Question
4. Comparing Fiscal Policy and Monetary Policy (10 points) a. Assume an economy is in recession. Identify how fiscal policy can be used to close the recessionary gap. How does that compare to monetary policy? Identify the three tools the central bank can use to return the economy to full employment. b. Assume an economy is experiencing inflation . Identify the three things the central bank can do to fight inflation and how they affect investment and consumption. Explain why monetary policy might be used to fight inflation rather than fiscal policy.
Solution
4.3
(295 Votos)
Zilda
Mestre · Tutor por 5 anos
Resposta
a. In a recession, fiscal policy can be used to close the recessionary gap by increasing government spending or cutting taxes. This increases aggregate demand, which can stimulate economic activity and lead to higher employment. Monetary policy can also be used to combat a recession by lowering interest rates or increasing the money supply. This makes borrowing cheaper and encourages spending and investment. The three tools the central bank can use to return the economy to full employment are: 1) Lowering interest rates to encourage borrowing and spending, 2) Buying government bonds to increase the money supply, and 3) Reducing reserve requirements for banks to increase lending.b. In an inflationary economy, the central bank can fight inflation by raising interest rates, selling government bonds, or increasing reserve requirements for banks. Raising interest rates makes borrowing more expensive, which can reduce spending and investment. Selling government bonds reduces the money supply, which can also reduce spending and investment. Increasing reserve requirements for banks reduces the amount of money banks can lend, which can also reduce spending and investment. Monetary policy might be used to fight inflation rather than fiscal policy because it can be implemented more quickly and precisely, and it does not require approval from other branches of government.