AQA A-level Economics: Budget balance, national debt and deficits (7136) – Practice Questions

These are original questions written for Marlbridge, for revision and practice on this content. They are not reproduced past-paper questions, and they do not replicate the exam’s exact structure, question count or mark tariffs – examination boards hold copyright in their own papers. Use these alongside the official past papers from your board or school.

These questions cover the budget balance, national debt, cyclical and structural balances, consequences, the Office for Budget Responsibility and rebalancing in AQA A-level Economics (7136), specification version 1.3, section 4.2.5.1 (3.2.5.1 on the AQA website). Every country and figure is invented and illustrative. Read the study guide and revision notes first. Course pages: AQA A-level Economics hub, checklist and free diagnostics. Show your working.

Questions

1. Distinguish between a budget deficit and the national debt. [2]

2. In Country D government revenue is 640 and total spending is 700. GDP is 2,000 and opening debt is 1,400.

(a) Find the budget balance and express it as a percentage of GDP. [2] (b) Calculate the closing national debt. [1]

3. In Country G actual output is 1,800 and potential output is 2,000. Each unit of output gap raises the deficit by 0.35 through lower taxes and higher benefit payments. The deficit is 100. Calculate the cyclical and structural deficits and state what the result implies for policy. [4]

4. Explain why a budget deficit tends to widen in a recession even if the government changes no policy. [4]

5. Explain two possible consequences of a persistent budget deficit for macroeconomic performance. [6]

6. Country E has debt of 1,800, GDP of 2,000 and a deficit of 40. Nominal GDP then grows by 5%. Calculate the debt-to-GDP ratio before and after, and explain why it fell although the debt rose. [5]

7. Explain the role of the Office for Budget Responsibility. [4]

8. In Country A the rates of saving, tax and imports are 0.10, 0.15 and 0.15. The government cuts spending by 20. Calculate the multiplier, the fall in income, the change in tax revenue and the net improvement in the budget balance. [5]

9. Explain two possible consequences of a budget surplus for macroeconomic performance. [6]

10. In Country S the deficit is 5% of GDP. Output is 4% of GDP below potential and unemployment is high. Each unit of output gap raises the deficit by 0.30. The government proposes to close the deficit by cutting spending. Evaluate this proposal and the alternatives. [12]

11. Country H has debt of 110% of GDP, pays 1.5% interest, has nominal growth of 3.5%, and its debt is held mainly by domestic savers in its own currency. Country J has debt of 55% of GDP, pays 6% interest, has nominal growth of 2%, and 40% of its debt is held abroad in foreign currency. Assess which country’s national debt is more significant. [9]

Answers

1. The deficit is the amount by which spending exceeds revenue in a period, a flow [1]. The national debt is the total accumulated borrowing outstanding at a point in time, a stock, to which each deficit adds [1]. [2] Examiner insight: A definition of each plus the link between them is what completes the answer; two definitions with no contrast leave the point unmade.

2. (a) Balance = 640 - 700 = -60, a deficit of 60 [1]. 60 / 2,000 = 3.0% of GDP [1]. (b) 1,400 + 60 = 1,460 [1]. Examiner insight: State the sign or the word deficit; a bare 60 hides whether you know which way the balance points.

3. Output gap = 2,000 - 1,800 = 200 [1]. Cyclical = 0.35 x 200 = 70 [1]. Structural = 100 - 70 = 30 [1]. Most of the deficit would fade if output recovered, but 30 remains, so lasting action on spending or revenue is needed [1]. [4] Examiner insight: The last mark in an answer like this tends to go to a policy implication tied to the numbers; stopping at 30 leaves the calculation unused.

4. Output and incomes fall, so receipts from income tax, corporation tax and spending taxes fall [1]. More people become unemployed and claim benefits, raising spending [1]. Revenue falls and spending rises with no new decision (automatic stabilisers) [1]. This cushions the fall in aggregate demand but widens the deficit [1]. [4] Examiner insight: Work credit comes from the full chain, with both revenue and spending named; saying only that the government spends more suggests a decision, not an automatic effect.

5. Any two, each with a developed chain worth three marks: (i) Higher aggregate demand: borrowing finances more spending or lower taxes, AD rises, and with spare capacity real output grows and cyclical unemployment falls; near full capacity prices rise instead [3]. (ii) Crowding out: government borrowing raises demand for loanable funds, interest rates rise, private investment falls, so the growth of potential output may be slower [3]. Other acceptable chains: a wider current account deficit as higher AD pulls in imports; rising interest payments that take funds from other spending; a rise in supply if the borrowing funded investment. [6] Examiner insight: Each consequence tends to earn most when it runs from cause to a named macroeconomic variable; a list of effects with no links tends to earn little.

6. Before: 1,800 / 2,000 = 90.0% [1]. After: debt = 1,800 + 40 = 1,840 [1] and GDP = 2,000 x 1.05 = 2,100 [1], so ratio = 1,840 / 2,100 = 87.6% [1]. Debt grew by only 2.2% while nominal GDP grew by 5%, so the denominator rose faster [1]. [5] Examiner insight: Calculate with the new GDP; dividing the new debt by the old GDP gives 92.0%, the wrong direction for the explanation.

7. It is an independent body, so its analysis is outside the government’s control [1]. It produces economic and fiscal forecasts for Budget announcements [1]. It assesses whether the government is on course to meet its fiscal targets [1]. It also scrutinises policy costings, and assesses long-term sustainability and fiscal risks [1]. It does not set tax or spending policy. [4] Examiner insight: Answers gain from naming roles in context and from saying what the OBR does not do; “it advises the government” alone is too thin.

8. Withdrawal rate = 0.10 + 0.15 + 0.15 = 0.40 [1]; multiplier = 1 / 0.40 = 2.5 [1]. Income falls 20 x 2.5 = 50 [1]. Tax revenue falls 0.15 x 50 = 7.5 [1]. Net improvement = 20 - 7.5 = 12.5 [1]. [5] Examiner insight: The multiplier is the reciprocal of all three withdrawals; using only saving gives 10 and a very different answer throughout.

9. Any two, each with a developed chain worth three marks: (i) Lower demand: revenue exceeds spending, so money is withdrawn from the circular flow, AD is lower, which reduces inflationary pressure when the economy is overheating but raises unemployment in a weak economy [3]. (ii) Debt repayment: the surplus reduces the debt, interest payments fall and this releases funds for later tax cuts or investment, and may lower interest rates, raising investment [3]. [6] Examiner insight: Stating when the effect applies (overheating against slump) is the difference between description and analysis.

10. Cyclical deficit = 0.30 x 4% = 1.2% of GDP [1]; structural = 5% - 1.2% = 3.8% of GDP [1]. Cutting spending: reduces AD; output is already below potential, so growth slows and unemployment rises [1]; the multiplier means tax receipts fall and benefits rise, so the deficit falls by less than the cut [1]. Cuts to capital or education spending can reduce future supply [1]. Tax rises: reduce disposable income and AD [1], but the first-round fall in spending is smaller than for a spending cut of the same size; incentives may weaken [1]. Alternative: wait for growth to remove the 1.2% cyclical part and act only on the structural 3.8% [1]. A credible plan may reduce borrowing costs and confidence effects may offset the demand loss [1]. Timing: phase measures in as the output gap closes [1]. Judgement: cutting hard now treats a cyclical problem as a structural one; the better approach is a gradual, credible plan aimed at the structural part, with the form of tightening chosen to protect investment [2]. [12] Examiner insight: The strongest answers use the cyclical and structural split and the state of the cycle to reach a reasoned view; generic listing of austerity pros and cons tends to earn less.

11. Interest cost as a share of GDP: H = 1.5% x 110% = 1.65%; J = 6% x 55% = 3.3% [2]. H pays less than its growth rate (1.5% against 3.5%), so its ratio can fall; J’s rate is above its growth (6% against 2%), so its ratio tends to climb [2]. H’s debt is domestic and in its own currency, so it avoids exchange rate risk and interest stays in the economy; J’s foreign-held, foreign-currency debt exposes it to currency falls and lenders’ confidence [2]. The high ratio in H still matters: it limits room in a shock, and a rise in interest rates would feed in as old debt is refinanced, especially if maturity is short [1]. Judgement: J’s smaller debt is the more significant problem [1] because rate, growth, holders and currency matter more than the ratio [1]. [9] Examiner insight: A comparison that reaches a judgement from several tests tends to outperform one that only says a ratio is high or low.

Where marks are usually lost

• Giving a deficit figure with no sign, units or percentage of GDP.
• Mixing up the budget deficit (flow) and the national debt (stock).
• Dividing new debt by old GDP when asked for a ratio after growth.
• Using only the saving rate as the multiplier, or forgetting the tax recouped after a cut.
• Describing consequences with no chain of reasoning or no named macroeconomic variable.
• Treating all deficits as the same, with no cyclical or structural distinction.
• Calling a debt large or small without comparing interest and growth.
• Describing the OBR as setting policy or taxes.
• Evaluation that lists “advantages and disadvantages” with no judgement about circumstances.

Next steps

• Review the revision notes and the study guide.
• Visit the AQA A-level Economics hub and the checklist.
• Take the free 10-minute diagnostics.
• Book a free trial class.

Official syllabus

AQA AS and A-level Economics specification (7135 and 7136), version 1.3, 29 June 2022, published by AQA. These questions follow the A-level content in section 4.2.5.1.