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IAI Actuarial Core Principles · Business Economics · Impact of macroeconomic policies on businesses

Which feature best describes an automatic stabiliser in fiscal policy, and how does it affect a firm during a recession?

An automatic stabiliser is a change in tax and transfer flows that happens without new legislation. In a recession, lower tax receipts and higher transfers cushion the fall in household disposable income, so demand for firms' products declines less sharply.

  1. AA discretionary stimulus package announced in the Budget, which raises demand for the firm's products
  2. BA change in tax and transfer receipts that occurs without new legislation, cushioning falls in household income and so demand for the firm's productsCorrect
  3. CA rise in interest rates by the central bank to protect the exchange rate
  4. DA rule requiring firms to hold higher reserves during downturns
  5. A government sale of assets to reduce the debt

Explanation

Automatic stabilisers, such as progressive income tax and unemployment-related transfers, adjust with the cycle without fresh decisions. In a recession tax receipts fall and transfers rise, softening the drop in disposable income and in demand. A Budget stimulus is discretionary, not automatic.

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