Expansionary Policy

Published Mar 5, 2023

Definition of Expansionary Policy

Expansionary policy (e.g., expansionary fiscal policy) is a macroeconomic strategy that increases the money supply or decreases taxes to stimulate economic growth. This policy aims to increase aggregate demand by increasing consumer spending or investment. The expansionary policy is typically used during an economic downturn or recession to stimulate the economy’s growth and job creation.

Example

During the 2008 global financial crisis, the Federal Reserve in the United States implemented an expansionary monetary policy. The Federal Reserve reduced interest rates to provide incentives for banks to lend money to businesses and individuals. Lower interest rates made it cheaper for businesses and individuals to borrow money, encouraging them to spend and invest. This injection of funds into the economy helped to stimulate spending and investment, resulting in economic growth and job creation.

Another example of expansionary policy is the use of fiscal policy to increase government spending or reduce taxes. During the COVID-19 pandemic in 2020, many countries implemented expansionary fiscal policy to provide relief to individuals and businesses. Governments increased unemployment benefits, distributed stimulus checks, and provided financial assistance to businesses to encourage spending.

Why Expansionary Policy Matters

Expansionary policy is a critical tool in balancing the economy and promoting growth. During economic downturns or recessions, businesses may struggle to access credit, leading to decreased spending and investment. In those situations, expansionary policy helps to boost spending and investment by making it easier for businesses and individuals to access credit. This, in turn, can lead to increased economic growth, job creation, and an improved standard of living. However, expansionary policy also carries the risk of inflation if not managed correctly. As such, policymakers must carefully balance the benefits and risks of expansionary policies to ensure they promote sustainable economic growth.