You've mastered the AD-AS model! Now let's explore the powerful tools governments and central banks use to steer the economy through booms and busts.

Fiscal policy uses government spending and taxation. Monetary policy uses interest rates and money supply control.

Engagement Message

Which type of policy do you think acts faster - fiscal or monetary?

Fiscal policy is controlled by a country's government (such as a parliament, legislature, or executive branch). During recessions, they can increase government spending (G) or cut taxes to boost consumer spending (C).

Remember: AD = C + I + G + NX. Both actions shift AD rightward, fighting unemployment.

Engagement Message

If the economy is in recession, should the government increase or decrease spending?

Expansionary fiscal policy fights recessions with higher spending or lower taxes. Contractionary fiscal policy fights inflation with lower spending or higher taxes.

During major economic downturns, many governments have spent heavily on public projects and provided tax relief—classic expansionary policy.

Engagement Message

During high inflation, would contractionary fiscal policy involve raising or lowering government spending and taxes?

Monetary policy is controlled by a country's central bank. They primarily use interest rates to influence borrowing and spending.

Lower interest rates make loans cheaper, encouraging business investment (I) and consumer purchases of homes and cars.

Engagement Message

How would lower interest rates affect your decision to buy a car?

Expansionary monetary policy uses lower interest rates to boost spending and fight recession. uses higher rates to cool inflation.