Question

What would be appropriate fiscal ( expansionary or contractionary ) policy for our economy right now? and why?

Answer 1

Fiscal policy is the use of government spending and tax policies to control the economy's trajectory over time. Automatic stabilizers, which we heard about in the last section, are a passive form of fiscal policy, because Congress does not need to take any further action once the mechanism is developed. At the other hand, discretionary fiscal policy is an aggressive monetary policy using expansive or contractionary policies to speed up or slow down the economy.

Expansionary fiscal policy comes about when Congress decides to cut tax rates or increase government spending, moving the aggregate demand curve to the right. Contractionary fiscal policy comes about when Congress increases tax rates or cuts government spending, moving aggregate demand to the left.

Expansionary fiscal policy raises the amount of aggregate demand, either by increased government spending or tax cuts. Expansionary policies will do so by: increasing demand by raising disposable income by lowering personal income taxes or payroll taxes; increasing spending by raising after-tax profits by lowering corporate taxes; and increasing government expenditures by increasing the federal government's expenditure on final products and services, and raising federal grants to city and local government

The preference of using tax or spending instruments also has a political tinge. Conservatives and Republicans prefer, as a general rule, to see expansionary fiscal policy followed by tax cuts, while Liberals and Democrats tend to pursue expansionary fiscal policy by increases in spending. According to the Congressional Budget Office, the Obama administration and Congress passed an expansionary $830 billion package in early 2009 that included both tax cuts and government spending increases. However, state and local governments, whose budgets were also hit hard by the recession, started slashing their spending on a strategy that balances expansionary federal policies.