Question

ANSWER CLEARLY AND COMPREHENSIVELY:

1.) Distuinguish contractionary fiscal policy and expansionary fiscal policy.

Answer 1

Contractionary fiscal policy is used to tackle inflation during the times of inflationary gap when aggregate expenditure is more than the real GDP. In such situation inflation rises, as production is unable to keep up with the rising aggregate demand. Contractionary fiscal policy reduces aggregate demand. It includes, increase in taxes, reduction in government spending and reduction in transfer payments.

Expansionary fiscal policy is used to give a push to economic activity during the times of recession or depression. It is used when there exists deflationary gap. In such situation, in order to push economic activities, the government increases aggregate demand through expansionary fiscal policy. It is includes, increase in government spending, reduction in taxes, and increase in transfer payments.