Fiscal policy notes
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Fiscal policy involves the Government changing the levels of Taxation and Government spending in order to influence Aggregate Demand (AD) and therefore the level of economic activity.
Automatic Fiscal Stabilisers
- If the economy is growing, people will automatically pay more taxes ( VAT and Income tax) and the Government will spend less on unemployment benefits. The increased T and lower G will act as a check on AD.
- In a recession the opposite will occur with tax revenue falling but increased government spending on benefits, this will help increase AD
Deflationary (or tight) Fiscal Policy
- This involves trying to decrease AD.
- Therefore the govt will cut govt spending (G); and or increase taxes. Higher taxes will reduce consumer spending (C).
- This will lead to an improvement in the government budget deficit
Expansionary (or loose) Fiscal Policy
- his involves trying to increase AD.
- Therefore the govt will increase spending (G) and / or cut taxes. Lower taxes will increase consumers spending because they have more disposable income(C)
- This will increase the government's budget deficit.
Discretionary Fiscal Stabilisers
This is a deliberate attempt by the govt to affect AD and stabilise the economy, e.g. in a boom the govt will increase taxes to reduce inflation
When government spending fails to increase overall aggregate demand because higher government spending causes an equivalent fall in private sector spending and investment.
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