Analysis : Monetary And Fiscal Policy

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Monetary and Fiscal Policy Fiscal Policy The three member governments in NAFTA have implemented contractionary fiscal policies to achieve a solid fiscal position. These policies include a tax reform to expand the revenue base and to offset the income loss from the declining tariff collection. There has been an increase in employment, output, and aggregate demand so contractionary fiscal policies have been established. Since free trade has lowered tax collection, the governments’ have had to entail tax increases which include personal and corporate taxes. These tax increases have restrained economic activity and allowed the circular flow of income in the economy to balance itself by reducing aggregate demand. This reduction in aggregate…show more content…
Therefore, something needs to be done because a family should not be spending more money on taxes than on basic living. This is where the North American governments’ contractionary fiscal policies are necessary to amass the tax revenue that was previously generated through foreign trade. Monetary Policy To maintain a balanced and successful economy, the North American member governments have used contractionary monetary policies. All the major banks throughout the NAFTA nations decrease the money supply by increasing the overnight lending rate. This causes interest rates to rise either directly or through the increase in the supply of bonds on the open market through sales by the Fed or by banks. This increase leads to a reduction in the price for bonds, which will be bought by foreign investors, thus, increasing the value and demand of the domestic currency and decreasing the value and demand of the foreign currency. This in turn makes domestic products more expensive abroad and foreign products cheaper domestically, causing more foreign products to be sold domestically and less domestic products sold abroad. As a result, there is a higher exchange rate. The higher exchange rate causes exports to decrease, imports to increase as well as the balance of trade to decrease, moving the aggregate demand curve down. However, when imports exceed exports, there is a trade deficit, meaning that there is an outflow of domestic currency to foreign
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