Effectiveness of fiscal policy
What is the effectiveness of fiscal
policy
The effectiveness of fiscal policy refers to the degree
to which the implementation of fiscal policy guides economic growth, price
levels, employment levels, and changes in international payments close to the
predetermined policy goals. If the implementation of the fiscal policy can make
the changes in the above four indicators reach the predetermined policy goals,
it indicates that the fiscal policy is effective; otherwise, it is ineffective.
If the deviation between the changes in the above four major indicators and the
predetermined policy objectives is small, it indicates that the fiscal policy
is relatively effective; if the deviation is large, the effectiveness of the
fiscal policy is low.
三和一善
The effectiveness of fiscal policy
in a closed economy
(1) Factors that determine the effectiveness of fiscal
policy
In a closed economy, the main tools for the government
to regulate the economy are fiscal policy and monetary policy. The relative
effectiveness of fiscal policy and monetary policy depends on the following two
conditions: one is the sensitivity of investment demand to interest rates, and
the other is the sensitivity of money demand to interest rates. These two
conditions can be explained by the slope of the Is-LM curve. If investment
demand is sensitive to interest rates, the Is curve will be relatively flat,
because small changes in interest rates will cause larger changes in investment
demand; on the contrary, if investment demand is not sensitive to interest
rates, the Is curve will be relatively steep. Similarly, if money demand is
sensitive to interest rates, the LM curve will be relatively flat, and small
changes in interest rates will cause large changes in money demand; on the
contrary, if money demand is not sensitive to interest rates, the LM curve will
be steeper.
(2) Graphical explanation of the effective fiscal
policy
If the Is curve is relatively steep and the LM curve
is relatively flat, the fiscal policy is more effective.
The effect of fiscal policy is strong because even
though expansionary fiscal policies may raise interest rates, investment demand
is not sensitive to interest rates and has little impact on investment. The
weaker effect of expansionary monetary policy is that most of the increase in
the money supply is held by individuals, so the interest rate level only
slightly drops, and the curve LM only slightly shifts downward.
If the IS curve is relatively flat and the LM curve is
relatively steep, monetary policy is more effective than fiscal policy. The
reason is: taking the expansionary monetary policy as an example, the
expansionary monetary policy causes the interest rate to fall. Since the Is
curve is flat, investment is sensitive to interest rates. As long as the
interest rate falls slightly, it will cause a large increase in investment,
which will greatly increase national income. The expansion of fiscal policy
will increase interest rates, and the increase in interest rates will cause
investment to fall sharply, resulting in a crowding-out effect, so the increase
in national income is relatively small.
(Kazuyoshi Miwa / Osamu Maruyama) (三和一善)