Public spending and taxes

Make a list of six things paid for with public money that you have used this month (secondary school, the local health clinic, street lighting, the library, the park, the police) and explain what would happen if each was paid for directly per user: who could afford secondary school or an operation?

The State budget works like that of a giant house: on one side the revenue (taxes and contributions), on the other the spending (healthcare, education, pensions).

1. a) Explain what happens if it spends more than it takes in (a deficit: it has to borrow) and if it takes in more than it spends (a surplus).
2. b) Compare it with your own monthly budget: what do you do when your expenses exceed your pocket money?

The Town Council of Villalba closes its annual budget with the following figures:

• Current and investment expenditure: $10$ million euros (street lighting, street cleaning and waste collection, local police, municipal social services, culture, and interest on previous debt).

• Tax revenue and municipal fees: $9,2$ million euros.

1. a) Determine the budget balance of the town council and interpret its economic meaning. Analyze what immediate avenues the local government has to finance this difference in the short term and what financial consequences each will entail in future financial years.
2. b) A municipal group proposes a generalized cut of $10\ \%$ in local taxes, arguing that "the cut will boost the economy and will not affect services". Calculate the new budget gap assuming that expenditure remains unchanged and technically refute the viability of this proposal in the short term.
3. c) Design a two-phase fiscal adjustment plan to balance the accounts without leaving the most vulnerable citizens unprotected: combine one revenue-side measure and one expenditure-side measure, justifying their equity and efficiency.

Direct taxes tax what you earn or own; indirect taxes tax what you spend. Classify these taxes as direct or indirect: (a) income tax (IRPF) deducted from a payslip; (b) VAT on a video game; (c) Corporation Tax, paid by a company on its profits; (d) VAT on bread; (e) road tax for a car. Then explain the difference in your own words.

A games console costs $350\ \text{€}$ excluding VAT, and the standard rate for this tax is $21\ \%$.

1. a) Calculate how many euros of VAT are paid and the final price of the console.
2. b) In another shop, the same console displays $423,50\ \text{€}$ with VAT already included: calculate what portion of that price is VAT.

Two families from the same city have the following monthly income and consumption patterns:

• Family A: Net income of $1.200\ \text{€}$. Allocates $1.100\ \text{€}$ to consumption ($700\ \text{€}$ on goods with a standard VAT of $21\ \%$ and $400\ \text{€}$ on basic food subject to the super-reduced VAT of $4\ \%$) and saves $100\ \text{€}$.

• Family B: Net income of $5.000\ \text{€}$. Allocates $2.500\ \text{€}$ to consumption ($2.000\ \text{€}$ on goods at $21\ \%$ and $500\ \text{€}$ on food at $4\ \%$) and saves $2.500\ \text{€}$.

1. a) Calculate the total amount each family pays in VAT and calculate the effective tax burden (the percentage that the VAT paid represents relative to each household's total income).
2. b) Based on your calculations, rigorously demonstrate whether VAT behaves as a regressive, proportional, or progressive tax with respect to household income.
3. c) To combat inflation, the Government is considering two options: temporarily eliminating VAT on basic food for the entire population or keeping the tax and granting a direct monthly transfer of $60\ \text{€}$ to families with incomes below $1.500\ \text{€}$. Evaluate both alternatives in terms of redistributive justice and cost to public finances.

An imaginary tax operates in bands: $10\ \%$ is paid on the first $1.000\ \text{€}$ of monthly salary, and $20\ \%$ on anything above $1.000\ \text{€}$. Ana earns $900\ \text{€}$ per month and Berto, $2.000\ \text{€}$.

1. a) Calculate how much each person pays per month.
2. b) Calculate what percentage of their total salary each person pays and explain why this tax is called progressive.
3. c) Compare this with a flat-rate (proportional) tax of $15\ \%$ for everyone: who would win and who would lose?

In the country of Tributania, income tax has two brackets: the first $12.000\ \text{€}$ a year is taxed at $10\ \%$ and anything above that, at $25\ \%$. Nora earns $10.000\ \text{€}$ a year and Pablo, $20.000\ \text{€}$.

1. a) Calculate how much each one pays (careful: Pablo pays $10\ \%$ on his first $12.000\ \text{€}$ and $25\ \%$ only on the rest).
2. b) Calculate the average rate each one pays on their total salary.
3. c) Explain why the system is progressive even though Pablo doesn't pay $25\ \%$ on his whole salary.

In Equilandia there live three families: A earns $1.000\ \text{€}$ a month, B, $2.000\ \text{€}$, and C, $5.000\ \text{€}$. Two systems are compared: (1) a proportional tax of $20\ \%$ for everyone; (2) a progressive tax: $10\ \%$ up to $1.500\ \text{€}$ and $30\ \%$ above that.

1. a) Calculate how much each family pays in each system.
2. b) Calculate each family's average rate in the progressive system.
3. c) Analyse which system redistributes more and defend which you would choose for a country with a lot of inequality, with an economic argument and one of justice.

Besides taxes, workers and companies pay Social Security contributions.

1. a) Explain what you get in exchange for contributing: public healthcare, unemployment benefit, the future retirement pension and sick or maternity leave.
2. b) Give an example of each benefit in a family you know, real or made up.

Here is the simplified payslip for Teo's mother: gross salary $1.400\ \text{€}$, Social Security contributions $95\ \text{€}$, income tax (IRPF) withholding $140\ \text{€}$.

1. a) Calculate the net salary, the amount that actually enters the bank account.
2. b) Explain what the contributions are used for (unemployment, pensions, healthcare) and what the income tax withholding pays for.
3. c) Her work colleague earns the same gross salary but has $180\ \text{€}$ withheld for income tax: give a possible explanation (family situation, number of children) and calculate the difference in net salary between them.

Samira's first payslip: gross annual salary of $15.400\ \text{€}$ in $14$ payments, with $6,35\ \%$ in Social Security contributions and an $8\ \%$ income tax withholding.

1. a) Calculate the monthly gross.
2. b) Calculate the approximate monthly deductions and the net amount that will reach her bank.
3. c) Explain the difference between gross and net, and why, when negotiating a salary, you must always ask about the annual gross.

An economic commentator argues on television: "If the State raises tax rates by $30\ \%$, tax revenue will automatically increase by that same percentage".

1. a) Refute this statement relying on the Laffer curve theory. Explain how tax bases (labor supply, investment, and consumption) react when the tax burden exceeds a certain critical threshold.
2. b) Consider the fuel tax: initially, the tax rate is $0,40\ \text{€}$ per liter and $10$ million liters are sold per month. The State increases the rate to $0,70\ \text{€}$ per liter, which causes sales to fall to $5$ million liters due to the use of public transport and reduced travel. Calculate the revenue before and after the reform and interpret the economic outcome.
3. c) Predict what unforeseen consequences (tax relocation, proliferation of the shadow economy, or tax avoidance) may arise if a country maintains tax rates substantially higher than those of its neighboring countries.

In a region, it is estimated that about a third of plumbing, masonry, and repair services are carried out without an invoice ("under the table"). A self-employed worker charges $1.200\ \text{€}$ plus VAT ($21\ \%$) for an installation, but offers the client to do it for $1.100\ \text{€}$ in cash without issuing an invoice.

1. a) Analyze the immediate incentives for both to evade taxes and demonstrate the hidden costs or damages that this practice generates in the medium and long term on three fronts: the social protection of the worker themselves, the viability of law-abiding businesses, and the quality of essential public services.
2. b) Compare two measures to combat this situation:

• Measure 1: Ban cash payments for any professional transaction over $500\ \text{€}$.

• Measure 2: Allow individuals to deduct $15\ \%$ of home renovation expenses on their personal income tax (IRPF), provided they present an official invoice.

Evaluate which of the two measures more effectively encourages voluntary compliance and foresee what drawbacks or inspection costs each presents.

1. c) Argue why a high volume of tax evasion ultimately forces the State to increase the tax burden on taxpayers who do pay.

A country's economy unexpectedly enters a recession: GDP drops by $2,5\ \%$ and the unemployment rate rises from $12\ \%$ to $16\ \%$. Without the Government amending any tax laws or deciding on new spending programs, public accounts shift from being in balance to running a deficit of $5\ \%$ of GDP.

1. a) Explain in detail the functioning of the automatic stabilizers that account for this budget trend: analyze what happens spontaneously to personal income tax (IRPF) and VAT revenues, as well as to spending on social transfers.
2. b) Two economic perspectives debate the appropriate response to this scenario:

• Position A (budgetary austerity): cut public spending immediately to close the deficit and meet fiscal stability targets.

• Position B (countercyclical stimulus): sustain public spending through borrowing to revive aggregate demand.

Predict the short-term repercussions of implementing position A on consumption and unemployment, and take a reasoned stance justifying what risks position B also entails if public debt was already high.