1. 7B GOV’TS ROLE IN
STABILIZING THE
ECONOMY
EPF7 demonstrate knowledge of how monetary
and fiscal policy influence employment, output
and prices

2. Gov’ts Role in Stabilizing the
Economy
 Federal government fiscal policies, along with the
Federal Reserve System’s monetary policies,
influence the overall levels of employment, output,
and prices.
 Fiscal policy decisions are decisions to change
the level of spending and tax levels by the
federal government. These decisions are
adopted to influence national levels of output,
employment, and prices.
 The Federal Reserve System is a mix of public
and private elements.

3. When would the gov’t be likely to
pursue expansionary fiscal
policy? How would the fiscal
policy tools be used in this case?

4. Expansionary Fiscal Policy
 Under conditions of slow growth or high
unemployment, expansionary fiscal policy
could stimulate the economy.
 In the short run, increasing federal spending
and/or reducing taxes can promote more
employment and output, but these policies
eventually put upward pressure on the price
level and interest rates.

5. When would the gov’t be likely to
pursue contractionary fiscal
policy? How would the fiscal
policy tools be used in this case?

6. Contractionary Fiscal Policy
 Under inflationary conditions, the government
may choose contractionary fiscal policy to slow
the economy.
 Decreased federal spending and/or increased
taxes tend to lower price levels and interest
rates, but they reduce employment and output
levels in the short run.

7. How does monetary policy affect
the overall levels of prices,
employment and output?

8. Effects of Monetary Policy
 Monetary policy decisions by the Federal Reserve
System lead to changes in the supply of money
and the availability of credit. Changes in the money
supply can influence overall levels of spending,
employment, and prices in the economy.
 Monetary policy affects interest rates in the
economy. Interest rates act as incentives that
influence people’s spending and saving decisions.
 To fight inflationary pressure, the Federal Reserve
System could implement monetary policy that causes
higher interest rates in the economy. Higher interest
rates would discourage personal and business
borrowing and spending and relieve inflationary
pressure.