When does fiscal policy work well?
Where fiscal policy is strong
It can target
Spending can go to one region or sector: rail lines, green energy, schools.
It works in a deep recession
When firms and households will not borrow, the government still spends.
Real tests
US stimulus of about $787 billion in 2009; China's 4 trillion yuan kept growth above 9%.
The points to remember
- Fiscal policy works best against cyclical unemployment, with spare capacity.
- It is strongest in a deep recession, when cheap loans alone do not tempt anyone to spend.
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Four things hold fiscal policy back.
Where fiscal policy struggles
Political pressure
Tax rises are unpopular; spending often rises before elections.
Time lags
A budget must be passed, and a new road takes years to build.
Sustainable debt
Deficits add to debt; interest payments take money from schools and health.
Wrong kind of problem
It raises AD, so it cannot fix structural unemployment or cost-push inflation.
Remember it as: Fiscal policy: precise and powerful, but slow, political and paid for with debt.
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A deficit and the debt are easy to confuse.
Two different numbers
| Budget deficit | Government debt | |
|---|---|---|
| What it is | Spending greater than revenue in one year | The total the government owes |
| Example | €20 billion this year | €500 billion, rising to €520 billion |
| Kind of measure | A flow | A stock: the sum of past deficits |
The points to remember
- Write it like this: "A budget deficit is when government spending is greater than government revenue in a year."
- Debt is sustainable when interest can be paid without big tax rises or cuts: watch debt as a % of GDP.
Paper 1 asked this in May 2024, as part (b) for 15 marks.
Using real-world examples, discuss whether fiscal policy is the best way to reduce a country's unemployment.
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How the 15 marks are given
| Marks | What your answer needs |
|---|---|
| 13–15 | Theory fully explained, terms right all the way through, balanced evaluation, real examples fully developed to support the argument |
| 10–12 | Theory explained, terms mostly right, evaluation mostly balanced, real examples developed |
| 7–9 | Theory partly explained, some evaluation but one-sided, examples partly developed |
| 4–6 | Theory only described, evaluation superficial, examples only named |
| 1–3 | Theory stated but not relevant, no evaluation |