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An Analysis Of Fiscal Policies: Types, Effects, And Limitations

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    An Analysis of Fiscal Policies: Types, Effects, and Limitations Describe the various fiscal policies used by the government the effects they have on the economy and the limitations of such policies Answer: The government use fiscal policy to influence the economy by its revenue collection and spending. Fiscal policies that try to increase output of the economy are known as expansionary policies. Fiscal policies intended to decrease output of the economy are known as contractionary policies. 1) Expansionary fiscal policy: This policy is used to encourage growth, either when the country is in recession or government is trying to prevent a recession. This can be achieved by two ways: a) Increasing government spending: Federal government increase its spending by buying more goods and services. It causes a chain of events that raises output and increase jobs. Increase in demand will lead to price rise. This will encourage producers to produce more which will result in higher productivity and more jobs. b) Cutting Taxes: If government decides to cut taxes people will have more money to spend which will trigger higher demand and that will cause price to rise. This will increase demand, output and prices. 2) Contractionary fiscal policy: This policy is used when government decides to slow down the economy. This is needed when the demand of the economy is more than the supply. This can be achieved by two ways: a) Decreasing government spending: If the government decides to buy less goods and services it will lead to decrease in aggregate demand. Decrease in demand will cause prices to fall. Lower prices will encourage suppliers to cut down their production. b) Increasing taxes: When government increase taxes individual has less money to spend on goods. This leads to decrease in demand and overall production. Limitations of fiscal policies: 1) Difficulty of changing spending level: Increasing or decreasing the amount of federal spending is not an easy task . As most of the spending is fixed and only a portion of budget can be adjusted for change in spending. Significant changes in federal spending come from small part that requires discretionary powers. This gives government less freedom in increasing or decreasing spending. 2) Predicting the future: Fiscal policy is used to prevent big changes in the GDP. Despite the available stati sti cs it is very difficult to tell the state of the economy. Predicting future economic performance is very difficult.

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