Typical questions on the topic of monetary policy and fiscal policy are What is the difference between them? or Which of these policies should be used to increase economic growth? Monetary policy refers to the actions a central bank takes to regulate the money supply and interest rates in an economy. Fiscal policy, on the other hand, describes government spending and taxation policies aimed at influencing economic growth. This article will discuss;
What Is Fiscal Policy?
In economics, fiscal policy refers to a government’s use of fiscal resources to stimulate economic activity in the short run and dampen economic activity in the long run. Fiscal policy is usually implemented by changing tax rates (lowering them if the goal is to expand), government spending (increasing it if the goal is to expand), or by increasing interest rates (if the goal is to contract).
Fiscal policy involves changes in taxes, government spending, and changes in government borrowing. It does not directly affect individual people’s lives, except when it is used to manage recessions and depressions (in which case it can affect business and consumer behavior). Fiscal policy can be either expansionary or contractionary, depending on whether policymakers want to speed up or slow down the economy.
- Expansionary Fiscal Policy; Expansionary fiscal policy includes lowering taxes, increasing spending, or providing incentives for businesses to invest.
- Contractionary Fiscal Policy; Contractionary fiscal policy includes raising taxes, decreasing spending, and tightening lending requirements for banks.
What Is Monetary Policy?
Monetary policy is the process by which a central bank, such as the Federal Reserve, manages demand in the economy through changes in interest rates and other financial levers. When an economy grows too quickly with rising prices, these changes are designed to prevent too much expansion of the supply of money in circulation or particular forms of debt such as mortgage-backed securities. Monetary policy contrasts with fiscal policy, which deals with managing demand via tax rates and government spending.
Additionally, the primary objective of the monetary policy is to maintain stability in the general price level. To do this, it may be necessary for the central bank to raise its target interest rate when inflation exceeds its target and reduce it when inflation falls below its target. The opposite would be true for fiscal policy: lowering taxes might spur consumer purchases that could trigger higher inflation while raising taxes might temper consumer spending and have a moderating effect on price increases. The two types of monetary policy can be;
- Expansionary Monetary Policy- Expansionary monetary policy stimulates economic growth by lowering interest rates.
- Contractionary Monetary Policy- Contractionary monetary policy slows economic growth by raising interest rates.
Fiscal Vs Monetary Policy(Comparison Chart)
|Basis For Differences||Fiscal Policy||Monetary Policy|
|Definition||Fiscal policy refers to the financial tool that can be used by the government to stimulate economic activity by changing taxes and expenditures.||Monetary policy is a central bank’s controlling of the economy by increasing or decreasing the money supply or interest rates in order to set target levels for inflation and unemployment|
|Managed By||Ministry Of Finance||The central bank of the country|
|Focus||Focuses on the economic growth of the country.||It focuses on the stability of an economy.|
|Influence on Exchange Rate||No||Yes|
|Is there any political influence?||Yes||No|
Key Differences Between Fiscal Policy And Monetary Policy
Here we have described some of the main differences between fiscal vs monetary policy, given as follows.
- Fiscal policy is a government’s tax, spend, and borrow policies that are used to affect the country’s economic growth. On the other hand, Monetary policy is a central bank’s controlling of the economy by increasing or decreasing the money supply or interest rates in order to set target levels for inflation and unemployment.
- While the fiscal policy is headed by the Ministry Of Finance, monetary policy is supervised by the central bank of the country.
- While fiscal policy focuses more on immediate impacts, with monetary policy the effects are seen over time.
- A political influence can be seen in the case of fiscal policy, which is not in the case of monetary policy.
- Fiscal policy influences how a government spends money, while monetary policy influences how much money is available in an economy and who has access to it. For example, tax cuts are a fiscal policy that could make more money available for investors. However, when interest rates rise due to high inflation, this is an example of monetary policy because this increases the amount of money available for lending by individuals or businesses.
Fiscal policy deals with government spending and tax levels in the economy while monetary policy deals with the interest rates, money supply, and exchange rates in an economy. With that being said, I hope this quick summary has helped you better understand these two very different policies. As a business owner, it is always important to stay updated on economic news so you can make sound financial decisions for your business. In addition, Both fiscal and monetary policies are implemented so as to maintain growth in the economy.