Question

Based on the taxing and spending cycle, how will changing expenditures affect taxes collected by the government?

Spending less will help lower prices, leading to an increase in tax revenue for the government.
Spending less will reduce services, leading to a reduction in tax revenue for the government.
Spending more will boost prices, leading to an increase in tax revenue for the government.
Spending more will increase services, leading to a reduction in tax revenue for the government.

Answer 1

Correct: 2 and 3.

Brief explanation:
- Cutting government spending reduces aggregate demand and often economic activity (and may cut public services). That typically shrinks the taxable base (lower incomes, profits, sales), so tax revenue falls.
- Increasing government spending raises aggregate demand and economic activity (and can push up nominal prices/incomes). That generally expands the taxable base and therefore raises tax revenue (also inflation can raise nominal collections unless taxes are fully indexed).

Caveat: the exact effect depends on the state of the economy, monetary policy, and how taxes are structured/indexed, but the basic taxing-and-spending cycle implies 2 and 3.