Monetary and Fiscal policy

Everyone knows that our economic is supported by the different policies and reformations made by the government and the banking sector which is headed by the governing body Reserve Bank of India. But what are the various types of economic policies that are opted by these two to improve our countries economy and meet the financial needs. The policies could mainly differ to be of two types and they are:-

1. Monetary policies

2. Fiscal policies

• The Monetary policy involves changing the interest rate and influencing the money supply by the RBI or the central bank of any other country and regulating of repo rates or moratorium periods.
• While the Fiscal policy involves the government changing tax rates and levels of government spending to influence aggregate demand in the economy.

How monetary policy works:-

• The Central Bank may have an inflation target of 5%. If they feel inflation is going to go above the inflation target, due to economic growth being too quick, then they will increase interest rates.
• Higher interest rates increase borrowing costs and reduce consumer spending and investment, leading to lower aggregate demand and lower inflation.
• If the economy went into recession, the Central Bank would cut interest rates just as it happened recently due to the crash of economy due to covid.
• The central bank regulates the interest rate by cutting down of repo rates which indirectly results in the cutting down of interest rates.
• The printing of new notes and supply of it and bond yields are also some other parts of the monetary policies.

Fiscal policy

Fiscal policy is carried out by the government and involves changing:

• Level of government spending
• Levels of taxation

1. To increase demand and economic growth, the government will cut tax and increase spending (leading to a higher budget deficit)
2. To reduce demand and reduce inflation, the government can increase tax rates and cut spending (leading to a smaller budget deficit)

Hence this would have made you understand how important the yearly budget of a country is.

These different policies in certain periods could be in contrary or expansionary mode based on situation and regulations of the two different bodies.

What could this mean?

1. Expansionary Fiscal and Expansionary monetary policy:- It has a highly expansionary impact on the overall economy. It means the loans would have low interest rates. There will be an expansion of public and private sector.

2. Contracting Fiscal and contracting monetary policy:- This would mean a very low aggregate demand and GDP and hence a weak economy. High interest rates will be charged. The public and private sectors seem to keep contracting.

3. Expanding Fiscal and contracting monetary policy:- High aggregate demands. A high interest rate but yet a increased government spending. This situation could sometimes be seen when the economic is trying to bounce back post an huge economic crisis and slowly heading towards its revival. 

4. Contracting Fiscal and Expansionary monetary policy:- This is the situation with low interest rates and reduced government spending. This means the growth and expansion of the private sector and the privatization of the economy.

Hence, based on these various outlooks the government and the central bank coordinate with each other and opt various steps for a better economic growth of the country on time to time basis.