Association of Chartered Certified Accountants (ACCA) Certification Practice Test

What major component is used in fiscal policy to affect economic conditions?

1. Interest rates

2. Government spending

3. Stock market analysis

4. Private investment

The correct answer is: Government spending

The correct answer, government spending, is a key component of fiscal policy because it directly influences overall economic activity. Fiscal policy refers to the government's use of taxation and spending to manage the economy. By adjusting its level of spending, the government can stimulate economic growth during a recession or cool off an overheating economy when inflation is a concern. When the government increases spending, it injects money into the economy, potentially leading to job creation, increased consumer demand, and growth in various sectors. This spending can take various forms, including investments in infrastructure, education, and social programs, which can all have multiplier effects across the economy. In contrast, interest rates are primarily a tool of monetary policy, which is managed by central banks and not directly by government fiscal actions. Stock market analysis, while it can provide insights into economic conditions, does not constitute a component of fiscal policy. Private investment is influenced by various factors, including both fiscal and monetary policies, but it is not a direct tool of fiscal policy itself. Therefore, government spending stands out as the main instrument through which fiscal policy exerts its influence on economic conditions.