Fiscal policy — practice question

Study the source material closely before you answer Question 1. Source material: The difficulties facing the Tunisian government Tunisia fact file For several years, Tunisia ran a government budget deficit. From 2015 to 2020, the Tunisian government introduced reforms designed to cut the tax burden, depend more heavily on indirect taxes, and make the tax system more efficient and less costly. In addition to taxing a variety of goods, the Tunisian government also controls the prices of some products, such as flour and milk. State regulation of the price of flour and milk can help to lower poverty and stop monopoly firms using their market power to exploit consumers. The Tunisian government also provides subsidies for electricity production. The subsidy changes the cost of producing electricity, and any change in the price of electricity affects the costs faced by other firms. This kind of public spending can help ease inflationary pressure, but it can also reduce the efficiency of electricity production. Although some firms gain from the subsidy on electricity production, they also go through periods when their other production costs rise. Tunisian shoe manufacturers have recently faced higher wage costs and a fall in the number of workers they employ. The average wage paid to Tunisian workers and the Tunisian inflation rate changed between 2014 and 2020, as shown in Fig. 1.1. Fig. 1.1 is a line graph with the title: "Change in average wage and the inflation rate in Tunisia 2014-2020". The vertical axis is labelled: "Percentage (%)" and extends from 0 to 9. The horizontal axis is labelled: "Year" and includes 2014, 2015, 2016, 2017, 2018, 2019 and 2020. The key shows a solid line labelled: "Change in average wage" and a dashed line labelled: "Inflation rate". Unemployment has been a long-standing issue in Tunisia. In 2020, the government introduced a law that guaranteed public-sector jobs for workers who had been unemployed for ten years or longer. To cut the time workers spend moving from one job to another, it improved the labour market information available to workers and employers and did not increase unemployment benefit in line with inflation. Tunisia’s foreign exchange rate moved around during 2020. This influenced the prices of the country’s exports and imports. It also affected the current account of its balance of payments, economic growth, inflation and unemployment.