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Fiscal and Monetary Policy - Essay Example

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Fiscal policy is a government’s tool to exercise control over its expenditures and the revenues whereas monetary policy deals with the strategies made by the central bank in the form of open market operations and the change in the interest rates. There are mainly two kinds of…
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Fiscal and Monetary Policy
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28th March, Active Fiscal and Monetary Policy Fiscal policy is a government’s tool to exercise control over its expenditures and the revenues whereas monetary policy deals with the strategies made by the central bank in the form of open market operations and the change in the interest rates. There are mainly two kinds of policies which are used by the government and the central bank jointly which are referred to as active and passive policy.
Active Policy
At the times of recessions or the times when economy is at its struggling stage, active policy emphasizes on a view that the current position of the economy is quite unstable and the existing fluctuations occurring in the society are due to the participation of private sector. Therefore, it would be government who has to come forward and prepare a discretional fiscal and monetary policy in collaboration with the central bank to reduce the expansionary or contractionary gap.
Passive Policy
On the other hand, the pundits of passive policy assumes that the current position of economy is quite stable such that the market forces can better interact with each other to achieve the equilibrium in the economy due to the presence of automatic stabilizers in the economy.
Strengths of Active Approach
Active policy is quite famous among the policymakers due to the fact that by apply this approach the economy can be steered to a particular direction in quick times. The active policy is mainly utilized by the existing presidents just before the elections in order to gain some short term advantages so that their chances of being elected for the next tenure can be increased. Another important strength of this approach is that generally this approach is presented to the public in a very decent manner by the central bank and the government, but in reality, both these institutions heavily emphasize on the passive approach which is the core tool behind stabilizing the economy after recessions. This policy can provide its best of the results when some sheered expert policymakers are given the command to formulate a policy to come out of the recession. When those policymakers sit together and think, they can use active policy as their premier tactic which can bring stability to the economy.
Weaknesses of Active Approach
The weaknesses of this policy mostly wipe out the strengths of active policy because of considerable difficulties which arises when this policy is to be formulated. The biggest weakness of this policy is the difficulty in estimating the future output level of the economy and the unemployment rate. Both these factors are hard to foresee and identify under this approach. Another important weakness of this policy comes at developing this policy as it requires both the government and central bank to collaborate. There are different problems pertaining to various lags for active policy including recognition, decision-making, implementation and effectiveness lags. Active police is highly dependent upon the predicted estimates of passive policy for Aggregate Demand and Aggregate Supply. The uncertainty regarding the effect of this policy is also another weakness of this approach.
If government plans to fulfill its responsibilities by adopting the active policy for output growth and unemployment rate, it has to bring expert policymakers together who can formulate such a policy because the identification of potential output growth and economy’s unemployment rate need some real expertise in judging them.
SparkNotes Editors. “SparkNote on Policy Debates.” SparkNotes LLC. n.d. Web. 6 Apr. 2012.
The Policy Debate: Active or Passive? n.d. Web. 6 Apr. 2012. Read More
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