Question

The federal budget is balanced and the economy is on the upward-sloping portion of the Laffer curve. Then, tax rates are cut and government purchases are increased. Is a budget deficit inevitable?

Answer 1

Answer:

Yes, the budget deficit is inevitable.

Explanation:

When the economy is on the upward-sloping portion of the Laffer Curve, any increase in tax rates will produce more revenue, and any decrease in tax rates will produce less revenue. This is because tax rates are not yet at the optimal point of the Laffer curve.

In this case, the federal budget was balanced, but the goverment cut tax rates while being on the upward-sloping portion of the Laffer curve, which means that tax revenue decreased. However, at the same time the government increased government purchases, and the combination of less tax revenue and more government spending will naturally result in a budget deficit.