How Government Expenditure And Taxation Is Used By A Means Of Managing The Level Of Demand

How Government Expenditure And Taxation Is Used By A Means Of Managing The Level Of Demand

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4. Fiscal Policy, i.e. the use of Government expenditure and Taxation, is used by a means of managing the level of demand. There is an array of factors, which could limit its effectiveness. One such factor is expectations, if demand is low then it is expected that Government expenditure will increase or taxation rates will fall to try and stimulate demand. Although what is to say they will spend this extra income.
Another issue is time lags, if the Government spent more money in the economy it will take time for the majority of people to feel these effects and some people may not feel these effects at all. Therefore fiscal policy may not be very effective in influencing demand.
Policy decisions ultimately depend on the information, which is collected, and forecasts which are made. If this information is incorrect then the policy decisions made will be fundamentally wrong. (Sloman 2012)
Finally Fiscal policy can only affect a small part of aggregate demand and cannot effect Investment and its effectiveness is limited when it comes to the balance of payments. In conclusion it is clear that Fiscal policy can be used to control demand but its effectiveness is limited.

5. Credit creation is a process which increases the amount of bank deposits which are larger than the original deposits. The process begins by looking at the assets and liabilities the bank has. For simplicity we will assume that it has one liability, deposits, and two assets, which are balances to the central bank to succeed liquidity and advances to other customers e.g. loans. The bank then needs to decided on its liquidity ratio, for this example we will set it at 20%. Therefore is someone deposits £100,000 into the bank, and was no deposits in the bank ...


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...e spending and reward saving. Governments can use this in order to control demand.
A big factor, which can control the level of consumption in the economy, is confidence and expectations. For example, in a economic downturn confidence is low, people are unsure about their future i.e. their jobs and therefore keep spending to a minimum. People’s expectations also play a part towards consumption expenditure if they feel the price of a good/service is going to fall they will wait in order to see if this occurs.
The last factor is that of inflation. Inflation erodes the purchasing power of money. Therefore your wealth is worth more today than it will be in the future. This has the potential to sway people towards making bigger purchases in the short term rather than waiting into the longer term when their money is worth less. (economicshelp.org, Tejvan Pettinger)

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