Fiscal policy refers to the government’s handling of the budget. Usually fiscal policy is about spending as much as possible, thereby stimulating the economy,without necessarily raising taxes.
In other words Fiscal policy involves the Government changing the levels of Taxation and Govt Spending in order to influence Aggregate Demand (AD) and therefore the level of economic activity. The two main instruments of fiscal policy are government expenditure and taxation. Changes in the level and composition of taxation and government spending can impact the following variables in the economy:
Governments use fiscal policy to influence the level of aggregate demand in the economy, in an effort to achieve economic objectives of price stability, full employment, and economic growth.
Aggregate demand is the total demand for final goods and services in the economy at a given time and price level]It is the amount of goods and services in the economy that will be purchased at all possible price levels This is the demand for the gross domestic product of a country when inventory levels are static.
inflation is a rise in the general level of prices of goods and services in an economy over a period of time. When the general price level rises, each unit of currency buys fewer goods and services. Consequently, inflation also reflects an erosion in the purchasing power of money – loss of real value in the internal medium of exchange and unit of account in the economy. Inflation is largely dependent on supply and demand pressures in the economy.
Every organisation which provides goods or services to fee paying customers must, by its very nature, charge price for that good or service, to pay for its costs, have retained profits for investments and to keep its shareholders happy. In theory, the market price of any good or service is determined by the interaction of forces of demand and supply. There is an old saying, that "if you can teach ...
High rate of inflation is a situation where general price level within a specific economy increases rapidly. Under high rate of inflation the general price level could rise by 5 or 10% or even much more every day.
Although every government strive to keep inflation in check and unemployment under control, several factors may come to play which may increase inflation and unemployment. These factors may include excessive increase in government expenditure, increase in population without a commensurate increase in productivity, high cost of production, embezzlement of state funds and so on may cause inflation.
Fiscal policy measure to arrest hiugh rate of infation
The control of inflation has become one of the dominant objectives of government economic policy in many countries. Effective policies to control inflation need to focus on the underlying causes of inflation in the economy. For example if the main cause is excess demand for goods and services, then government policy should look to reduce the level of aggregate demand. If cost-push inflation is the root cause, production costs need to be controlled for the problem to be reduced.
Direct wage controls – incomes policies
Incomes policies (or direct wage controls) set limits on the rate of growth of wages and have the potential to reduce cost inflation. The Government has not used such a policy, but it does still try to influence wage growth by restricting pay rises in the public sector and by setting cash limits for the pay of public sector employees.
In the private sector the government may try moral suasion to persuade firms and employees to exercise moderation in wage negotiations. This is rarely sufficient on its own. Wage inflation normally falls when the economy is heading into recession and unemployment starts to rise. This causes greater job insecurity and some workers may trade off lower pay claims for some degree of employment protection.
Fiscal Policy can be explained in many ways, for example. Fiscal policy is the use of the government budget to affect an economy. When the government decides on the taxes that it collects, the transfer payments it gives out, or the goods and services that it purchases, it is engaging in fiscal policy. The primary economic impact of any change in the government budget is felt by particular groups-a ...
Increasing taxes on disposable income
In the case of a demand pull inflation Income tax can be increased to reduce the level of disposable income of consumers. This will have the effect of reducing their effective demand for goods and services hence forcing price to reduce and assist in solving inflation
Reduction in government expenditure