What is an automatic stabilizer?
Automatic stabilizers are a type of fiscal policy designed to compensate for fluctuations in a country’s economic activity through its normal functioning, without additional and timely approval from the government or policy makers.
The most well-known automatic stabilizers are gradually graded corporate and corporate taxes, as well as transfer systems such as unemployment insurance and social assistance. Automatic stabilizers are so named because they serve to stabilize business cycles and are triggered automatically without further government action.
- Automatic stabilizers are ongoing government measures that automatically adjust tax rates and transfer payments to stabilize business revenue, consumption, and expenses over the business cycle.
- Automatic stabilizers are a type of fiscal policy favored by the Keynesian economy as a tool to combat recessions and economic downturns.
- In the event of an acute or prolonged economic recession, governments often support automatic stabilizers with single or temporary stimulus measures to stimulate the economy.
What are automatic stabilizers?
Understanding automatic stabilizers
Automatic stabilizers are primarily intended to counteract negative economic shocks or recessions. However, they can also be used to cool an expanding economy or fight inflation. These measures usually deprive the economy of more money than taxes in periods of rapid growth and higher incomes. They bring more money back into the economy in the form of government spending or tax refunds when economic activity slows or incomes fall. The purpose of this is to protect the economy from changes in the business cycle.
Automatic stabilizers may involve the use of a progressive tax structure in which the tax revenue share is higher for high incomes. The amount decreases when income decreases due to recession, job loss or failed investment. For example, if an individual taxpayer earns higher wages, his or her additional income may be subject to higher tax rates based on the current level structure. When wages fall, the individual remains in the lower tax categories, as dictated by his income.
Similarly, when the economy is expanding, unemployment insurance transfer payments decrease as fewer unemployed claim. Unemployment benefits increase when the economy is in recession and unemployment is high. If a person becomes unemployed enough to qualify for unemployment insurance, all they have to do is file a claim for benefits. The amount of service provided is governed by various national and state regulations and standards, which do not require the intervention of larger government agencies beyond the processing of the application.
Automatic stabilizers and financial policy
When an economy is in recession, automatic stabilizers can inherently lead to larger budget deficits. This aspect of fiscal policy is an instrument of the Keynesian economy that uses government spending and taxes to support aggregate demand in the economy during the economic downturn.
By eliminating less money from private companies and households and offering them more money in the form of payments and tax refunds, fiscal policy is meant to encourage them to increase or at least not reduce their consumption and capital expenditures. In this case, the objective of fiscal policy is to prevent a deepening economic downturn.
Practical examples of automatic stabilizers
Automatic stabilizers can also be used in conjunction with other forms of fiscal policy that may require specific legislative approval. Examples include single tax reductions or refunds, government investment expenditures or direct payments of government subsidies to businesses or households.
Some examples of this in the US were the 2008 single tax cuts under the Economic Incentive and Direct Subsidies Act, tax exemptions and US $ 831 billion in infrastructure spending under the 2009 US Investment and Recovery Act.1 2 3
In 2020, the Coronavirus Support, Aid and Economic Security (CARES) Act became the largest stimulus package in US history. It has provided more than $ 2 trillion in government aid in the form of expanded unemployment benefits, direct payments to families and adults, small business loans and grants, corporate loans for America, and billions of dollars to state and local governments
Because they react almost instantly to changes in income and unemployment, automatic stabilizers are said to be the first line of defense in reversing negative economic trends. However, governments often turn to other types of larger fiscal policy programs to address more severe or protracted recessions, or to attract specific beneficiary regions, industries or groups in society to extra-economic assistance.
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