“Evaluate the policies a government could use to end a recession.”

The clearest way to end a recession is expansionary fiscal policy: the government cuts taxes and raises its own spending to inject demand directly into the economy. Suppose the government raises the income tax-free allowance above £12,570, lifting the disposable income of low-income workers. Because these households have a high marginal propensity to consume, most of that extra income is spent rather than saved, so consumption rises sharply. At the same time the government spends directly on infrastructure, the NHS and public sector wages — and because G is itself a component of AD, the AD curve shifts right immediately. That initial injection then triggers a multiplier effect: the money the government spends on NHS wages becomes doctors’ income, which is partly spent again, becoming a shopkeeper’s income, spent again — each round a fresh, smaller rise in AD, so AD shifts from AD1 to AD2 and on to AD3. Real output therefore rises from Y1 to Y2 on the diagram. Because labour is a derived demand — firms only hire workers because consumers want the goods those workers make — the extra output means firms take on more staff, so cyclical unemployment falls. Growth returns and unemployment drops: the recession is ended.

However, expansionary fiscal policy has a well-known cost: crowding out. To fund the stimulus the government borrows, and with a finite pool of savings the government and the private sector compete for the same loanable funds. Heavy government borrowing pushes up the equilibrium interest rate, which makes it more expensive for firms to finance investment, so private investment falls, the capital stock grows more slowly, and the short-run demand gain comes at a long-run supply-side cost.

But here is the crucial evaluation, and it is the one that decides the whole question: a recession is, by definition, a period of high spare capacity — idle workers, idle factories, idle capital. That changes everything. With high spare capacity the multiplier is large and the inflationary cost is small, because firms can bring idle resources back into use without bidding up wages and prices — this is the flat section of the Keynesian AS curve, exactly where expansionary policy belongs. So in the exact circumstances of this question — a demand-deficient recession — the standard objection to fiscal policy, crowding out, is at its weakest. That is what makes it such a strong tool here.

The second policy is expansionary monetary policy: the central bank — the Bank of England, not the government — cuts the interest rate to stimulate AD. When the rate falls, the cost of borrowing falls, so it is cheaper for households to borrow and the opportunity cost of taking out a loan drops. Borrowers’ disposable income rises, because the same loan now costs less to service — households on variable-rate and tracker mortgages feel this within weeks — and that freed-up income is spent on homes, cars and consumer goods, so consumption rises. A lower rate also cuts the return on saving, so the saving ratio falls and households reallocate towards spending. Firms benefit too: cheaper borrowing means marginally profitable investment projects now clear the hurdle, so investment rises. On top of that comes the exchange-rate channel: a lower UK rate makes sterling a less attractive place to park money, so “hot money” flows out, the supply of pounds on the currency market rises, and the pound depreciates. A weaker pound makes UK exports cheaper abroad and imports dearer at home, so net exports (X−M) rise. With C, I and X−M all rising, AD shifts right from AD1 to AD2, output rises from Y1 to Y2, derived demand for labour rises, and unemployment falls. The recession is ended through a single Bank of England decision transmitted across the whole economy.

The problem with monetary policy is that it can break down in exactly the recession you are trying to fix. In a deep downturn, commercial banks worry about their own liquidity and profitability and become unwilling to lend even to safe borrowers, or pass on only a fraction of the rate cut — so the central bank’s stimulus is absorbed on bank balance sheets rather than transmitted to households and firms. Even where credit is available, low confidence blunts it: households frightened of redundancy save the windfall rather than spend it, and firms expecting weak future profits will not borrow to invest, so C and I both flatline however cheap borrowing is. And in a severe recession interest rates may already be near zero — the zero lower bound — so the central bank has no room left to cut. In short, monetary policy is the tool most likely to “push on a string” in exactly the deep recession where you most need it to work.

In conclusion, both policies are the right family of tool for this question — both are demand-side, and a recession is a demand-side problem, so on the Keynesian diagram both deliver a large output gain for a small inflation cost because of the high spare capacity. But they are not equally reliable in a deep recession. Monetary policy is fast and flexible and adds nothing directly to government debt — yet its whole transmission runs through banks and confidence, which are precisely what fail in a severe downturn, so it risks “pushing on a string.” Fiscal policy acts on AD directly, because G is a component of AD: the government can spend even when the private sector is too frightened to, which is exactly why it is the more dependable instrument when a recession is deep and confidence has collapsed. My judgement is therefore that the two should be used together — aggressive fiscal stimulus to guarantee the AD injection, with monetary policy and QE lowering borrowing costs to amplify it — and that the weight should tilt towards fiscal policy the deeper the recession and the sounder the public finances. This is not a textbook fantasy: it is precisely what the Treasury and the Bank of England did in 2020, £400bn of fiscal stimulus alongside £450bn of QE, fired at the same time to end the sharpest recession in three centuries.

Beyond crowding out, sustained borrowing carries a second risk: if the public finances are already weak, it can frighten lenders. As credit ratings are cut, lenders price in default risk and demand higher yields — Greek 10-year bond yields hit 22.5% during the eurozone crisis — which worsens the deficit and can trigger a self-reinforcing doom loop. But this objection only bites if the finances are already fragile. Where growth exceeds the real interest rate — Blanchard’s g > r condition — a country can grow out of its debt, as the UK did with its ~200%-of-GDP wartime debt after 1945 as the economy roughly tripled by 2008. Public spending can even crowd in private investment: by lifting demand and improving the infrastructure firms operate on, the government raises private profitability and expectations, so investment rises rather than falls. Any one of these, added to the spare-capacity evaluation in the core answer, is a genuine top-gear move — but the core answer already scores without it.

When the interest rate hits the zero lower bound, quantitative easing (QE) — unconventional monetary policy — is the next tool. The central bank electronically creates new money and uses it to buy government bonds and other assets from banks and pension funds. Bond demand rises, so bond prices rise and yields fall; the institutions that sold the bonds hold cash and reinvest it, pushing yields down across the economy, so mortgage and business-loan rates fall and borrowing is encouraged. There is also a wealth effect: as QE pushes up bond, share and house prices — roughly 20% in the Bank of England’s own estimate — asset holders feel richer and spend more, boosting C. The Bank deployed £375bn of QE after 2009 and a further £450bn during COVID. QE has its own evaluation: it works only if banks lend the new money on rather than hoarding it, it fails if confidence is on the floor, and by inflating asset prices it disproportionately benefits those who already own them — worsening wealth inequality.