Governments have two main levers to steer the economy: monetary policy, run by central banks, and fiscal policy, run by legislatures and finance ministries. Fiscal policy means taxing and spending. When the government cuts taxes or builds a bridge, that is fiscal policy. When it raises taxes or cuts a program, that is fiscal policy too.

During recessions, many economists favor expansionary fiscal policy: cut taxes, spend more, let deficits widen. The idea is to put money in people's pockets and create jobs when the private sector is retrenching. During booms, the prescription reverses: raise taxes or cut spending to cool things down and rebuild fiscal room. In practice, politicians find it much easier to spend than to tighten.

Fiscal policy works slowly. Tax cuts take time to affect behavior. Infrastructure projects take years to plan and build. By the time the stimulus hits, the recession may be over. Automatic stabilizers, like unemployment insurance, work faster because they kick in without new legislation. That is why economists often prefer them to discretionary programs.

Fiscal tools

• Income and corporate taxes
• Government spending on goods and services
• Transfer payments like unemployment benefits
• Infrastructure investment
• Tax credits and subsidies