Question 2 on Topic 8 (10 marks)

a.The Australian government has recently announced a raft of fiscal expansionary/stimulus measures that will lead to a significant increase in the Australian government's budget deficit. Given the material presented in this course cover the pros and cons of budget surpluses and deficits, we know that one view put forward is that 'government budget deficits are bad. Do you agree or disagree with this statement? Briefly justify your answer.(5 marks)

b.Imagine a scenario where not only has the Australian government managed to pull Australia out of recession but has actually managed to get the economy moving so well that current output (real GDP) is above potential GDP.

(i)What type of fiscal policy has the government used to try and get Australia to potential GDP? Draw an AD-AS diagram to illustrate this situation (including the initial situation). Explain the figure in some detail. By this, we mean do not just explain the changes in the diagram, but also state what components of the AD and AS curves are changing (if any), and in which direction.(4 marks)

(ii)Can the existence of a fiscal multiplier help the government in terms of its commitments to reach potential GDP level of output? Provide a brief example.(1 mark)