Difference Between Fiscal and Monetary Policy

Fiscal vs Monetary Policy

Every other day we hear some news items about changes in fiscal policies of the government. We also get to see economists debating various monetary policies of the government. Though we know that both fiscal and monetary pertain to economics, we cannot make out differences between fiscal and monetary policies. There are similarities in the sense that both monetary as well as fiscal policies are meant to give a guiding force to the economy if it is moving in a sluggish manner. However, there are many differences that will be highlighted in this article.

Fiscal policy pertains to taxation and how the government proposes to spend the revenues generated through this policy. Monetary policy, on the other hand pertains to all efforts made by government and the apex bank of the country to stabilize the economy by pumping in money (maintaining supply) and fixing interest rates that affect population at large. Both fiscal as well as monetary policies have effects on the life of the common man as government expenditure and revenue generation decides income levels of the common man, and so does the policies declared by the apex bank to increase or decrease liquidity in the economy.

Fiscal policies of a government are made clear every year through the finance budget read by the financer minister. However, monetary policies are handled by the apex bank and its controlling board that takes ad hoc measures to cool down an overheated economy and also pump in money to increase the supply of money if there is sluggishness in the economy.

It is the endeavor of every government to increase revenues and decrease spending. However, it is not normally possible to cut down on expenses as a result of inflationary pressures, and this also necessitates generation of more revenues to fuel the economy. All this manipulation of available funds to run developmental programs is reflected in the fiscal policy of the government. When there is a slump in the economy (GDP not increasing as expected), the government, in its effort to provide stimulus to the economy proposes tax cuts so that, more money is released for business and industrial activities. The same is sought to be achieved through monetary policy that is announced by the apex bank. The bank lowers the interest rate to release more money at reduced interest rates to industries and agriculture to promote developmental activities.

One weapon in the hands of central bank of a country is cash reserve ratio or CRR, which is the amount of money that all banks need to deposit with the apex bank. Whenever, the economy needs more money, this CRR is reduced to make available more funds available at the disposal of commercial banks that they can forward to various sectors of economy. On the other hand, a higher CRR restrains banks from giving easy loans to industry and agriculture thus, tightening the economy and making tighter money supply.