Brad Cartwright

Let's take a look at the importance of fiscal policy and why it’s so important that we understand it.

If you’ve taken the Macroeconomics course, you may remember quite a bit about this.

Fiscal policy is one of the most powerful tools governments use to manage the economy.

It’s all about using taxing and spending to influence aggregate demand and achieve key economic objectives like full employment, stable prices, and economic growth.

Understanding fiscal policy is critical because it touches on so many aspects of our lives—from the taxes we pay to the public services we receive.

The Basics of Fiscal Policy

Fiscal policy involves changes in government spending and taxation to impact the economy. These changes can:

1. Increase aggregate demand during times of recession (expansionary fiscal policy).
2. Reduce aggregate demand when the economy is overheating (contractionary fiscal policy).

At its heart, fiscal policy is a demand-side tool, meaning its primary focus is on influencing aggregate demand. While it can have long-term effects on supply—such as improving the quality or quantity of resources—it is mostly used to stabilize the economy in the short term.

How Fiscal Policy Works

Let’s break it down with a quick overview:

1. Expansionary Fiscal Policy:
   • Used when the economy is operating below its potential, such as during a recession.
   • The government can:
     • Cut taxes: Leaving consumers and businesses with more disposable income to spend.
     • Increase government spending: Investing in infrastructure, education, or healthcare to create jobs and stimulate demand.
   • The result? Aggregate demand shifts outward, increasing output and reducing unemployment.
2. Contractionary Fiscal Policy:
   • Used when the economy is overheating, with high inflation or unsustainable growth.
   • The government can:
     • Raise taxes: Reducing disposable income and slowing consumer spending.
     • Cut government spending: Slowing economic activity and reducing inflationary pressures.
   • The result? Aggregate demand shifts inward, stabilizing prices and bringing the economy back to a sustainable level.

Why Fiscal Policy is a Big Deal

Fiscal policy isn’t just about numbers—it’s deeply political.

Taxes and government spending directly impact people’s lives, so they’re often the subject of heated debates.

• Cutting Taxes: Some argue that lower taxes leave more money in people’s pockets, encouraging investment and growth. Others worry that it reduces government revenue, limiting public services like education or healthcare.
• Government Spending: Increased spending can provide critical support to those in need, but critics often argue it leads to inefficiencies or higher national debt.

These debates make fiscal policy one of the most visible and contentious aspects of economic management.

You see it (or hear about it) nearly every single day.

Why Learn About Fiscal Policy?

Understanding fiscal policy gives you a lens to analyze the economic decisions happening around you.

Why is the government cutting taxes during a downturn?

Why are they debating infrastructure spending?

These are fiscal policy decisions in action.

By learning how fiscal policy works, you can better understand the headlines, the political debates, and the impact on your own life.

Whether you’re a student, a voter, or just someone curious about the economy, knowing about fiscal policy empowers you to engage in these discussions with clarity.

And it’s always good to know stuff, right?

I think so.

If you are interested in learning more, join 10,800+ students worldwide who have purchased my Macroeconomics online course.

Thanks for reading.