An economy has a proportional income tax at the rate of 0.2. The tabl…

An economy has a proportional income tax at the rate of 0.2. The table shows what happens in a boom and in a recession.

Change in GDP	Change in income tax (t = 0.2)	Change in disposable income
+100	+20	+80
−100	−20	−80

What does the table show?

Answer & explanation

Correct answer: option 4

The correct answer is Option (4) → Disposable income changes by less than GDP in both cases, so the income tax acts as an automatic stabiliser

In the table, GDP moves by 100 but disposable income moves by only 80, both up and down. The tax takes a share of every change, with no new decision. So it is an automatic stabiliser.

Option (1) The income tax makes the government expenditure multiplier larger than with a lump-sum tax — Incorrect. A proportional tax makes the multiplier smaller.

Option (2) Disposable income changes by less than GDP in both cases, so the income tax is a discretionary fiscal measure — Incorrect. The first part is right, but the tax works on its own. Discretionary policy is a deliberate action.

Option (3) The income tax is a lump-sum tax, since it changes by the same amount in both cases — Incorrect. A lump-sum tax does not depend on income. This tax rises and falls with GDP.

Option (4) Disposable income changes by less than GDP in both cases, so the income tax acts as an automatic stabiliser — Correct. Both parts hold.

NCERT (2026-27): “Box 5.1: Fiscal Policy … The proportional income tax, thus, acts as an automatic stabiliser – a shock absorber because it makes disposable income, and thus consumer spending, less sensitive to fluctuations in GDP. When GDP rises, disposable income also rises but by less than the rise in GDP because a part of it is siphoned off as taxes. This helps limit the upward fluctuation in consumption spending. During a recession when GDP falls, disposable income falls less sharply, and consumption does not drop as much as it otherwise would have fallen had the tax liability been fixed. This reduces the fall in aggregate demand and stabilises the economy. …”