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Fiscal policy is a set of tools used to leverage the changes occurring in aggregate supply and demand of a given commodity in an economy. In some fiscal policy, constitute measures taken by governments to correct situations of shortages and excess resulting from revenue-expenditure imbalances. As in the case of national budget outcome the overall economic activity, instances of aggregate supply and demand may have three important effects on changes associated with fiscal policy: first, the economy may experience expansion when fiscal policies recommend government spending on available commodities in order to meet the aggregate demand of the economy. As the quantity of the commodity finds huge buyout of the market through trade, the suppliers provide more of the commodity in the market while demand falls accordingly. This situation finally leads to a deficit as is usually noted with expansionary effect. Similarly, the fiscal policy may have a contraction effect on sectors where demands experienced goes beyond the available supply (Heyne, Boettke, & Prychitko, 2002, p. 23).
In this case, the government declines from excessive spending as it generates revenue through taxes in the related sector. If this trend continues with the potential consumers moving ahead to spend on their demands, then it would result in government surplus. When the interaction of market forces of supply and demand strike a balance in the market; then fiscal policy requires that government spending is sustained by tax revenue generated during the trading period. Therefore, in an economic interplay between aggregate demand and supply the role of fiscal policy in regulating the extreme shortages and surpluses created by the variation in overall economic activity. In the micro economy, the government often uses fiscal policy to improve aggregate demand, when the demand of a certain commodity significantly falls. This normally takes the style of increased government spending and tax rate to elevate the level of aggregate demand (Heyne, Boettke, & Prychitko, 2002, p. 22).
Again, using aggregate supply, the government employs fiscal policy frameworks that would ensure economic growth and an economic recovery pattern so that all the resources available meet full utilization in the renewed economic activity. In order to correct or avert possible inflationary tendencies, adjusting tax rate in the fiscal policy serves as the best means of using government surplus mop out some of the money in the economy and thus reduce the levels of aggregate demand. In this case, fiscal policy leads to a shrinking economy but meets the expectations of the government in terms of stabilizing prices in its local market (Heyne, Boettke, & Prychitko, 2002, p. 18).
Fiscal policy mechanisms play important roles in the following areas: when an economy is experiencing expansion because of increased economic activity, it usually creates a budget deficit. On the other hand, when the economy is undergoing contraction, fiscal policy creates surplus in the national budget, rectifiable through increased taxation and sale of government securities and bonds to adjust the aggregate demand (AD). In addition, fiscal policy plays a critical role in re-investing the monetary value of budget surplus within the same economy that generates it (Heyne, Boettke, & Prychitko, 2002, p. 24).
In the whole economy, the tire and automotive industry repair business may function as a micro-economy where the principles of fiscal policy play to check the balance between the supply and isolated demand. Thus, in the abundance of second rate tires and motor vehicles, new tire and automakers produce at relatively reduced prices. Similarly, the micro-economic fiscal policy would demand that the costs of tire and automotive repair decline significantly. This continues until the level of aggregate expenditure and revenue from all players in this business balance demand and supply of both new and repaired automotive components. ,
References
Heyne, P. T., Boettke, P. J. & Prychitko, D. L. (2002). The economic way of thinking. NJ: Prentice Hall. M.
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