Government should implement expansionary fiscal policy in :1::

0,)
which government expenditure is higher than taxation (budget 0
..,
deficit): 0
(I)
(a) Increase government expenditure 0
Increase government expenditure (G) by creating more 0
::s

-·
development projects which will increase aggregate 0
demand (AD) via the multiplier effect. Production will

.,,..,
increase, hence reducing the cyclical unemployment. 0
(b) Decrease taxes
0
Decrease in taxes (T) such as a reduction in excise tax, t:r
service tax, sales tax, income tax or corporate tax will (I)
increase the consumption of goods and services and
also induce investment, hence aggregate demand will
increase and production will increase, reducing cyclical
unemployment.
Government should implement expansionary monetary
policy to increase money supply using the following
instruments:
(a) Open market operations
The central bank buys government securities, short-term
bonds or treasury bills in the open market from the public
to increase money supply. Hence, consumption and
investment will increase, increasing aggregate demand and
production and reducing cyclical unemployment.
(b) Lowering the required reserve ratio
In unemployment, the central bank will lower the required
reserve ratio of all commercial banks. This will increase the
ability of commercial banks to provide loans and hence,
increase money supply to stimulate economic growth and
reduce unemployment.
(c) Lowering the base lending rate/bank rate/discount rate
The central bank lowers the bank rate, and hence, it
makes loans less costly to borrow and firms will increase
investments by employing more workers.
(d) Lowering the interest rate
The central bank will direct the commercial banks to
lower their interest rates for deposits so as to encourage
the public to spend. This will increase the aggregate
demand and production and hence, decrease cyclical
unemployment.

Ho,-vever, the use of an expansionary fiscal or monetary policy to

reduce cyclical unemployment, will result in a higher rate of inflation.
This is because the expansionary fiscal or n1onetary policy will cause
the aggregate demand and national income to increase. Firms will
have to employ more workers to increase their production. When
the aggregate demand increases, the price level will also increase.
Therefore, expansionary fiscal policy or monetary policy for solving
unemployment is in conflict ,-vith that of stable prices.