Fiscal Deficits, Economic Growth, and Policy Solutions: Analyzing
the Impact of Expansionary Measures and Sustainable Debt Management
Discuss the impact of expansionary fiscal and monetary policies on
government deficits, using the Phillips curve and Okun's Law to illustrate the
relationship between inflation, unemployment, and GDP. Additionally, analyze the
long-term consequences of sustained fiscal deficits on economic growth, considering
both theoretical perspectives (Keynesian and Monetarist) and empirical evidence
from different nations. How can a government effectively manage fiscal deficits
while fostering long-term economic stability? Your answer should critically evaluate
the role of productive versus unproductive government spending and the
implications for future generations.
Word Count Requirement: 1500-2000 words

PART 1:
Maintaining a low level of unemployment as well as a low inflation rate are part of the dual
mandate of the FED. The possibility of having low inflation and low unemployment is given by the
Philips curve – it provides policy makers with a tradeoff between inflation and unemployment in
the short run. A government can keep unemployment under check and allow inflation OR it can
keep prices under check without being able to control unemployment. This tradeoff is shown as a
negative relation between inflation and unemployment. In the long run the curve is vertical at the
natural rate of unemployment, so that there government has no control over unemployment, it can
only manipulate the inflation rate.
As given, unemployment rate is very high while inflation rate is at acceptable level of 2%. This
requires expansionary fiscal policies that include an increase in government expenditure on goods
and services or a substantial reduction in tax rates. The primary impact of this policy is the rise in
budget deficit ( G-T). monetary policy can also be used to raise money supply so that consumption
and investment spending is not constrained by lack of money. The use of lowering FED rate, and
open market purchases of securities are common tools of an expansionary monetary policy. These
actions often lead to inflation as the aggregate supply fails to keep p with rise in demand due to
easily available money. But any such fiscal policy will also increase inflation at the same time.
Okun’s law gives the negative relation between the growth rate of GDP and that of unemployment
and explains the short run Phillips curve. According to the law, a 1% increase in unemployment will
roughly result in a 2% reduction in the nation’s output. Thus, through government’s expansionary
fiscal policy, as the output level will increase, the unemployment level is likely to fall. In the short

Fiscal Deficits, Economic Growth, and Policy Solutions: Analyzing the Impact of Expansionary Measures and Sustainable Debt Management

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