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Difference between Monetary Policy and Fiscal Policy

monetary policy vs fiscal policy

What's the difference between Fiscal Policy and Monetary Policy? Economic policy-makers are said to have two kinds of tools to influence a country's economy: fiscal and monetary.

Main Difference

In economics, fiscal policy and monetary policy are two important polices adopted by the government and central bank to control the economy by increasing or decreasing the rate of tax and money supply during inflation. The ultimate purpose of both policies is to achieve growth. The main difference between these two policies is that fiscal policy is implemented by the government while monetary policy is imposed by the state or central bank of a country.

Fiscal policy : relates to government spending and revenue collection. For example, when demand is low in the economy, the government can step in and increase its spending to stimulate demand. Or it can lower taxes to increase disposable income for people as well as corporations.

Monetary policy : relates to the supply of money, which is controlled via factors such as interest rates and reserve requirements (CRR) for banks. For example, to control high inflation, policy-makers (usually an independent central bank) can raise interest rates thereby reducing money supply.

Monetary Policy

Monetary policy refers to the state/central banks measures to control the supply and demand of money in the country in order to control the inflation and interest rate in the country to stable the national currency. Economic growth, achievement of lower unemployment and dealing with exchanges rates with other currencies are also the objectives of monetary policy. Like fiscal policy, central bank also implements two type of monetary policies, expansionary monetary policy and contractionary monetary policy. Expansionary policy mean increase in supply of money and low credit conditions by decreasing interest rates with the hope of decreasing unemployment, increasing economic growth. Contractionary monetary policy is imposed by the central bank by decreasing the money supply, toughing the credit conditions by increasing the interest rates in order to control the inflation in the country and decreasing the supply of currency in the country.

Fiscal Policy

Fiscal policy refers to the government measures to control the inflation and achieve the economic growth by increasing or decreasing the tax rate. It totally deals with government spending/expenditures and taxation and is totally controlled by the government. For economic growth, government adopts two types of fiscal policies, expansionary fiscal policy and contraction fiscal policy. Expansionary fiscal policy means to increase the government expenditures and decrease the taxes to increase the budget deficit and decrease the budget surplus. It is adopted by the government to control inflation in the country. Contractionary fiscal policy means to decrease the government expenditures and increase the taxes to decrease the budget deficit and increase the budget surplus.

Key Differences Between Fiscal Policy and Monetary Policy

  • Fiscal policy is imposed by the government through legislation while monetary policy is imposed by the state/central bank.
  • Government/public expenditures and rate of taxes are major tools in fiscal policy while supply of money and interest rates on credit are the major tools for the implementation of monetary policy.
  • Fiscal policy deals with the level of aggregate demand in order to achieve the economic growth, controlling inflation and full employment level. While monetary policy deals with the supply of money in order to achieve the economic growth, monitoring the exchanges rates of currencies, and economic growth.
  • According to economist and experts, monetary policy is more effective as comparison to fiscal policy as it is free from political influence.
  • It is very easy to implement the monetary policy by revising the interest rates every month but it is very hard to change and implement the fiscal policy as it take time to revise the policy.
  • In time of deep recession, expansionary fiscal policy is more effective as compare to monetary policy.
  • Fiscal Policy is made for a short duration, normally one year, while the Monetary Policy lasts longer.
  • Fiscal Policy is concerned with government revenue and expenditure, but Monetary Policy is concerned with borrowing and financial arrangement.

The policies are formulated and implemented to bring stability and growth in the economy. The most significant difference between the two is that fiscal policy is made by the government of the respective country whereas the central bank creates the monetary policy.

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