Suppose because of a recession, most state governments experience reductions in
ID: 2440647 • Letter: S
Question
Suppose because of a recession, most state governments experience reductions in tax revenues, and respond by reducing their expenditures and increasing their taxes to keep their state budgets in balance (a constitutional requirement in many U.S. states). Will this have any effect on the recession, and if so, what? Suppose because of a recession, most state governments experience reductions in tax revenues, and respond by reducing their expenditures and increasing their taxes to keep their state budgets in balance (a constitutional requirement in many U.S. states). Will this have any effect on the recession, and if so, what?Explanation / Answer
An increase in tax will lower disposable income, thereby lowering consumption demand and aggregate demand. At the same time a decrease in government spending will directly and further lwoer aggregate demand. As a result, there will be a further fall in aggregate demand, which will make the recession become more severe with a downward spiral of negative growth.