Fiscal Policy

Statement

Fiscal policy is the use of government expenditure and taxation to influence the level of aggregate demand in an economy.

• Automatic stabilisers (non-discretionary fiscal policy) are in-built features of the tax and transfer system that operate automatically to smooth out cyclical fluctuations in aggregate demand, without deliberate government intervention.
• Discretionary fiscal policy is fiscal policy deliberately enacted by the government to achieve its macroeconomic goals.
• Expansionary fiscal policy is a rise in government expenditure and/or a cut in taxes to increase aggregate demand.
• Contractionary fiscal policy is a cut in government expenditure and/or a rise in taxes to reduce aggregate demand.
• Austerity measures are fiscal policies that aim to reduce a government’s budget deficit through raising taxes and reducing government expenditure.

Notes

These terms form one co-examined set: a question on fiscal policy turns on which instrument is moving and in which direction. The mechanism by which each shifts aggregate demand, and the limitations that qualify it, are set out in the fiscal policy concept. The distinction worth holding onto is that contractionary fiscal policy and austerity measures share the same instruments but differ in aim — the former curbs demand-pull inflation and excessive growth, the latter reduces a budget deficit. The revenue and expenditure instruments themselves are catalogued in public finance.