Types of Fiscal Policy
There are two primary categories of fiscal policy, distinguished by their approach to government spending and taxation, with a third category that combines elements of both.
Main Categories
- Expansionary Fiscal Policy — involves increasing government spending or cutting taxes to boost economic growth, as seen in the United States' American Recovery and Reinvestment Act of 2009, which provided stimulus funds to states and invested in infrastructure projects.
- Contractionary Fiscal Policy — involves reducing government spending or increasing taxes to slow down an overheating economy, exemplified by the Swedish government's austerity measures in the 1990s, which included spending cuts and tax hikes to combat inflation.
- Monetary-Fiscal Policy Mix — combines fiscal policy with monetary policy tools, such as interest rates and quantitative easing, as employed by the European Central Bank and European governments during the eurozone crisis, where fiscal consolidation was accompanied by monetary policy easing.
Comparison Table
| Category | Cost | Scale | Speed |
|---|---|---|---|
| Expansionary Fiscal Policy | High, due to increased government spending | Large, can impact entire economies | Medium, implementation can take months to years |
| Contractionary Fiscal Policy | Low, due to reduced government spending | Small to medium, targeted at specific sectors | Fast, tax changes can be implemented quickly |
| Monetary-Fiscal Policy Mix | Medium to high, depending on the combination of tools | Large, can impact entire economies | Medium to fast, monetary policy changes can be implemented quickly, while fiscal policy changes take longer |
How They Relate
The categories of fiscal policy often overlap or are used in conjunction with one another, as governments may employ a combination of expansionary and contractionary measures to achieve specific economic goals. For example, a government may implement expansionary fiscal policy to stimulate economic growth, while also using contractionary measures to combat inflation. The Monetary-Fiscal Policy Mix is often used in conjunction with expansionary fiscal policy, as seen in the United States during the 2008 financial crisis, where the Federal Reserve's quantitative easing was paired with the government's stimulus package. Conversely, contractionary fiscal policy may be used in conjunction with tight monetary policy, as seen in the United Kingdom's austerity measures in the 2010s, which were accompanied by high interest rates. Specific pairs, such as expansionary fiscal policy and monetary policy easing, are commonly used together to achieve economic growth, while contractionary fiscal policy and tight monetary policy are often used together to combat inflation.