Economic policy-makers have two kinds of tools at their disposal to influence a country’s economy: fiscal and monetary. Fiscal policy relates to government spending and revenue collection. For example, when demand is low in the economy, the government can step in and increase its spending to stimulate demand. Or it can lower taxes to increase disposable income for people as well as corporations. Monetary policy relates to the supply of money, which is controlled via factors such as interest rates and reserve requirements for banks. For example, to control high inflation, monetary policy-makers (usually the central banks) can raise interest rates and thereby reduce money supply.
In the video below from The Atlantic, Derek Thompson offers us an innovative way to think about it. Capitalism only works if people with money are willing to take risks. So imagine the economy as a giant casino. In a recession, there aren’t enough people making bets at the table. Fiscal and monetary policy use different strategies to get gamblers to gamble, to spend their money and power the economy.