What does fiscal policy involve?

Fiscal policy fundamentally relates to the use of government spending and tax policies to influence the economy. It is a tool by which a government can manage economic activity by altering its levels of expenditure and revenue collection. When a government increases its spending, it can stimulate economic activity, thereby potentially helping to reduce unemployment and encourage growth. Conversely, by increasing taxes, the government can slow down the economy to combat inflation or reduce public debt.

This form of economic intervention contrasts with monetary policy, which encompasses adjustments in the money supply and manipulation of interest rates—practices usually conducted by a central bank. While monetary policy affects the cost and availability of money and credit, fiscal policy directly impacts aggregate demand through statutory changes in government operations and tax legislation.

Investments in infrastructure, education, and healthcare are examples of fiscal policies aimed at boosting economic productivity and ensuring long-term benefits. Ultimately, fiscal policy is crucial because it addresses issues related to public resources and how they are allocated to enhance overall economic stability.