To assist the economy in achieving its objectives of expansion, level of employment, and price stability, the government is taking several measures. It exploits its power of taxing and spending through fiscal policy and exercises its authority to control the money supply and the level of interest rates through monetary policy (Mankiw, 2018). Taxation and public expenditure both have the power to alter an economy’s total money supply. At the same time, the government implements monetary policy to manage interest rates and the money supply (Bassetto & Sargent, 2020). Overall, these two policies are key features of stabilizing or stimulating a country’s economy.
Traditionally, the major objective of monetary and fiscal policy is to foster an environment where growth is steady, and inflation is low. The objective is primarily to guide the economy away from an economic boom that may be followed by periods of negative growth (Bassetto & Sargent, 2020). Therefore, it is appropriate to use both monetary and fiscal policy in crises or during unstable global situations. For example, shocks like increases in the price of oil or global wars frequently have an impact on the economy (Mankiw, 2018). On the other hand, in a steady economic climate, the use of monetary or fiscal policies can be inappropriate and alter the economic balance. There are several instances where government fiscal and monetary policies have accelerated economic development, which has had disastrous long-term implications.
Several important components and techniques of fiscal policy are used to increase aggregate demand. This can be accomplished by lowering personal income taxes and increasing consumption. Another crucial approach is to increase investment by lowering corporate taxes (Bassetto & Sargent, 2020). As an alternative, the government may boost federal aid to local governments, encouraging them to spend more on products and services. These tools are useful when considering an expansionary fiscal policy to stimulate the recessing economy.
Using several expansionary tools, monetary policy also boosts overall demand. Reduced interest rates and acquiring securities through open market operations are the main of them (Mankiw, 2018). This is done primarily to encourage spending and investment. Government money creation reduces interest rates, boosts the number of goods and services, and alters aggregate demand (Bassetto & Sargent, 2020). In general, monetary policy changes can be viewed as either a change in the money supply or a change in the target interest rate.
Whether fiscal or monetary policy should be employed to stabilize the economy and aggregate demand is a topic of much discussion. The ongoing use and updating of fiscal and monetary policy are encouraged by proponents of an active and expansionist strategy. They believe it will either encourage growth when the economy begins to slow down or stifle it when the economy is overly efficient. To maintain aggregate demand, the government must refrain from causing economic turbulence and react to changes in the private economy (Bassetto & Sargent, 2020). On the other hand, some contend that fiscal and monetary policies cause the economy to become unstable. Those who oppose the use of monetary and fiscal policy contend that changes in the economy should be left to the economy’s resources (Mankiw, 2018). In my opinion, it is necessary to stimulate the economy to some extent since letting it into free flow is too dangerous in the modern world. However, fiscal and monetary policies employed should be corrective and easily reversible.
Bassetto, M., & Sargent, T. J. (2020). Shotgun wedding: Fiscal and monetary policy. National Bureau of Economic Research.
Mankiw, N. G. (2018). Principles of Macroeconomics. Boston: Cengage Learning.