Fiscal Policy - Reflationary Fiscal Policy

Governments may choose to use reflationary fiscal policy in times of recession or a general downturn in economic activity. In this situation they will use their fiscal policy to give a boost to the economy. They may do this by lowering taxes in some form or by increasing the level of government expenditure. This will encourage people to spend more. If they lower indirect taxes then this will lower the prices of the taxed goods and encourage more demand. Alternatively they could lower direct taxes. This will raise people's disposable income (their take-home pay) and therefore encourage them to spend more. Either way the level of demand in the economy should rise and help encourage economic growth.

Reflationary fiscal policies could therefore include:

• Cutting the lower, basic or higher rates of tax
• Increasing the level of personal allowances (see the income tax explanation for more details on these)
• Increasing the level of government expenditure

Why not try some of these policies on the Virtual Economy? Click on the 4th floor on the side bar or on the link at the top of the page to access the model and try these policies. Try any of them and see the effect they have on the level of economic growth, unemployment and inflation. You should find growth increasing, unemployment falling and inflation rising (after a time-lag perhaps).