed by a deficit have no effect on the economy other than a reallocation of resources from private to government use?

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Step 1
The three classes of tax bases are the income tax, the payroll tax and the consumption tax. In case of the income tax the burden of the tax is borne by the individual taxpayer. In case of the payroll taxes, the burden is passed on to the employee. The employee does not have alternative employment and so is compelled to bear the burden of the tax. In case of consumption tax the burden directly falls on the consumers but if the prices of the products increase and demand is depressed, the business and the suppliers may be forced to bear some of the burden. For example, a sales tax which is a form of consumption tax can be passed on to the consumer but if there is a lowering of demand and the prices increase there can be part of tax borne by the business and the suppliers. The ...

Solution Summary

This solution explains critical issues in government finance. The sources used are also included in the solution.