Um, discretionary and non-discretionary fiscal policy, much?

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Let’s turn our attention to fiscal policy. Fiscal policy is budget policy, it’s how the government adjusts government spending and revenue to meet economic objectives. The government might be trying to rev up the economy or achieve a surplus. And within fiscal policy, there are things the government can and can’t control.

Let me explain.

Fiscal policy consists of discretionary and non-discretionary factors. Discretionary signals ‘discretion’, as in choice. Will you get in trouble? It’s up to the discretion of your teacher.

When it comes to the budget, discretionary factors (also known as structural factors) are the deliberate choices a government makes. This could include expenditure measures like building a new hospital or buying a new fleet of tanks for the Defence Force. On the revenue side, the government could make a deliberate choice to cut tax rates.

It all depends on what the government wants to achieve.

But the budget also contains non-discretionary (or cyclical) factors. These are the factors that are not controlled by government, also known as automatic stabilisers. These factors, such as unemployment benefits and taxation revenue, depend on the level of economic activity. They work in a counter-cyclical way, without the government doing anything.

For example, in boom times, unemployment benefits will fall and tax revenue will increase, thus slowing down the economy. This happens without the government doing anything!

“Fiscal policy has its own brain. (Not like an actual brain, like a metaphorical brain.)”

I put it like this to my students: fiscal policy (non-discretionary fiscal policy) has its own brain. It decides what to do, without even consulting the government. It just operates automatically.

So just to recap:

  • Non-discretionary (cyclical) factors are not controlled by the government. They depend on the level of economic activity. Examples include unemployment benefits and taxation revenue (see ‘quick note’ below)

  • Discretionary (structural) factors are deliberate decisions made by government.


A quick note

If the government cuts tax rates, this is a discretionary choice. The government sets the tax brackets and can seek to change them as it sees fit.

The government cannot control the amount of tax revenue collected. This is non-discretionary. This is because, while the government can set tax rates, it cannot control the level of people’s income. So the overall amount of tax revenue collected is a cyclical factor.