Which of the Following Is an Example of an Expansionary Fiscal Policy?

Expansionary fiscal policy plays a critical role in stimulating economic growth, especially during recessions or periods of sluggish activity. By increasing government spending or reducing taxes, policymakers aim to boost aggregate demand and promote employment, helping to counteract economic downturns and support recovery efforts.

Examining various examples of expansionary fiscal policies highlights how governments can effectively influence their economies.

Tax Rate Reductions

Tax rate reductions are a fundamental tool of expansionary fiscal policy, designed to invigorate economic activity by increasing disposable income for individuals and businesses. Lower taxes give taxpayers more financial resources, encouraging consumer spending and business investment. For example, reducing personal income tax rates can lead to higher household consumption, as people have more money to spend on goods and services. This rise in consumer spending stimulates demand across sectors, potentially driving job creation and economic growth.

For businesses, lowering corporate tax rates can incentivize expansion, new investments, and hiring. Reduced tax burdens free up capital for reinvestment in operations, fostering productivity and innovation. For instance, the Tax Cuts and Jobs Act of 2017 in the United States lowered the corporate tax rate from 35% to 21%, aiming to stimulate business investments and economic growth. Increased business activity subsequently drives demand for goods and services, amplifying growth across the economy.

Government Infrastructure Spending

Government infrastructure spending is a powerful example of expansionary fiscal policy, creating immediate job opportunities while delivering long-term economic benefits. Investments in public projects like roads, bridges, and energy systems not only generate employment in construction and related industries but also improve productivity by reducing transportation costs and increasing efficiency. For example, the Infrastructure Investment and Jobs Act passed in the United States in 2021 allocated $1.2 trillion to modernize transportation, broadband, and utilities, aiming to stimulate growth and enhance the nation’s foundational assets.

Such investments can also make a country more competitive, attracting businesses that depend on efficient logistics and reliable utilities. Upgraded infrastructure supports technological advancements, such as the integration of renewable energy sources, aligning with global sustainability goals. Germany, for instance, has used infrastructure investments to transition toward a more sustainable energy grid, promoting innovation and reducing environmental impact.

Expanded Transfer Payments

Expanded transfer payments directly boost economic activity by increasing government disbursements to individuals, providing immediate financial relief to those in need. These payments, such as unemployment benefits, social security, or welfare programs, target populations with a high propensity to consume, ensuring funds are spent quickly on essential goods and services. This spending stimulates demand and fosters economic growth.

A notable example is the enhancement of unemployment benefits during economic downturns. During the COVID-19 pandemic, the United States and other countries temporarily increased unemployment benefits to sustain consumer spending and stabilize the economy. This approach provided a safety net for displaced workers while maintaining demand for businesses, mitigating the effects of widespread job losses. By stabilizing consumer demand, businesses were better positioned to retain employees and avoid deeper cuts, supporting overall economic recovery.

Transfer payments also address income inequality by redistributing wealth through progressive measures. Programs like the Earned Income Tax Credit (EITC) in the United States provide refundable tax credits to low-income working families, effectively increasing their disposable income and encouraging workforce participation. Such initiatives foster a more inclusive economy, where opportunities for advancement are more equitable.

Targeted Business Incentives

Targeted business incentives are a nuanced component of expansionary fiscal policy, designed to stimulate specific industries or sectors with high growth potential. By offering benefits like tax credits, subsidies, or grants, governments encourage activities that align with strategic economic priorities. These incentives often focus on emerging industries such as technology, renewable energy, or healthcare. For example, the U.S. federal government’s Research and Development (R&D) Tax Credit reduces tax liability for companies investing in innovative projects, driving technological advancements and economic growth.

Such incentives can also attract foreign direct investment (FDI), enhancing a nation’s competitive edge. Ireland, for instance, has successfully used low corporate tax rates to attract multinational corporations, fostering job creation and economic vitality. Similarly, the Opportunity Zones program in the United States offers tax advantages to investors in economically distressed areas, spurring development and revitalization. By targeting areas of need, these incentives can have transformative effects, fostering economic resilience and growth.