An economic policy has an impact on economic variables such as outputs, prices, or employment. These policies are not influenced by these variables. The economic policy incorporates positive economic, political economics, and normative economics (Benasy et al., 2010). Some of the objectives of the economic policy include improving the standard of living, maintaining price stability, realizing full employment, and eradicating poverty. Considering that an economy is experiencing inflation in the 5-6% range, it is important to use either the fiscal or monetary policy or both in addressing the inflation rate.
Fiscal policy entails how an operational framework is formulated, and a fiscal plan is developed to determine policies, objectives, and resources needed. Fiscal policy also includes implementing a budget that ensures tasks are carried out efficiently and effectively (Ley, 2009). A legal framework is formed to determine how resources are allocated to attain policy objectives. Applying fiscal transparency, fiscal policy enables the government to become more accountable, therefore, enabling the public to have a better understanding of the fiscal policies. The strength of fiscal policy is that it plays a huge role in good governance as it allows for well-informed public debate about its design and results (Ley, 2009). One of the weaknesses in fiscal policy is that it can be influenced by political constraints arising from politicians who find it unpopular to raise taxes and cut down on government expenditure when the economy becomes overheated.
Monetary policy is a strategy that is used in adjusting interest rates to meet inflation goals. Credibility in monetary policy is critical as it avoids problems that may arise from time inconsistency. One of the strengths of monetary policy includes discretionary conduct that is used to provide liquidity and growth to the market (Bertella et al, 2015). When a public announcement is made in regards to the inflation target being rigorously pursued, the agents from monetary authority reduce their inflationary expectations, and consequently, the cost of inflation is lowered. Monetary policy can stimulate the private sector by temporarily abandoning inflation targeting and instead concentrate on economic growth targets with very low real interest rates (Bertella et al, 2015). A weakness associated with monetary policy is that when there’s an increase or decrease in the public deficit, economic activity is affected and the growth rate is slowed down. This leads to a probable adjustment in public accounts which can be severe leading to depression and social unrest.
Fiscal policy would address the problem of inflation and the federal debt. This is because, using the fiscal policy, the government can decide on whether to spend more or less than it receives, therefore, solving the federal debt issue. In the case where the inflation rate is 5-6% and the federal debt is high, the government can apply the fiscal policy to maintain a balanced budget where the budget should be in deficit during low levels of activity in the economy and consequently in surplus when boom conditions are in force. The government can also apply its economic influence to offset the cycle of expansion and contraction in the economy. The government can adopt an active measure of borrowing to finance its activities, therefore, countering the weakness of fiscal policy which is raising taxes and cutting down other government expenditure.
The Keynesian theory informed my choice of fiscal policy in that the government has major economic influence in offsetting the cycle of expansion and contraction and, therefore, the government has a choice in determining whether it will spend more or less than it receives.
Bénassy-Quéré, A., Coeuré, B., Jacquet, P., & Pisani-Ferry, J. (2010). Economic policy: theory and practice. Oxford University Press, USA.
Bertella, M. A., Rego, H. A., Neris, C., Jr, Silva, J. N., Podobnik, B., & Stanley, H. E. (2015). Interaction between fiscal and monetary policy in a dynamic nonlinear model. PloS one, 10(3), e0118917. https://doi.org/10.1371/journal.pone.0118917
Ley, E. (2009). Fiscal policy for growth.
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