Fiscal and Monetary Policy Essay

Fiscal and Monetary PolicyFiscal PolicyThe fiscal policy is basically a tool used by government by the use of taxes and government expenditure to affect aggregate demand in order to increase output and there for attain full- employment closer to the natural rate of unemployment.The fiscal policy became prominent after the great depression in 1930’s and Based on the British Economist John Maynard Keynes. According to his theory interest is basicallyCannot be controlled by Financial authorities and the interest rate depends on liquidity preferences of the society and there fore economy can have equilibrium other than full-employment even government can increase money supply.

That is according to Keynes money plays a minor role in economy.  In his view even financial authorities can control interest rate this will have a limited impact on investments because it depends on the outlook of the producers and customers of future prospects and there for their investment level which may be less than the full-employment level and there fore unemployment which can be socially unacceptable.There fore government has to supplement the short fall in private investment and it affects the aggregate demand and therefore due to multiplier effect the economy will move until Investments equals savings to full-employment with limited inflation.  That is according to his theory the market economy will not be stabilized at full employment at all times and it may come into equilibriumFiscal Policyother than full-employment and the economic activity will widely fluctuate with no government intervention  The fiscal policy has several limitations. The limitation comes because of political considerations and determinations of goals by value judgments. The other problem is according to historical evidence and differing economic models used by economist is that fiscal policy may have long time lags and can increase the fluctuation rather than reduce it.  In addition they may not increase output and can be inflationary particularly when employment reaches some level and can produce stagflation.Monetary PolicyMonetary Policy is basically based on controlling money supply and there for controlling inflation and reach the goal of price stability which is the most important goal than employment   The basic methods used by monetary policy is open-market operations, specifying reserve limits setting discount rates and there fore affect interest rates.

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In view of monetary policy money plays in major role in an economy than other non-monetary factors. In addition in practice the financial authorities have frequently changedtheir policy tools. Like fiscal policy monetary policy also lacks in effectiveness in attaining some macroeconomic goals nut not others.My Fiscal and Monetary Policy objective and other positive and negative consequenxesAccording to contemporary research on the effectiveness of monetary policy it suggests like fiscal policy the monetary policy also has time lags in its operation and if economic circumstances change due to shocks then the monetary policy will be too much expansionary or contraction it may be more inflation or deflation and it will not meet its goals. As well the outcome of monetary policy also is variable and forecasts are imprecise. In addition the monetary policy is more effective in controlling inflation than reaching the goal of acceptable level of full-employment say 3-4% compared to fiscal policy.   There fore I will not use discretionary fiscal policy and have a target of a percentage of GDP for government spending and also have a monetary policy controlling quantity of money on a consistent growth basis rather than interest rate manipulation that will to some extent meet price stability and full-employment level to some degree of success.   This also can produce negative results in terms of achieving inflation targetsAnd not meeting employment targets or meeting employment target but not inflation target depending on the time lags of policies negative and positive interactions in translating through intermediate variables to affect prices and output levels.

BibliographyFriedman, Milton. “7 The Role of Monetary Policy.”  A Macroeconomics Reader. Ed.

Brian Snowdon and Howard R. Vane. London: Routledge, 1997.

164-179. Questia. 11 Nov.

2006 <>.

Rowan, D. C., and Thomas Mayer. Intermediate Macroeconomics: Output, Inflation, and Growth. New York: W.

W. Norton, 1972. Questia. 11 Nov. 2006 <http://www.questia.

com/PM.qst?a=o&d=59191705>.Wong, Ka-Fu. “Variability in the Effects of Monetary Policy on Economic Activity.

” Journal of Money, Credit & Banking 32.2 (2000): 179. Questia.

12 Nov. 2006 <>.. 


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