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Fiscal Policy Fact Sheet
What is fiscal policy?
Changing the levels of public spending and taxation in order to affect aggregate demand.
Expansionary Fiscal Policy
During a recession, it can help the economy to recover, reducing unemployment and increasing
output by boosting aggregate demand as a result of increasing public spending or lowering
Government spending is a component of AD and so increasing it will increase Aggregate
Demand alongside cutting taxes on incomes and firms` profits. By doing so, people end up with
more money to spend as the level of demand creates jobs and boosts output.
Deflationary fiscal policy
Attempts to lower demand and demand pull inflation by cutting public spending as well as
raising taxes. This may reduce employment and reduce growth as AD is being lowered.
Criticising Fiscal Policy
Difficult for government to work out exactly when, how much to increase/decrease public
spending, or cut/raise taxes.
If demand rises too quickly compared to supply,
demand-pull inflation can occur as could raising taxes too
much which may heighten unemployment.
If taxes are too high, people and firms work less affecting
productivity and lessening output. A fall in productivity
raises firms' costs and firms become devoid of quality of
their product against overseas competitors. Demand for
their goods/services will decrease and cause a rise in
Workers may begin to fear the future of goods' prices
and so demand higher wages. The rise in wagers increases
production costs, reduces the demand for labour and
causes cost-push inflation alongside rising unemployment.
Expansionary fiscal policy will increase the budget deficit due to the fall in taxes and
increase in public spending. In the future this will mean higher taxes.