Automatic Stabilisers

Definition

Features of the tax and spending system that automatically dampen swings in the business cycle without any fresh decision by the government, by reducing demand in a boom and supporting demand in a slump.

Key points

• They work on their own through the existing rules, in contrast to discretionary fiscal policy, which needs a new decision (a budget change).
• Progressive income tax is the main stabiliser: in a boom incomes rise and a larger share is taxed away, cooling demand; in a slump tax collected falls, leaving more in people's hands.
• Welfare and unemployment-related transfers rise automatically in a downturn (more claimants), cushioning the fall in spending.
• They smooth the cycle and reduce the depth of recessions and the heat of booms, but cannot by themselves end a deep slump.
• They contrast with discretionary measures like a one-off stimulus package or a tax cut announced in a budget.

Why it matters for CAPF

The idea (built-in tax and transfer mechanisms that stabilise the cycle without new decisions) and the contrast with discretionary policy are testable fiscal-policy facts.

Common confusion

Automatic stabilisers (work on their own through existing tax and transfer rules) versus discretionary fiscal policy (needs a fresh government decision such as a stimulus package).

Parent note

budget and fiscal policy