Price stability means keeping inflation (rising prices) and deflation (falling prices) under control. Think of it like balancing on a tightrope; you don't want to fall too far one way or the other!

Contracting the Balloon: Contractionary Fiscal Policy

• What? Cutting government spending or increasing taxes.
• Why? To reduce aggregate demand and decrease inflation.
• But wait! Most of the time, the central banks handle inflation with monetary policy, not fiscal policy. Fiscal policy is like a big ship—slower and harder to turn, while monetary policy is a speedboat—faster and more flexible.
• Real-world example: Imagine trying to cool down your coffee by blowing on it (monetary policy) or by sticking it in the freezer (fiscal policy). The freezer might work but takes more time!

 Expansionary Fiscal Policy: Inflate that Balloon!

• What? Increasing government spending.
• Why? To boost aggregate demand and fight deflation.
• Watch out! If the economy is close to full employment, this could cause inflation.
• Real-world example: Japan has used this to try to break free from deflation.

Fighting Inflation: Tighter Monetary Policy

• What? Increasing interest rates.
• Why? To cool down an overheating economy.
• Superpower: It's gradual, reversible, and quick!
• Real-world example: Think of the central bank as a thermostat, controlling the temperature of the economy by tweaking the interest rates.

 Dealing with Deflation: Tricky Territory

• Problem: When interest rates are close to zero, the central bank's wand loses its magic!
• Possible Solutions: Quantitative easing or even negative interest rates (Very experimental!).
• Real-world example: Imagine trying to lift something with a string that's already fully stretched. It's tough!