Assignment on

Evaluation of
fiscal and
monetary
policy
Submitted to:- Submitted By:-
Ms Shivani Bector Aman Priya
Roll No:6410

Monetary policy :- Monetary policy is defined as discretionary

act undertaken by the authorities designed to influence:
(a)The supply of money
(b) cost of money or rate of interest, and
(c) the availability of money for achieving the specific objectives.
 Monetary policy in India refers to that policy which is
concerned with the measures taken to regulate the volume of
credit created by the banks. Monetary policy of India is formulated
and executed by RESERVE BANK OF INDIA.

Fiscal policy:- Fiscal policy is related to income and

expenditure of government. It refers to budgetary policy of
government.

The fiscal policy is of great importance for both developed

and developing countries. It is an instrument for promoting
economic growth, employment, social welfare etc.

Fiscal policy may be defined as that part of government

economic policy which deals with taxation, government
expenditure, borrowings, deficit financing and management
of public debts in an economy.

An overview of monetary and fiscal policy

The Monetary and Fiscal Policies, although controlled by two

different organizations, are the ways that our economy is
kept under control. Both policies have their strengths and
weaknesses, some situations favouring use of both policies,
but most of the time, only one is necessary.

The monetary policy is the act of regulating the money supply

by the Federal Reserve Board of Governors, currently headed
by Alan Greenspan. One of the main responsibilities of the
Federal Reserve System is to regulate the money supply so as
to keep production, prices, and employment stable. The
Federal Reserve System has three tools to manipulate the
money supply. They are the reserve requirement, open
market operations, and the discount rate. The most powerful
tool available is the reserve requirement. The reserve
requirement is the percentage of money that the bank is not
allowed to loan out. If it is lowered, banks are required to
keep less money, and so more money is put out into
circulation . If it is raised, then banks may have to collect on
some loans to meet the new reserve requirement.
The tool known as open market operations influences money
and credit operations by buying and selling of government
securities on the open market. This is used to control overall
money supply.
If the Federal Reserve System believes there is not enough
money in circulation, then they will buy the securities from
member banks. If the Federal Reserve System believes there
is too much money in the economy, they will sell the
securities back to the banks. Because it is easier to make
gradual changes in the supply of money, open market
operations are use more regularly than monetary policy.

The second way to influence the money supply lies in the

hands of the government with the Fiscal Policy. The fiscal
policy consists of two main tools. The changing of tax rates,
and changing government spending. The main point of fiscal
policy is to keep the surplus/deficit swings in the economy to
a minimum by reducing inflation and recession.

A change in tax rates is usually implemented when inflation is

unusually high, and there is a recession with high
unemployment. With high inflation, taxes are increased so
people have less to spend, thus reducing demand and
inflation. During a recession with high unemployment, taxes
are lowered to give more people money to spend and thus
increasing demand for goods and services, and the economy
begins to revive.

A change in government spending has a stronger effect on

the economy than a change in tax rates. When the
government decides to fight a recession it can spend a large
amount of money on goods and services, all of which is
released into the economy.

Despite the effectiveness of the Fiscal policy, it does have

drawbacks. The major problems are timing and politics. It is
hard to predict inflation and recession, and it can be a long
period of time before the situation is even recognized.
Because a tax cut can take a year to really take effect, the
economy could revive from the recession and the new
unnecessary tax cut could cause inflation.

Politics are another problem. Unlike the monetary policy run

by the Federal Reserve System, the fiscal policy is initiated by
the government, and so politics play a key role in the policy.
When the concerns of the government are viewed, it becomes
obvious that a balanced budget is not the primary objective,
anyway. The fiscal policy can also be used as a campaign
tactic. If tax cuts are initiated and government spending is
increased, then the president is more likely to be re-elected,
but has first to deal with the inflation his tactic caused.

Monetary and fiscal policies help keep the nation's economy

stable. With them it is possible to control demand for services
and goods and the ability to pay for them. It is possible to
manipulate the money in private hands without directly
affecting them. The policies are simply a myriad of tools used
to prevent a long period where there is high unemployment,
inflation, and prices, along with low wages and investment.

Evaluation of monetary policy

(1) LIMITED SCOPE OF MONETARY POLICY IN ECONOMIC

DEVELOPMENT: In reality the monetary policy has been
assigned only a minor role in the process of economic
development. The reserve bank is not given any
predominating role in the process of economic
development.
(2) LIMITED ROLE IN CONTROLLING PRICES : The monetary
policy of Reserve bank has played only a limited role in
 controlling the inflationary pressure. Prices are affected by
many factors. Money supply is only one of them.
(3) POOR BANKING HABITS: An important limitation of
monetary policy is poor banking habits of Indian masses.
People in India prefer to make use of cash rather than
cheques. This reduces the credit creation capacity of the
banks.
(4) EXISTENCE OF BLACK MONEY: The existence of black
money in the economy limits the working of the monetary
policy. The black money is not recorded since the
borrowers and lenders keep their transactions secret so
effectiveness of monetary policy is reduced.
(5) LACK OF COORDINATION WITH FISCAL POLICY: If
monetary policy and fiscal policy are not coordinate with
each other, they may go against the objectives of each
other. If the fiscal policy involves huge deficit financing ,
efforts of monetary policy to control money supply will fail.
(6) NON –MONETIZED SECTOR: In non- monetized sector
transactions are conducted through barter exchange.
Money plays no role here. Money supply of the country or
interest rate determined by monetary policy has no effect
on the level of economic activity in this non- monetized
sector.
(7) LACK OF BANKING FACILITIES: Banking facilities are not
available in some rural and remote areas of the country.
So monetary policy cannot regulate credit in such areas.
(8) PERSUASIVE POLICY: Some qualitative instruments of
credit control like moral persuasion, loans for priority
 sector, loans for weaker sections etc. are only persuasive
and not compulsive in nature.
(9) POOR IMPLEMENTATION: Banks do not cooperate with
RBI in implementing the monetary policy, so it hinders the
success of monetary policy.

CONCLUSION: Monetary policy of the reserve bank suffers from

many limitations. It requires improvement in many directions.
Successful application of monetary policy is not merely a
question of availability of instruments of credit control; it is
also a question of judgement with regards to timing and the
degree of control required or relaxation needed.
(10)
EVALUATION OF FISCAL POLICY
Main shortcomings of fiscal policy of India are as follows:
(1) INFLATION: Deficit financing has proved inflationary.
Deficit financing results in increase in money supply,
which results into fall in the value of money and in turn
leads to rise in prices.
(2) DEFECTIVE TAX STRUCTURE: In India share of direct taxes
is less than the share of indirect taxes. Such tax structure
proves burdensome for the poor. Indirect taxes like excise
duty, value added tax, service tax etc are charged at the
same rate to rich as well as poor section of society. It
badly affects the poorer section of our society.
(3) POOR TAX ADMINISTRATION: Indian tax administration
has been very poor. Because of poor administration,
there is enormous tax-evasion. There are various
loopholes in our taxation policy, because of which
business class can evade tax. Poor tax administration has
failed to check black money.
(4) INEQUALITY OF INCOME: Fiscal policy has failed to check
the inequality of income. Because of defective indirect tax
system the poor class has to bear the burden of indirect
tax like rich class. It has adversely affected the poor
segment.
(5) FAILURE OF PUBLIC SECTOR: Various public sectors units
are running at losses. Huge investment in public
enterprises has failed to generate adequate return on this
investment. Some public sector undertakings have failed
to pay even interest on the capital invested therein.
(6) INCREASE IN NON DEVELOPMENT EXPENDITURE: In fiscal
policy government is spending huge amount on non
development expenses like- defence expenses, election
expenses, subsidies, interest payments etc. These
expenses are of unproductive nature and put undue
burden on government exchequer.
(7) FAIL TO CHECK REGIONAL DISPARITIES:- Regional
disparity is refers to unequal development of different
regions/states. Fiscal policy as failed in reducing regional
disparities. Although some tax rebates and tax concession
are offered for investment in backward or rural areas but
still a lot is yet to be done.
(8) INCREASING INTEREST BURDEN:-Under fiscal policy
government has taken huge public debt both from
internal and external sources. This has resulted into
undue interest burden on government exchequer.
(9) FAILURE IN ERADICATING POVERTY AND
UNEMPLOYMENT:-
Despite the working of more than five decades of fiscal
policy, it has not been much successful in eradicating
poverty and unemployment problem. Fiscal policy has
failed to provide productive employment. Even now 22%
of our population is living below poverty line.