ABSTRACT

The immediate effect of fiscal policy in an economy is to change the aggregate demand for goods and service. A fiscal expansion for example raises aggregate demand through one of these two channels: first, ii the government increases its purchases hut keeps taxes constant, it increases demand directly. Second. if the government cuts taxes or increases transfer payment, households' disposable income rises and they will spend more on consumption. The rise in consumption will in turn raise aggregate demand. Physical policy is an important tool for managing the economy because of its ability to affect the total amount of output produced- that is, the gross domestic product. (Adehayo, 199 ln a recession. the government can run an expansionary fiscal policy, thus helping to restore output to its normal level and to put unemployed workers back to work. During a boom when inflation is perceived to be higher than unemployment, the government can run a budget surplus, helping to slow down the economy. Fiscal policy is especially difficult to use for stabilization because of the inside lag. that I the gap between the time when the need for fiscal policy arises and when it is being implemented. A fiscal expansion affects a country's output level in the km run because it affects the country's saving rate.