Question

Take the expectations into account and discuss the effects of a budget deficit reduction. Would a deficit reduction be meaningful in case of an oil shock? Discuss.

Answer 1

Answer: The effects of a budget deficit reduction:

• whenever the govt spends more money than it brings. this imbalance called a budget deficit. now if govt. reduces budget deficit, it means govt. has cut down spending, increase taxes, achieve faster economic growth.
• budget deficit reduction increases govt. revenue which leads to sustainable growth and increases confidence in the govt.

Deficit reduction would meaningful in case of oil shocks:

• Oil is a very important commodity as it contributes to the energy sector. it is the largest internationally traded commodity and its price is a significant driver of the global economy.
• The price of energy-intensive goods and services is linked to the energy process of which oil is the single most important share.
• Now if govt. tries to reduce budget deficit during oil shocks increase direct and indirect it may lead to inflation and less demand which slows the process of economic growth.
• oil shocks may dampen investor sentiment which in turn negatively impacts exploration and production activities.