Fiscal and Monetary Policies

Essay by regis2005University, Master'sA+, May 2006

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Fiscal and monetary policies focus on quickly returning the economy to sustainable, healthy growth. Any type of fiscal relief package will boost consumer and business spending and can augment the nation's long-term growth potential. Expansionary monetary policy can stimulate growth and provide insurance against the possibility of deflation.

Both fiscal and monetary policies affect aggregate demand. But because discretionary fiscal policy changes in the U.S. are often difficult to enact in a timely fashion, automatic fiscal stabilizers and discretionary monetary policies are commonly viewed as the primary policy tools for macroeconomic stabilization. However, there are situations in which monetary policy might be unable to stimulate the economy, and discretionary fiscal policy would be needed to combat a recession. In the face of a recession, central banks reduce interest rates, but no central bank can lower interest rates below zero.

Fiscal policy, the taxing and spending policies of the federal government, also has the potential to influence economic conditions.

Throughout 2002-2004, I remember all the debates made in Congress about what to do with spending and taxes in order to stimulate spending. Taxes were lowered and spending increased. This debate is one of the key differences between fiscal and monetary policy. Fiscal policy is much more difficult to implement. However, fiscal policy, once adopted, is likely to have a faster effect on spending. Monetary policy decisions are much easier to institute and more responsive to economic conditions, but take longer to actually have an effect.

1. GDP growth is approximately 1.5%, and has been at approximately that level for two years.

The Gross Domestic Product (GDP) is the sum of good and services produced in the United States for a given period. It is an indicator of general business activity, economic growth and a good index for the economy. The...