Fiscal and Monetary Policy Research Assignment Paper

Fiscal and Monetary Policy
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Fiscal and Monetary Policy
Monetary policies may be used by the central bank to maintain target inflation by increasing the interest rates whenever inflation is increasing due to high economic growth since high-interest rates limit borrowing, spending, and investment leading to low aggregate demand (Hansen, 2013). Interest rates may also be cut to promote borrowing which favors spending and investment that translates to higher aggregate demand and economic growth. On the other hand, fiscal policies are measures carried out by the government to correct trends in the economy. It involves checking government spending and levels of taxation. In times of low economic growth, the government increases spending while reducing taxation so as to increase economic growth and aggregate demand as well as increasing the budget deficit (Hansen, 2013). Low taxation motivates people to work and would be applicable in the times of recession. Increasing government spending creates more opportunities for the workers and thus creating employment or reducing unemployment rates in the economy. The government may also reduce the minimum wage so as to avert real wage unemployment. It can improve education and training to minimize structural unemployment (Hansen, 2013). Likewise, fiscal policies can be used to simplify labor markets so that hiring of workers can be easier thus reducing unemployment. The government may also use fiscal policies to cut down inflation and budget deficits by reducing government spending and increasing taxation. This may be summarized using Philips Curve (Hansen, 2013).
Philips Curve suggests that variations in the degrees of unemployment have a direct and anticipatable effect on the degree of price inflation. During the 1960s, it was accepted that increase in aggregate demand and fiscal stimulus would lead to a series of effects (Keynes, 2016). It would stimulate high demand for labor since government spending generates growth. It would reduce the number of unemployed workers. Also, the firms will compete for fewer workers which could lead to an increase in wages (Keynes, 2016). It would also give the workers a higher bargaining power for better wages. The wage costs for firms would go up, and the companies would transfer the costs to consumers through price hikes which could translate to inflation (Keynes, 2016).
The governments choose an inflation target from which the expansions and contractions in fiscal policy are centered at. Through government spending and taxation, the government can expand or contract the economy to meet its desired or set target inflation rate (Keynes, 2016). Applying fiscal policies in simplifying the labor market...