Question

A. What is meant by the term, Discretionary Fiscal Policy?

B. Discuss ways in which indirect crowding out and direct expenditure offsets can reduce the effectiveness of fiscal policy actions.

C. List and define fiscal policy time lags and explain why they complicate efforts to engage in fiscal
“fine-tuning.”

D. Describe how certain aspects of fiscal policy function as automatic stabilizers for the economy.

Answer 1

A) Discretionary fiscal policy is a government policy that changes government spending or taxes as needed. The purpose of discretionary fiscal policy is to expand or shrink the economy when it faces recessionary gap and inflationary gap respectively. When the economy is in recession, the government can increase the aggregate demand by increasing government spending and/or, decreasing the tax rate. Conversely, it can decrease the aggregate demand by increasing tax rates and/or, decreasing government spending, when the economy is experiencing an inflationary gap.