IGCSE Economics Paper-2: Specimen Questions with Answers 63 - 64 of 100

Passage

“In developing countries, in contrast, inflation is not purely a monetary phenomenon. Factors typically related to fiscal imbalances, driving higher money growth and exchange rate depreciation, dominate the inflation process in developing countries.”

Question 63 (2 of 5 Based on Passage)

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Short Answer▾

What is the effect of tax on budget?

Explanation

  • If there is a tax cut it can slow down the economic growth in the long-run by increasing budget deficits and vice versa. The government borrows finance by diverting some capital that would have gone to private investment when the economy is operating near potential. Government finances its borrowing either this way or by borrowing from foreign investors.

Government borrowing thus,

  • Either increases the private investment by reducing future productive capacity relating to what it could have been,
  • Or it reduces the future income from that investment.

In both the ways deficits can reduce future well-being of the residents.

The effects of tax policies in the long-run thus depend not only on their incentive effects but also on their budgetary effects. If marginal tax rates are reduced on individual incomes, for example, the long-run effects of taxes can be either positive or negative. It depends on the resulting impacts on saving and investments.

A Tax Incentive Refers

Question 64 (3 of 5 Based on Passage)

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State the key differences between direct and indirect tax.

Explanation

Key Differences between Direct and Indirect Tax Are

  • Levied on: Direct tax is levied on individuals, Hindu undivided Families, firms, companies etc. In contrast to it, indirect tax is borne by the end-consumer of different goods and services.
  • Burden: In case of direct tax the burden of tax cannot be shifted while burden can be shifted in indirect taxes.
  • Tax evasion: Tax evasion is possible due to lack of administration in collection of direct taxes, while taxes cannot be evaded as it is charged on goods and services in indirect taxes.
  • Inflation: Direct tax can curb inflation, while indirect tax may increase inflation.
  • Effect: Direct tax put fewer burdens through the collection of tax amount rather than indirect taxes, where collection is distributed across various parties and consumers.
  • Inequalities: Direct tax reduces inequalities in the country and is progressive whereas, indirect tax enhances inequalities and is regressive.
  • Administrative cost: Direct tax in comparison to indirect taxes involves greater administrative costs as it has many exemptions.
Direct and Indirect Taxes

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