Automatic Stabilizer

An automatic stabilizer in economics refers to a fiscal mechanism built into the government's budget that demands increased public spending and decreased taxes to stabilize the economy during a crisis. It activates automatically in the case of economic turmoil or recession, rather than requiring consent from the government.

This measure instantly stabilizes income, consumption, corporate expenditure levels and promotes aggregate demand. It uses a progressive or flexible taxation structure and transfer payments (unemployment insurance and welfare spending) during economic downturns. When the economy improves, the authorities put in place measures to boost government revenue to prepare for any unanticipated crises.

• An automatic stabilizer definition is a fiscal measure embedded into the government's budget that demands more public spending and lower taxes to sustain the economy automatically during the recession.
• It proposes a progressive or flexible taxation framework and transfers payments to rapidly stabilize income, consumption, and corporate expenditure levels and encourage aggregate demand.
• Even though taxation helps the government generate more revenue, unemployment insurance is a superior choice for economic stabilization.
• Unlike fiscal policy, which must go through legislative approval before being enacted, automatic stabilization is a swift action that policymakers can take during an economic downturn.

An automatic stabilizer in the economy is a fiscal measure to offset negative economic growth. It enables the government to deal with the economic crisis without exerting additional efforts or depleting the budget. The automatic resources that policymakers use to address economic instability come from progressive income and corporate tax collections. However, since the measure is a part of the budget, it does not require government permission and is implemented automatically when economic cycles fluctuate.

The economy of a nation highly depends on employment rates. It allows citizens to spend money on goods and services while contributing to the taxes that governments anticipate receiving. Furthermore, when people earn money, the authorities are aware that they will receive their fair share in the form of income tax. The higher the income, the better the tax rates. This revenue generation helps the government build a supplementary depository that supports the nation during economic downturns. It is this fund that acts as an automatic stabilizer when needed.

When the economic crisis occurs, the government increases public spending to boost employment, encourage investments, and provide welfare benefits through transfer payments, for example, unemployment insurance and stimulus checks, as needed. In addition, less tax collection supports aggregate demand. And when the economy stabilizes, the employment rate increases. Hence, the procedure is reversed to collect tax revenues from citizens, thus strengthening the government's budget.

Though the tax collection helps the government generate significant revenue, unemployment insurance is considered a better option for stabilization.

Unlike fiscal policy, which requires legislative proceedings before implementation, automatic stabilizing is an immediate step that policymakers can take during an economic slowdown.

Let us look at one of the automatic stabilizer examples in relation to COVID-19's economic doldrums. During the pandemic in 2020, the U.S. government issued a $900 billion stimulus package, accounting for half of the tax revenue produced by state and local governments in 2019. Even though the world is still striving to recover from the crisis, governments continue to do everything to stabilize the economy.

Automatic stabilizers and fiscal policy are inextricably linked. The former is a key instrument in Keynesian economics for dealing with recessions. It ultimately boils down to the government's efforts to bring out an economy from the crisis by utilizing existing resources rather than borrowing additional funds.

On the other hand, the fiscal policy intends to keep the economy stable enough to avoid a recession. It focuses on collecting less in the form of taxes and delivering more in transfer payments and tax refunds to citizens. Policymakers aim to enhance consumption and investment spending or ensure that it does not lead to insufficient income through effective fiscal policies. If one's income is inadequate, one's tax payments will be reduced, influencing the government's revenue.

The automatic stabilizer differs from fiscal policy in that the former does not require legislative action, allowing for immediate response to an economic crisis. In contrast, discretionary fiscal policy necessitates congressional action before it can be enacted.

This article has been a guide to Automatic Stabilizer and its definition. Here we explain how it works in the economy, along with an example. You can learn more from the following articles - 

• Welfare Economics
• V-Shaped Recovery
• Abenomics