Answer to Question #89911 in Microeconomics for BRENDA

Question

Explain the difference between expansionary and contractionary fiscal policy. Be certain to explain, why, why and each policy is used.

Answer 1

Fiscal policy is a strategy that governments use with the aim of influencing and monitoring the economy. The focus of any fiscal policy is to adjust tax rates and spending levels leading to increase or decrease in circulation of money. A fiscal policy can be expansionary or contractionary depending on how the government seeks to influence the economy. Expansionary fiscal policy focus on increasing the flow of money into the economy and this can be done through economic stimulus that may involve decrease in tax or increase in government initiated spending programs. On the other hand, contractionary fiscal policy involves the formulation of policies that lead to a decrease in circulation of money into an economy. This may involve a decrease in government spending and an increase in taxes. In conclusion, expansionary fiscal policy is used when there is a need to stimulate a stagnant economy while contractionary fiscal policy seeks to reduce economic activities in a vibrant economic situation with a decrease in money supply.