The federal government is responsible for creating laws and programs to keep U.S. citizens safe, but it also commonly attempts to influence the direction of the economy. Fiscal policy describes actions the government takes to impact the economy through changes in spending and taxation. Fiscal policy typically aims to achieve such economic goals as steady growth, high employment and stable prices.
Achieving a high rate of economic growth is among the primary goals of fiscal policy. When the economy is growing quickly, businesses tend to expand and people tend to earn more income, which increases the overall prosperity of the nation. Reducing taxes is a way that the government can promote economic growth through fiscal policy. When taxes are lower, consumers have more money to spend, which tends to increase investment and business revenue, which leads to economic growth. Higher government spending can also spur economic growth.
Achieving high levels of employment is another common goal of fiscal policy. Unemployed workers tend to have little money to spend than workers with jobs, which tends to hamper economic growth. In addition, unemployment increases the government's expenses, because it pays unemployment benefits to unemployed workers. Reducing taxes to encourage economic growth and business expansion can encourage hiring and increase employment. Similarly, government spending can increase employment, as new government works programs involve hiring workers.
Another goal of fiscal policy is to stabilize the economy by reducing the impact of fluctuations in the economy. Economies tend to follow a pattern of economic expansions, or "booms," followed by economic slowdowns, or "busts." The government can use fiscal policy to lessen the severity of busts by increasing spending and reducing taxes. It in turn reins in excessive expansion that may lead to undesirable effects like high inflation by increasing taxes and cutting spending. In essence, the government can try to smooth the trend of booms and busts to achieve a more stable trend of constant economic growth.
Fiscal policy has the potential to redistribute wealth across consumers in the economy. For example, those with higher income face higher income tax rates than those with low income, which allows those with low income to keep and spend a larger proportion of their income.