Download Exercise: How Should the Government Spend Your Taxes HERE (354.4 KB)
Download Answer Key:  HERE (178.3 KB)

Summary

Governments impose taxes for many reasons. The foremost reason is to generate revenues that the government can spend on public goods and services, such as national security, that meet the needs of their society. Governments also raise taxes (or provide subsidies) to influence the decisions of individuals and industries. For example, some governments subsidize nascent industries like solar energy, or impose “sin” taxes to discourage people from buying cigarettes.

The government budget balance is the difference between government tax revenue and government spending. Either a change in tax revenues or a change in spending  lead to a change in the government budget balance. Some governments are free to run budget deficits or surpluses as needed when revenues are more or less than their expenditures.  Other governments are constrained by parliamentary oversight from borrowing or saving, so they must adjust their spending to maintain a targeted  budget balance. And sometimes, revenue from taxes designed to influence individual behavior, such as cigarette taxes, are rebated back to taxpayers in some way. The rebate leaves consumers with the same income as before, so the tax does not add to government revenue. These different ways for the government to handle its tax and spending decisions mean that the same tax can have different effects on an economy, depending on what the government does with its tax revenue.

In this model exercise, we examine how the same change in a tax rate can have different impacts on the economy depending on which of three alternative ways the government spends and saves tax revenue.  This exercise uses the US333 database in the UNI-CGE model.