Draft:Fiscal policy

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Fiscal policy is government policy on taxes, spending, and borrowing that is designed to influence business fluctuations. It is one of the two most important macroeconomic tools that a government has to stabilize the economy, along with monetary policy.

How it works (or at least how it should)

In theory, a fiscal policy would be counter-cyclical: spending more in bad times and spending less in good times to offset declines and increases in private spending.

Tax-cutting vs. Government spending

From a pure mathematical perspective, we expect that government speding will have a bigger multiplier effect than cutting taxes, and, as a result, will stimulate the economy more.

Problems and criticism

Despite being a powerful tool, fiscal policy also saw its share of criticism, and as a result, it lost much space to monetary policy. Here are some of the reasons:

The case for fiscal policy nonetheless

Despite its shortcomings, there are least some situations where fiscal policy works very well.

Liquidity trap

This is the case where fiscal policy works the best, while monetary policy doesn't work.

Fiscal policy and emergencies

The case for government spending is also strong when a country faces some immediate emergency, such as a war, a pandemic, or a natural disaster.