ECO 201: Chapter 5

Chapter 5: Fiscal Policy


1. What is Fiscal Policy?

●​ Fiscal Policy refers to the use of government spending and taxation to influence the
economy.​

●​ It is a tool of macroeconomic stabilization, especially during recessions and periods of
high inflation.

Conducted by: The legislative and executive branches of government (Congress and the
President in the U.S.)




2. Goals of Fiscal Policy

●​ Promote economic growth​

●​ Reduce unemployment​

●​ Maintain price stability (control inflation)​

●​ Smooth out the business cycle




3. Types of Fiscal Policy

Expansionary Fiscal Policy

●​ Used to fight recession and boost economic activity.​

●​ Involves:​

○​ Increasing government spending​

○​ Cutting taxes​

●​ Goal: Increase Aggregate Demand (AD)​

, Example: During a recession, the government might increase spending on infrastructure or
send out stimulus checks.



Contractionary Fiscal Policy

●​ Used to fight inflation (overheating economy).​

●​ Involves:​

○​ Decreasing government spending​

○​ Raising taxes​

●​ Goal: Decrease Aggregate Demand (AD)




4. Tools of Fiscal Policy

1.​ Government Spending​

○​ Directly increases AD​

○​ Includes infrastructure, defense, education, etc.
2.​ Taxes​

○​ Affect disposable income and consumption​

○​ Cutting taxes = more consumer spending​

○​ Raising taxes = less consumer spending