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1 1 (August 03, 2020)

handle is hein.crs/govdben0001 and id is 1 raw text is: xa S 1,k Introduction to U.S. Economy: FiscalPolicy Fiscalpolicy is the means by which the government adjusts its budget balance through spending and revenue changes to influence broader economic conditions. According to mains treameconoics, the government can affect the level of economic activity-generally measuredby gross domestic product (GDP)-in the short termby changing its levels of spending and taxrevenue. This In Focus presents an introduction to fiscalpolicy. For a more in-depth lookat fiscalpolicy, its effect on the economy, andits useby the government, refer to CRS Report R45723, FiscalPolicy: Economic Effects, by Marc Labonte. Fiscalpolicy is often characterized by its countercyclicalor procyclical nature. Countercyclicalpolicy attempts to counteract the business cycle by promoting growth through expansionary policy during a recession and preventing overheating through contractionary policy during an expansion. Procyclicalpolicy does the opposite and is generally seen to be counterproductive, potentially overheating the economy during expansions and further dampening growth during recessions. Recessions can have negative consequences for both individuals and businesses. During a recession, aggregate demand (overall spending) in the economy falls, which generally results in slower wage growth, decreased employment, lowerbusiness revenue, and lowerbusiness investment. As such, policymakers may want to intervene in the economy when a recession occurs by implementing expansionary fiscalpolicy to mitigate the decline in aggregate demand. Expansionary fis calpolicy-an increase in government spending, a decrease in taxrevenue, or a combination of the two-is expected to temporarily spur economic activity. Increased government spending can take the formofboth purchases of goods and services by the government, which directly increaseeconomic activity, and transfers to individuals, which indirectly increase economic activity as individuals spend those funds. Decreased taxrevenue via tax cuts also indirectly increases aggregate demand in the economy. For example, an individual income taxcut increases the amount of disposable income available to individuals, enabling themto purchasemore goods and services. Standard economic theory suggests thatin the short term, fiscal stimulus can les sen a recession's negative impacts orhasten a recovery. Expansionary fiscalpolicy's effectiveness may be limited by its interaction with other economic processes, including interest rates and investment, exchange rates and the trade balance, and the rate of inflation. First, assuming no action fromthe FederalReserve, expansionary fiscalpolicy is expected to result in rising interest rates, which puts downward pressure on investment spending in the economy. Second, it can lead to a strengthening U.S. dollar, which results in a growing trade deficit. Third, it can lead to accelerating inflation in the economy; although this was not the case during the2009-2020 expansion. Allofthese side effects fromexpansionary fiscalpolicy tend to put downward pressure on economic activity, and therefore work againstthe original stimulus generated through expansionary fiscal policy. Expansionary fiscalpolicy's ultimate effect on the econony depends on the relative magnitude of these opposing forces. In general, the increase in economic activity resulting from expansionary fis calpolicy tends to be greatest during a recession, when the economy has more roomto expand, and the negative s ideeffects are somewhat counteractedby the reces sion its elf, monetary policy, or both. As the economy shifts fromarecession and into an expansion, broader economic conditions generally improve, with falling unemployment and increasing wages and private spending. With improving economic conditions, policymakers may choose to begin withdrawing fiscal stimulus by decreasing the size of the deficit or potentially by applying contractionary fiscalpolicy andrunning abudget surplus. Contractionary fiscal policy-a decrease in government spending, an increase in taxrevenue, or a combination of the two-is expected to temporarily slow economic activity. When the government raises individual income taxes, for example, individuals have less disposable income and generally decrease their spending on goods and services in response. The decrease in spending temporarily reduces aggregate demand for goods and services, slowing economic growth temporarily. Alternatively, when the government reduces spending, it reduces aggregate demand in the economy, which again temporarily slows economic growth. As such, aggregate demand is expectedto decrease in the shorttermwhen the government implements contractionary fiscalpolicy, regardless of the mix of fiscal policy choices. However, contractionaryfiscalpolicy has the s ame caveats as expansionary fiscalpolicy, except in reverse. Contractionary fiscal policy is expected to reduce interest rates, leading to additional investment, and weaken the U.S. A A '2 Updated August 3,2020

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