What is Economic Stimulus?

With the dawn of the COVID-19 pandemic, various nations are offering economic stimulus to boost the economy and overcome the financial lull. Here’s everything you need to know about the meaning of economic stimulus and its impact on a nation.

Economic Stimulus?

Economic Stimulus refers to a combination of economic measures introduced by the government to combat a struggling economy. Some examples of the measure taken by governments include reducing interest rates, quantitative easing, increasing government spending, etc.

When the government foresees a recession, they undertake a series of measures to improve consumption in the private sector and encourage spending. Thus, the objective of an economic stimulus is to increase the consumer spending in the economy. An economic stimulus may be a preventive or a corrective measure. Economic stimulus in India is a regulated by the Reserve Bank of India in conjunction with the Government of India.

An economic stimulus is a combination of monetary policy and fiscal policy.

1. Monetary Policy

   This is monitored by the Central Bank of the nation. The purpose of the monetary policy is to regulate the supply of money and interest rates in an economy. In turn, inflation, employment, and GDP growth are directly impacted by the monetary policy.

   The Central Bank regulates the liquidity in the market to regulate the monetary policy. By reducing the cash reverse ratio, the statutory liquidity ratio maintained by other banks with the Central Bank increases the liquidity in the economy. Alternatively, increasing the reverse requirement ratios reduces the liquidity. Similarly, modifying the interest rate offered by the Central Bank, buying and selling government securities in the open market also has an impact on liquidity.

2. Fiscal Policy

   The Fiscal Policy is controlled by the Government and includes government spending and taxation policies. The government expenditure includes infrastructure projects, healthcare, education, etc. which they are liable to incur during the financial year.

What is a Fiscal Stimulus?

A meaning of fiscal stimulus is a package of tax rebates and incentives. It is used by the government to infuse liquidity into the economy during a crisis. By infusing liquidity in the economy, the spending increases and so do the employment opportunities. Eventually, the per capita income increases which results in an improvement in demand and the overall financial health of the nation.

The fiscal stimulus may be in the form of direct subsidies, loans, tax incentives. In some cases, the government also hands over the money. Bailouts of stressed individuals, companies or industries are also included in fiscal stimulus offered by the government.

In recent times, the government of various nations including the United States and India has offered multiple economic stimulus packages to stimulate the economy by creating jobs and boosting demand. Similarly, during the global financial crisis of 2008, stimulus packages were offered by various nations. Fiscal stimulus in India is closely monitored by the Government of India and is subject to regular review.

What is the Economic Impact of Fiscal Stimulus Package?

A fiscal stimulus aims to increase the country’s GDP through its actions. By increasing and decreasing government spending, the government can infuse liquidity into the economy and boost employment and economic growth.

For example, building public infrastructure will increase employment for workers on the project. It will also increase the spending on materials and equipment required for the project, thereby increasing the overall consumption.

Similarly, by increasing or decreasing tax rates, the government can influence the economy of the nation. Lower tax rates provide individuals and businesses with more disposable income. As a result, consumption and savings practices of consumers and businesses increases. Higher consumption leads to an increase in demand, thereby increasing employment opportunities and compensation.

As this continues, the economy recovers from collapse. By stimulating economic growth, the stimulus expenditure may even pay for itself through higher tax collections from accelerated growth.

What are the Risks of Economic Stimulus Packages?

There are various counterarguments to the introduction of economic stimulus packages. The primary reason is that stimulus packages are financed by government debt. High debt levels increase the bankruptcy risk for the government of the nation. The probability of a large, developed economy going bankrupt is low. However, for smaller and unstable countries, increased government debt may pose a serious threat.

Secondly, some faction believes government-infused liquidity may reduce private investment. The reason is, rising labour costs increase production costs and reduce business profits. Alternatively, a stimulus package may be utilized in wasteful projects yielding low returns and defeating the purpose of a stimulus package.

Final Word

An economic stimulus can be the saving grace of many countries in trouble but it does involve risks. However, it is a relief for many countries looking to boost their economy and increase their entire rapport worldwide.