Concept of Fiscal Policy
What is it?
Fiscal policy is where the government directly influences aggregate demand through changes in government revenue and expenditure. Fiscal policy is counter-cyclical to which it reacts to the opposite of trends in the business cycle. For example, if the economy was in a downturn then the fiscal policy would be expansionary to which would increase government expenditure to stabilise the business cycle. Government revenue includes all sources of income for the government such as income tax, company tax, GST and Medicare levies. Government expenditure includes all spending by the government, such as spending on new infrastructure and funding for government services such as health and education.
Why is Fiscal Policy Counter-Cyclical?
Fiscal policy is counter-cyclical because the role of government is to stabilise the business cycle so that it best follows the trend of the business cycle. Too much economic activity, such as in a boom, can prove costly in terms of high inflation and too little economic activity, such as in a trough, can result in low levels of economic growth and high unemployment. By stabilising the business cycle, the government can achieve a level of economic activity that causes the least harm and maximises the benefit to society.