Monetary Offset

What is monetary offset?

Monetary offset occurs when a central bank responds to expansionary fiscal policy with contractionary monetary policy, and offsets fiscal policy effects.

Sound complicated? Let’s walk through an example.

When a government increases spending (fiscal policy), inflation increases. How does the central bank react? They may choose to counteract the expansionary fiscal policy by contracting the money supply (monetary policy).

In other words, the monetary policy is partially offsetting the fiscal policy.

As you can see, fiscal policy can be tricky. We have to take into account how other institutions, such as the central bank, will react to and offset fiscal policy.

Interested in learning more about fiscal policy, check out Marginal Revolution University’s Principles of Macroeconomics course section on fiscal policy.