Description
Fiscal Policy
Fiscal policy refers to the changes in government’s choices regarding the overall level of government spending and taxes to influence the behavior of the economy. Fiscal policy can expand or contract aggregate demand. The government sometimes uses the fiscal policy instruments in an attempt to stabilize the economy. Under a recession, an expansionary fiscal policy is adopted, which involves lowering taxes and/or increasing government spending. In an overheated expansion with an inflationary pressure, a contractionary fiscal policy is utilized, which requires higher taxes and/or reduced government spending. Economists and policymakers disagree about how active the government should be in these fiscal policy efforts.
The Federal Reserve is responsible for regulating the U.S. monetary system and setting monetary policy. Monetary policy refers to what the Federal Reserve does to influence the amount of money and credit in the U.S. economy. Policy instruments that affect the quantity of money and credit affect interest rates (the cost of credit) and the performance of the U.S. economy.
The Federal Reserve’s three instruments of monetary policy are open market operations, the discount rate and reserve requirements. The Fed controls the money supply primarily through open-market operations.
Board of Governors of the Federal Reserve System. (n.d.). Retrieved from http://www.federalreserve.gov/
What are the expansionary and contractionary monetary and
fiscal policies? What are their policy instruments? How are they used to deal with the inflationary gap and recessionary gap? Which do you think is more appropriate today?
Should the tax laws be reformed to encourage saving? Do you think consumption tax is better than income tax?
If the Fed wants to increase aggregate demand, it can increase the money supply. If it does this, what happens to the interest rate and rate of inflation? Why might the Fed choose not to respond in this way?
