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ABILITY-TO-PAY PRINCIPLE: A principle of taxation in which taxes are based on the income or resource-ownership ability of people to pay the tax. The income tax collected by our friends at the Internal Revenue Service is one of the most common taxes that seeks to abide by the ability-to-pay principle. In theory, the income tax system is set up such that people with greater incomes pay more taxes. Proportional and progressive taxes follow this ability-to-pay principle, while regressive taxes, such as sales taxes and Social Security taxes, don't.

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Lesson 14: Aggregate Supply | Unit 5: Connections Page: 18 of 20

Topic: Self-Correction <=PAGE BACK | PAGE NEXT=>

The aggregate market has a self-correcting mechanism that ensures the long-run full-employment equilibrium will be reached by itself, without government policies.

The predicament:

  • Long run means full employment and flexible prices.
  • Short run means price rigidity without full employment.
The automatic, self-correcting solution:
  1. Disequilibrium in the labor market exerts pressure on wages to correct the imbalance, even with wage rigidity.
  2. This automatically moves us from the short run to the long run and full-employment equilibrium.
The critical question: How long does the self-correcting mechanism take? Days? Months? Years?

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MANAGED FLEXIBLE EXCHANGE RATE

An exchange rate control policy in which an exchange rate that is generally allowed to adjust to equilibrium levels through to the interaction of supply and demand in the foreign exchange market, but with occasional intervention by government. Also termed managed float or dirty float, most nations of the world currently use a managed flexible exchange rate policy. With this alternative an exchange rate is free to rise and fall, but it is subject to government control if it moves too high or too low. With managed float, the government steps into the foreign exchange market and buys or sells whatever currency is necessary keep the exchange rate within desired limits. This is one of three basic exchange rate policies used by domestic governments. The other two policies are flexible exchange rate and fixed exchange rate.

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Today, you are likely to spend a great deal of time calling an endless list of 800 numbers trying to buy either a set of luggage without wheels or a how-to book on wine tasting. Be on the lookout for cardboard boxes.
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