Balanced Budget, Monetary and Fiscal Policies

Balanced Government Budget

A balanced government budget is a budget, in which expenditures are on the same level as revenues; however, a budget can also be considered balanced if the expenditures are smaller compared to revenues. In this environment, there is generally no deficit, although there could be a surplus that does not harm the economy. Many economists agreed that a balanced budget had the potential to decrease interest rates and, thus, subsequently increase investments and savings for the economy that will be able to grow at a rapid pace over a prolonged period.

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If to mention the views of the supporters of the argument pro the balanced budget, the research by Stone (2016) stated that the balanced-budget rules increase the growth of the economy using increasing the productivity of debt as well as withstand “a variety of robustness checks, including alternative lags […] and the influence of outliers” (p. 79). Therefore, the proponents of a balanced budget suggest that it can be an effective tool for preventing government spending from expanding beyond the limits of an entity. In turn, this contributes to the avoidance of deficits (an economic environment where revenues are smaller than expenses) that hurt the economy, as mentioned by Mankiw (2014). In the case when the government establishes a formalized balanced budget, there are restrictions on spending that can be authorized by lawmakers. Depending on the economic circumstances, such a development can be either positive or negative. On one end of the spectrum, a balanced budget can reduce the government’s wasteful spending, while on another end it can limit useful spending. Despite the obvious benefits of the balanced government budget, there are some limitations that opponents usually point out to advocate against the usage of balanced budget rules in economies.

However, on the other side of the debate, balanced budgets have been heavily criticized as not desirable for the economy (especially every year). If an economy is steadily pursuing a balanced budget without taking into account the current circumstances, the economic downturns could become very complicated, as argued by critics. If a balanced budget were established during a recession and deficit, the cuts in the economy would make the environment even worse. Also, proponents of Keynesian economics argued that the best way of developing balanced budgets had to be associated with business cycles.

The argument against the constant usage of balanced budgets seems to hold more ground as opposed to the views of the balanced budget supporters that usually disregard the economic environment in which the budget is being established. For example, during recessions, a balanced budget cannot fix the problem, thus, instead, governments should run deficits (increasing spending and decreasing taxes) that will potentially mitigate the adverse effects of a recession-stricken economy. As soon as the economy recovers and moves towards the cycle of growth, the government should shift its approach and run a surplus (decreasing spending and increasing taxes). As a result, the economy will balance itself in periods of recession and surplus cycles without risking establishing a balanced budget that disregards the economic environment of a country. Overall, the topic of balanced budgets is controversial; however, the suggestion to establish it in cycles, depending on the economic situation, can be considered more useful since it takes into account the immediate and the long-term implications.

Active Monetary and Fiscal Policies

When governments need to influence the macroeconomic outcomes, monetary and fiscal policies have been primary sources of their action. Underactive monetary policies, a central bank of the country implements monetary measures to respond to the shifting economic conditions. The bank has to choose acting or not acting based on the economy’s assessment. Active fiscal policies are associated with the country’s government (the president, the Congress, etc.) making a deliberate decision to change the economy’s course by altering the spending or taxation. According to the findings of de Jesus and Correia (2016), fiscal policies can be effective macroeconomic stabilization tools.

When it comes to the opinions of monetary policy supporters, there is a prevailing view that central banks can act very quickly when using monetary policy instruments, and often even the signal of their intentions can bring some results. Another view that supporters hold is associated with the fact that central banks do not depend on politics, which means that monetary actions can be undertaken in the period of elections without the risk of any negative political repercussions. Furthermore, monetary policies such as lowering interest rates and increasing the supply of money lead to currency weakening (Kliem, Kriwoluzky, & Sarferaz, 2015), which, in turn, contributes to the increase in exports. Among the positive contributions of fiscal policies, supporters stated that governments could direct their spending to specific areas since fiscal policies are not general. Furthermore, the effects of fiscal policies can be seen much sooner compared to the consequences of monetary tools implementation.

As the topic of active fiscal and monetary policies has been heavily debated, there is another point of view regarding their implementation that goes against the positive characteristics described previously. Opponents of monetary policy implementation have argued that there is a risk of hyperinflation; for instance, if the Central Bank sets interest rates that are too low, there is a possibility of over-borrowing at cheap rates. Furthermore, monetary policies have been criticized for the lags in implementation: if monetary policy is implemented too quickly, the macro effects will usually appear after some time. Regarding the criticism of fiscal policies, there is a risk of budget deficits and the possible political motivation that can have adverse effects on the economy overall.

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Given both perspectives on the topic of active monetary and fiscal policies, the view in support of these macroeconomic enhancement tools holds more ground. The benefits of monetary and fiscal policies are vast and thus can have an impact on countries’ economies. When it comes to monetary policies, they are effective in promoting political freedom of banks, their transparency, and predictability. Since the economic development of countries tends to be unpredictable (which hinders the majority of processes in the country), if there is an option to make it smoother and more predictable, the government should always choose to support its implementation.

References

de Jesus, C., & Correia, F. (2016). Active fiscal policy and macroeconomic stability. Journal of Economic Studies, 43(5), 749-762.

Kliem, M., Kriwoluzky, A., & Sarferaz, S. (2015). Monetary-fiscal policy interaction and fiscal inflation: A tale of three countries. European Economic Review, 88, 158-184.

Mankiw, G. (2014). Principles of macroeconomics (7th ed.). Mason, OH: Cengage Learning.

Stone, J. (2016). Do balanced-budget rules increase growth? Bulletin of Economic Research, 68(1), 79-89.

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StudyCorgi. (2020, October 27). Balanced Budget, Monetary and Fiscal Policies. Retrieved from https://studycorgi.com/balanced-budget-monetary-and-fiscal-policies/

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"Balanced Budget, Monetary and Fiscal Policies." StudyCorgi, 27 Oct. 2020, studycorgi.com/balanced-budget-monetary-and-fiscal-policies/.

1. StudyCorgi. "Balanced Budget, Monetary and Fiscal Policies." October 27, 2020. https://studycorgi.com/balanced-budget-monetary-and-fiscal-policies/.


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StudyCorgi. "Balanced Budget, Monetary and Fiscal Policies." October 27, 2020. https://studycorgi.com/balanced-budget-monetary-and-fiscal-policies/.

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StudyCorgi. 2020. "Balanced Budget, Monetary and Fiscal Policies." October 27, 2020. https://studycorgi.com/balanced-budget-monetary-and-fiscal-policies/.

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StudyCorgi. (2020) 'Balanced Budget, Monetary and Fiscal Policies'. 27 October.

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