Audience Analysis Paper

Fiscal and Monetary Policy

In the 1930s, the Great Depression started a recession and bank crisis, which is similar today; however, because of absence of government intervention, the recession evolved into a depression. Economists learned that both fiscal and monetary policies are important to prevent another depression.

Fiscal Policies

The government can use of revenue through taxation and purchases to achieve its macroeconomic policy objectives. Expansionary fiscal policy entails government spending that exceeds tax revenue, and is undertaken during recessions. The government runs in a budget deficit and savings is negative. Contractionary fiscal policy involves government spending that lower than tax revenue, and is undertaken to lower government debt.

Expansionary Fiscal Policy

During a recession, consumers tend to save, and businesses produce and sell fewer amounts of goods and services. The effect is lower real GDP and higher unemployment. The government can boost its purchases of goods and services to increase the level of demand and help the economy. Consumption spending also increases due to high employment rate, which increases real GDP.

Cutting taxes increases disposable income on consumers and businesses, which they can use to spend on goods and services, and new investment, which stimulates the economy.

Contractionary Fiscal Policy

The three types of contractionary fiscal policy actions include: reduction of government purchases, increasing taxes, and reducing transfer payments. When government spending is reduced, funding allocated to the different government agencies is reduced. Reduced government spending lowers real GDP. Tax increases provide less disposable income to households and businesses because of higher tax payments. Transfer payments reduction such as social security cuts recipients' disposable incomes as well.

Monetary Policies

The Federal Reserve (Fed) can implement expansionary monetary policy by lowering required reserve ratio on banks, purchasing Treasury securities, and lower the discount rate, which lowers interest rates. Increased bank lending at the lower interest rates increases money supply. Growth in the money supply will affect aggregate demand and in turn, the economy. The Fed can attempt to change the economy by increasing or decreasing the growth rate of money supply. For instance if the Fed wants to reduce unemployment and increase real GDP, it will attempt to increase the money supply in an effort to reduce real interest rates. During inflation, the Fed can decrease the money supply to increase real interest rates.

With expansionary monetary policy, an increase in money supply lowers interest rates and shifts the aggregated demand curve outwards as businesses spend more at lower interest rates (University Phoenix, 2007). When money supply increases, and the AD curve shifts outward, excess demand results. A short-run output level above full employment puts upward pressure on prices. The short-run aggregate supply curve shifts upward as a result and settles at a long-run equilibrium at full employment and higher aggregate price level. On the hand, contractionary monetary policy yields the opposite effect.

Conclusion

Fiscal and monetary policy is related but also distinct concepts. The main distinction is between the agents who create the policy. The government sets monetary policy. Fiscal policy is mainly set by the government. Sound fiscal and monetary policies can help the economy run smoothly. With ups and downs in the economy, fiscal and monetary policies can be adjusted to fit what is best for the country. To understand how this works, understanding the basic concepts behind fiscal and monetary policies is necessary.

References

University of Phoenix. (2007). How Monetary Policy Influences Aggregate Demand [Multimedia]. Retrieved from University of Phoenix, ECO212-Principles of Economics website.

Fiscal and Monetary Policy

In the 1930s, the Great Depression started a recession and bank crisis, which is similar today; however, because of absence of government intervention, the recession evolved into a depression. Economists learned that both fiscal and monetary policies are important to prevent another depression.

Fiscal Policies

The government can use of revenue through taxation and purchases to achieve its macroeconomic policy objectives. Expansionary fiscal policy entails government spending that exceeds tax revenue, and is undertaken during recessions. The government runs in a budget deficit and savings is negative. Contractionary fiscal policy involves government spending that lower than tax revenue, and is undertaken to lower government debt.

Expansionary Fiscal Policy

During a recession, consumers tend to save, and businesses produce and sell fewer amounts of goods and services. The effect is lower real GDP and higher unemployment. The government can boost its purchases of goods and services to increase the level of demand and help the economy. Consumption spending also increases due to high employment rate, which increases real GDP.

Cutting taxes increases disposable income on consumers and businesses, which they can use to spend on goods and services, and new investment, which stimulates the economy.

Contractionary Fiscal Policy

The three types of contractionary fiscal policy actions include: reduction of government purchases, increasing taxes, and reducing transfer payments. When government spending is reduced, funding allocated to the different government agencies is reduced. Reduced government spending lowers real GDP. Tax increases provide less disposable income to households and businesses because of higher tax payments. Transfer payments reduction such as social security cuts recipients' disposable incomes as well.

Monetary Policies

The Federal Reserve (Fed) can implement expansionary monetary policy by lowering required reserve ratio on banks, purchasing Treasury securities, and lower the discount rate, which lowers interest rates. Increased bank lending at the lower interest rates increases money supply. Growth in the money supply will affect aggregate demand and in turn, the economy. The Fed can attempt