Expansionary economic policy strives to create and increase the money supply in order to increase economic growth and at the same time inflation as well. This policy also focuses on the banking system and the increase of money supply throughout the economy. Increased government investment can lead to an increase in jobs, income, and greater aggregate demand. The flip side of this is a decline, which in fiscal terms, is an overall slowdown in economic activity and productivity. During times of recession, economic activity falls and ultimately affects unemployment rates, productivity, gross domestic product (GDP), and the status of sales and purchasing. Times of recession can often be considered a normal part to any cycle of business; however, this is usually not prolonged and likely followed by a long period known as economic expansion. In an effort to move economy forward, the government has expansionary economic policies that can be set in place to assist in these efforts (Pettinger, 2017). During times of recession it is absolutely necessary for the government to enact and enforce the expansionary economic policies and fiscal and monetary policy, in order to negate the long-term effects of a recession.
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One form of expansionary policy is the macroeconomic policy. This policy attempts to increase and encourage economic growth. The fiscal policy is one way in which the government attempts to do this. With this policy engaged, the federal government attempts to make vital changes to decrease taxes and redirect government spending. This policy is intentional in its efforts to affect the level of output, prices and employment. Some consider this policy to be restrictive with limited benefits, however, many regard it as valuable in the stabilization of economic activity and spending. Fiscal policy also takes the form of tax cuts, rebates and an increase in government spending (Amacher & Pate, 2012). With the fiscal policy in place, the government attempts to increase cumulative expenditure in order to encourage higher wages and increased production. This policy has the ability to positively affect demand, GPD, and employment.
During the time of the Great Depression, the classical model was challenged because this was a prolonged period of high unemployment. In the General Theory, Keynes attacked the model. It was pointed out that there were errors in the model as well as offering a different model that was unlike the business cycle theorists model (Auerbach, 2012). During times of extended depression, Keynes pointed out that the classical model was not very useful. The new proposed theory looked to explain activity and recommend policies to improve economic conditions during these particular trying times (Amacher & Pate, 2012). At times, the fiscal policy raises government spending in an attempt to reduce taxes. The aim is to create a balance so that the national income has the ability to generate an increase in employment and price steadiness (Amacher & Pate, 2012). Steadiness of price is the main target in the engagement of fiscal policy. The implementation of fiscal as well as monetary policy can assist in pulling the economy out of an economic recession.
Tax cuts are another way to increase aggregate demand. Aggregate demand, by definition, is the total requirement for goods and services in a specified market (Pettinger, 2017). This concept consists of utilization of goods, investment spending, government consumption, and exportation of goods. Once any of these areas is increased, there can be stimulated output and increased rates of employment (Amacher & Pate, 2012). This system and type of demand increases GDP. The greater the demand for goods and services the greater the demand for the production of goods as services. This positive demand creates more jobs and increases consumer spending.
An additional way out of a recession is through employment of the expansionary monetary policy. This policy shapes money supply such as the setting of interest rates that affects consumer consumption in the economy (Amacher & Pate, 2012). In order for the expansionary monetary policy to intensify economic growth and stability, there must be an increase in money supply. This is accomplished through enhanced borrowing, increased credit availability, and increased consumer spending. The monetary policy regulates credit availability from the central bank, which then controls the actual money supply. This is accomplished by manipulating things such as money supply and interest rates (Engelhardt, 2012).
The monetary policy uses a tool that assists with setting and changing the required reserve ratio. This is accomplished through banks who meet the required reserve. To meet this requirement the bank must have on hand one of two types of accepted assets. The two types of accepted assets are dollar currency or coins, and the funds the bank has on deposit within the district Reserve Bank. According to the monetary policy, depositing institutions must meet the requirement of holding reserves equal to the fractions of the different types of deposits they currently have. When there is a decrease in the reserve ratio, a portion of the required reserves are exchanged for an excess amount of reserves. This also raises the size of deposit multiplier. This has the potential of producing a shortage of excess reserves and can have a powerful and disturbing effect (Engelhardt, 2012).
Another tool used within the monetary policy is the allowance of the banks to borrow directly from The Federal Reserve Bank using a discount rate. This is an important tool used to either increase or decrease lending over all. These rates and this policy can signal the need to fuel the economy by enticing banks to hold less excess reserves. This also increases the debt and encourages consumers to increase large purchases and ultimately save money. This helps to fuel an increase in spending and increase economic stability. There is also option for people who do not want to spend their money because they are also incentivized through investing their stick and other assets (Engelhardt, 2012).
The use of these tools, when implemented by the Federal Reserve, is an effort to pull the country out of a recession. These tools are meant to impact money supply, interest rates, GDP, aggregate demand, and employment rates. The growth rate and size of the money supply is determined by the monetary policy. Interest rates may increase or decrease in relation to the desired rate of growth. This in turn pushes consumers to either increase spending or focus on current needed products instead of making long term purchases. All of these factors affect businesses and purchasing as well as demand. When initiating the use of the monetary policy, the Federal Reserve attempts to use the money supply, as well as interest rates, to encourage and effect on demand, employment, and increase the overall price level (Engelhardt, 2012).
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Policy makers often choose the policy tool of taxes to affect a time of recession. Taxes generate revenue needed to provide goods for the public and maintain other various government functions. Often taxes are thought of only on a personal tax basis, however, there are other payments made by various government segments that promote the stabilization of the economy as a whole. Personal income taxes are related to income received and then taxed based on income received by members of each household. Taxes are withheld from paychecks and then taxes are paid by the employer according to the law to the various government entities. The actual tax accountability and tax liability is then settled at the end of the year when tax returns are filed. In relation to the expansionary policy, this provides for a reduction in taxes which provides households with additional income that can be used which ultimately leads to an increase in spending and a positive impact on the economy. This ultimately motivates aggregate production and employment rates which lead to increased income (Rivera, 2015).
In order to address cycle problems, the expansionary policy is one of several balance policies available to address these issues. The President and Congress can provoke and direct actions in uncertain times though contractionary fiscal policy as well as implementing monetary policy to assist in correcting and addressing the problems associated with unemployment. The Federal Reserve System can also assist in these efforts by increasing the money supply and decreasing interest rates. The expansionary monetary policy is also a tool used to motivate the economy in order to increase spending and decrease inflation. With the implementation of this policy, banks have more money to lend and mortgage rates also decline as a result of its implementation (Kuncoro, 2015).
Another issue that must be addressed related to fiscal policy and spending is the lack of consistency often associated with these policies and the potential for inflation to spiral out of control. The possibility exists that a fiscal policy system that the government implements is sustainable through debt deflation. When prices are increased an erosion of the real value of public debt takes place which leads to the demand equals the level of supply and a new equilibrium is established. Taking all of this into account, prices are determined by fiscal policy and inflation can be its product producing a fiscal phenomenon. Most feel, that in relation to this, a monetary commitment to low inflation rates should be complemented by a responsible and reasonable fiscal commitment (Kuncoro, 2015). The expansionary economic policy has become more dynamic and reactive to the state of business recently, however; the large fiscal stimulus enacted in 2009 has not resolved the overall ineffectiveness of the policy even though it has resulted in an increase in empirical analyses (Auerbach, 2012).
Times of recession can be challenging and a period of time when economic activity falls and ultimately affects interest rates, money supply, GDP, demand, and employment. The idea of recession does not have to be a time of turmoil, but instead a time in which a country enters into a new phase of economic expansion and growth. In order to avoid the negative effects of a recession, it is essential the government implement policies that engage both the fiscal and monetary expansionary policies. Both of these policies endeavor to increase economic growth, expand money supply and confront the problem of inflation. The tool of expansionary fiscal policy attempts to make tax cuts, increase rebates, and maximize government spending in effort to pull the country out of a recession. The monetary policy, in contrast, focuses on the Federal Banking System and its use of rate discounts, ratio changes, and operations in various markets to effect and increase money supply. Understanding the general concept of what a recession is and how it can be countered in regards to it being a part of a normal business cycle is one way to help eliminate the stress and chaos associated with times of recession.
References
- Amacher, R. & Pate, J. (2012). Principles of Macroeconomics [Electronic version]. Retrieved from https://content.ashford.edu/
- Auerbach, A. (2012). The Fall and Rise of Keynesian Fiscal Policy. Asian Economic Policy Review, 7(2), 157-175. Retrieved from https://onlinelibrary.wiley.com/doi/abs/10.1111/j.1748-3131.2012.01228.x
- Engelhardt, L. (2012). Expansionary Monetary Policy and Decreasing Entrepreneurial Quality. Quarterly Journal of Austrian Economics, 15(2), 172-194.
- Kuncoro, H. (2015). Does the Credible Fiscal Policy Support the Prices Stabilization? Review of Economic Perspetives, 15(2), 137-156. Retrieved from https://is.muni.cz/do/econ/soubory/aktivity/obzor/6182612/58105360/2015_2_02_Kuncoro.pdf
- Pettinger, T. (2017). Impact of Expansionary Fiscal Policy. EconomicsHelp.org. Retrieved from https://www.economicshelp.org/blog/617/economics/impact-of-expansionary-fiscal-policy/
- Rivera, A. (2015). What is fiscal policy? BusinessNewsDaily.com. Retrieved from https://www.businessnewsdaily.com/3484-fiscal-policy.html
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