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Measuring economic health memo

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Office of the President of United States Involved in the decision making process of the fiscal policy




Q. Explain the effects of fiscal policies on the economys production and employment. How do changes in government spending and taxes positively or negatively affect the economys production and employment?

Fiscal policies can have a huge impact on the economys production and employment. Fiscal policy comprises of two main elements: the government expenditure and taxation. Together, these influence three variable factors in the economy. They are: Aggregate Demand, Resource Allocation and Distribution of Income. Increasing government expenditure by giving subsidies to companies allows reducing the price of products thereby increasing aggregate demand. Similarly, decreasing taxes has a positive effect on income distribution and employment in terms of offering incentive to work. Decreasing taxes for businesses increases production, provides opportunities for businesses to expand thereby having constructive effect on employment. On the other hand, increasing taxes can have a negative effect on aggregate demand. For instance, levying heavy taxes on cigarettes discourage demand for such products, effecting businesses as well as consumers. Moreover, increasing taxes and reducing spending causes a budget surplus whereas decreasing taxes and increasing expenditure causes budget deficit. Both,