... economy as a balloon. The air in the balloon is the level of demand or economic activity. If the balloon is a little low and short of air you want to reflate it, but if it is over-expanded and in danger of bursting you deflate it. The same is true of the economy, though when it is over-expanded instead of bursting we get other problems such as higher inflation and a large balance of payments deficit. Deflationary Fiscal Policy Deflationary fiscal policy is likely to be most appropriate in times of economic boom. If the economy is growing at above its capacity this is likely to cause onflation and balance of payment problems. To try to slow the economy down the government could either raise taxes in some form or perhaps reduce government expenditure. Either of these will reduce the level of demand in the economy and therefore the level of ...

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