In contrast with other type of economic policies such as macroeconomic, monetary policy, fiscal policy is the utilization of government expenditure and revenue collection to stabilize the economy. Fiscal policy has been a key policy tool in addressing the aggregate demand consequences of the financial crisis in the United States. This suggests that government may use spending and taxation counter-cyclically to stabilize its economy especially in the wake of economic downturn. The effective fiscal policy helps governments overcome the volatile nature of economy as it affects the total gross domestic product.
The focus of fiscal policy is not on the deficit but on the change in deficit. Fiscal policy is usually designed to raise the demand for goods and services. The greater demand results in increases in output and prices. The extent to which higher demand augments output and prices depends conversely on the state of the business cycle.
If the economy reeling from recession, with unexploited productive capacity and jobless workers, then increase in demand will possibly create more output without affecting the price level. On the contrary, with the economy at its bloom, a fiscal expansion is most likely to affect the prices more than total output.
In the context of United States, the recent deal to expand the Bush tax cuts, cut payroll taxes and extend unemployment benefits, it may seem like Washington does not care quite as much about the deficit as some politicians have let on. And given that the policies needed to get long-term fiscal problems under control (higher taxes, fewer government services) are unpopular in the short-term time frame under which politicians face re-election, it seems unlikely that we should expect much movement on these issues in the near future.(Rampell, 2010)
Recently, Congressional Budget Office issued a report which suggests that any delay in putting the fiscal policy back on track will result in higher level of government debts dropping the amount of private and national savings reserved for the utilization of resources that yield benefits. Consequently, it will lead to lower incomes leaving future generations insecure economically.
Higher debt will compel federal government to spend more on interest payments therefore radical changes would be required in terms of revenues and noninterest spending for the sustainability of fiscal policy. In case of bigger cuts in spending programs, people will find it difficult to work and save. Plus, the subsequent reduction in incomes would never create a favorable environment for the sustainability of fiscal policy.
Moreover, it would render policy makers unable to address the unanticipated problems such as recession, increasing poverty, war, and financial crises. Higher debts will logically increase the possibility of a fiscal crisis, loss of investor trust in government’s handling of its budget in particular and economy in general. Given that, government will find it harder to borrow at reasonable interest rates.
All in all, we must keep in mind that the benefits of expansionary policy appear quickly but its cost in the form of higher future taxes may lower economic growth. The making of a sustainable fiscal policy is always a thorny matter as it does not take much to turn political.
Rampell, Catherine,(2010, December 14), “A Gentle Nudge about the Deficit” , Econmix, The New York Times
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