What this lesson teaches
I can explain fiscal, monetary and supply-side policy and judge how well each works.
Syllabus 8843, 3.2.3(b). Macroeconomic Policies: Policy measures and their effectiveness in achieving macroeconomic objectives:; Fiscal policy - How discretionary fiscal policy can influence the level of economic activities and living standards through government spending and taxation; Supply-side policies - How supply-side policies can improve quantity, quality and mobility of factors of production to increase the productive capacity of an economy and hence affect living standards; Monetary policy - How monetary policy can influence the level of economic activities and living standards through the management of exchange rates (case of Singapore) and interest rates
Make a guess
The budget surplus shrinks from 10 to 2 because spending rose. Is fiscal policy contractionary?
- Yes. Any surplus means contractionary policy.
- No change, because the budget is still in surplus.
- No. It became more expansionary than the year before.
Show the answer
No. It became more expansionary than the year before.
A surplus still takes more out than it puts in, but a smaller surplus means more spending than before, which adds to AD.
A deficit this year is not the whole story; what matters is whether the government can keep meeting its commitments.
A budget deficit means government spending is greater than revenue this year; a surplus means revenue is greater.
A deficit adds to government debt, which must be repaid, with interest, in future.
Fiscal sustainability means the government can keep meeting its commitments without an unmanageable rise in debt. It depends on future revenues, spending needs such as an ageing population, and interest costs.
Singapore aims to balance its budget over each term of government. It can also use part of the returns from its reserves (the Net Investment Returns Contribution), which gives it room to respond to crises.
- Deficit
- Spending > revenue this year.
- Sustainable
- Commitments can be met without runaway debt.
Worked example: What a deficit of 5 tells us
Revenue is 100 and spending is 105 this year, a deficit of 5. A temporary emergency programme accounts for 8 of that spending.
- Without the emergency programme, there would be a surplus of 3.
- The deficit reflects a temporary choice, not a lasting problem.
- Sustainability depends on whether the programme ends and on future revenue and spending needs.
Watch out for this
A budget surplus always means fiscal policy is contractionary.
A surplus can shrink because spending rose. A smaller surplus is expansionary compared with the year before.
Check your understanding
Revenue stays at 120, but spending rises from 110 to 118. What happened to fiscal policy?
- The stance is unchanged, because revenue is the same as before.
- It became more expansionary, though the budget is still in surplus.
- It became contractionary, because the budget is still in surplus this year.
Show the answer
It became more expansionary, though the budget is still in surplus.
Right. The surplus shrank from 10 to 2, so the government is adding more to AD.