A personal tax cut of $50 billion will affect income differently than an increase in government spending by $50 billion because:

A. The increase in government spending will produce a political business cycle

B. The increase in government spending is less expansionary than the increase in taxes

C. Households may save part of the additional income from the tax cut

D. Households may consume more than the additional income from the tax cut

Question

Pork Chop

Business

21 January, 14:36

A personal tax cut of $50 billion will affect income differently than an increase in government spending by $50 billion because:

A. The increase in government spending will produce a political business cycle

B. The increase in government spending is less expansionary than the increase in taxes

C. Households may save part of the additional income from the tax cut

D. Households may consume more than the additional income from the tax cut

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Answers (1)

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Jovanni Camacho · Answer 1

C) Households may save part of the additional income from the tax cut

Explanation:

When we consider the total household income there is always a major part that is spent, this is called propensity to consume. It is defined as the proportion of total income that consumers are willing to spend.

But propensity to consume doesn't include 100% of household income, there also exists the propensity to save. That is the exact opposite, is the proportion of our income that we will save for future use.

Luckily for us all, the propensity to spend is usually much higher than the propensity to save. We have to remember that private consumption represents nearly 70% of the nation's GDP.

What households save goes to investment in GDP. Investment is always needed but it represents future growth of the GDP while consumption represents current growth of the GDP.