Question

Differentiate between expansionary and contractionary fiscal policy -Use a keynesian Analysis..

Answer 1

Expansionary fiscal policy is used by the government when trying to balance the contraction phase in the business cycle. It involves government spending exceeding tax revenue by more than it has tended to, and is usually undertaken during recessions. Examples of expansionary fiscal policy measures include increased government spending on public works (e.g., building schools) and providing the residents of the economy with tax cuts to increase their purchasing power . As due to expansionary fiscal policy IS curve will shift rightwards from IS 1 to IS 2 as shown in the figure . Equilibrium changes from E 1 to E 2.Contractionary fiscal policy, on the other hand, is a measure to increase tax rates and decrease government spending. It occurs when government deficit spending is lower than usual. This has the potential to slow economic growth if inflation, which was caused by a significant increase in aggregate demand and the supply of money, is excessive. Due to contractionary fiscal policy IS curve shift leftwards from IS 1 to IS 2 and equilibrium changes from E 1 to E 2 .

LM Arturst - Equilibrum intest rate and outhut inereoles from & toe and y' to 4² respectively Zs? Output (4)

XEM Intuesta So equilibrin chenges from Ei to Ez, interest eate. and outfint decreases from ritor and y' to y respectively. LI:sztal Output (4)