Fiscal Policy:

Fiscal policy is the use of government spending and taxation to influence the economy. It primarily deals
with the levels and composition of taxation, spending and borrowing by the Government. Governments
typically use fiscal policy to promote strong and sustainable growth and reduce poverty. 

Fiscal policy encompasses several fundamental policy issues, including the proper role and size of the
state, the role of the Government in promoting growth, creating jobs, social development and
redistribution of benefits of economic growth, the nature and extent of public services and fairness
between the present and future generations.

Objectives of FP:

Government’s fiscal policy has both microeconomic and macroeconomic objectives. However, Fiscal
policy plays a prominent role in the pursuit of macroeconomic stabilization

Microeconomic objectives include

 an improved distribution of income and wealth,

 equitable access to social services,

 meeting the basic needs of the poor,

 promoting investment in public goods, and

 enhancing the efficiency with which the public and private sectors produce goods and services
and their responsiveness to the needs of consumers.

Macroeconomic objectives relate to evolution of the economy as a whole – national income and output,
jobs, price stability, Economic growth, inflation and the balance of payments. Fiscal policy must also
ensure that the level and structure of taxes while promoting equity and redistribution do not interfere
unduly in people’s investment and consumption decisions.

 Jobs

Business= Jobs= High Employement=GDP Growth= Prosperity

 Economic Growth: Measured by the rate of Gross Domestic Product (GDP) growth.

GDP grows due to Businesses—or we can say business contribute to GDP—

When businesses do not invest, GDP declines, Resultantly govt invests so that markets run and GDP
keeps increasing.

 Price Stability:
Price stability is when there is little to no change in the economy over a period of time. This means that
there is a lack of inflation or deflation occurring with prices. Price stability is measured by the rate of
inflation, which is ideally kept between 2–3%.

GDP Growth should be more than inflation= Economic stability

If Inflation is high or more than inflation= Economic instability.

Ex GDP Growth 6% and Inflation 12% = Economic instability

 Balance of payments:

Balance of Payment, also known as International Payments, is the difference between all the money
entering and existing a country over a defined period, such as a quarter or year.

All trades conducted by both the private and public sectors are accounted for in the BOP to determine
how much money is going in and out of a country. If a country has received money, this is known as
a credit, and if a country has paid or given money, the transaction is counted as a debit.

Thus, the BOP can tell the observer if a country has a deficit or a surplus and from which part of the
economy the discrepancies are stemming.

 High exports and less imports=Progress and development + GDP Growth

 High Imports and less Exports= Instability, Inflation.

NOTE: See other objectives from Hand Written Notes.

Objetctives of Budget:

 Control on the fiscal deficit and to promote sustainable growth of economy

 Mobilization of resources by widening tax base

 To minimize the losses of Public Sector Enterprises

 To eliminate the power outages

 To protect the vulnerable segments of society through relief measures and pro-poor initiatives

 To enhance the Tax rate on wealthy people of the country

 To boost agricultural productivity for food security

 To reduce fiscal deficit to restore fiscal sustainability

 To rejuvenate the Development Programmes

 Protection of social spending to support the poors of the society

  Enhancement in Non-Tax Revenue through cost recovery and rationalizing varoius fees/levies

 Maintaining primary balance at a sustainable level

 To stablize in economic growth

 To provide maximum relief to improve the socio-economic condition of poors

 To stop tax leakages

 To control the increasing inflation

 To increase Revenues

 To enhance Exports

Functions OF FP:

There are 4 functions of Fiscal Policy;

a) Allocation:

One of the key things fiscal policy tries to do is allocate resources in a way that creates the greatest
benefit for the economy, and the country, as a whole. A large portion of the government's resources
go to defense and national security, for example, which protect every citizen.

 Health : 154,889 m (2021-2022),,,, 19,582 m( 22-23)

 Infrastucture

 Education: 90,861 m (21-22),,,,, 90,556 m(22-23)

 Defencce: 1,483,922 Million (21-22),,,,,, 1,566,698 (22-23)

 National Security

b) Distribution:

Some funds might be expended in subsidies, grants or loan guarantees that encourage the growth of
businesses, or entire industries or sectors of the economy. Others might go to social programs that
help keep low-income citizens solvent and productive, boosting the economy from the bottom rather
than the top.

 Flood Affectees

 Utility Stores
  Agriculture Affectees

c) Economic Growth:

Fiscal policy may affect the rate of saving and the willingness to invest and may thereby influence the
rate of capital formation. Capital formation in turn affects productivity growth, so that fiscal policy is a
significant factor in economic growth.

d) Stabilization:

Fiscal policy is needed for stabilization, since full employment and price level stability do not come about
automatically in a market economy. Without it the economy tends to be subject to substantial
fluctuations, and it may suffer from sustained periods of unemployment or inflation. Unemployment
and inflation may exist at the same time. Such a situation is known as stagflation.

Stabilization > so that there is no unemployment and Inflation.

 Employment and price stability.

How does fiscal policy work?

When policymakers seek to influence the economy, they have two main tools at their disposal—
monetary policy and fiscal policy. Central banks indirectly target activity by influencing the money supply
through adjustments to interest rates, bank reserve requirements, and the purchase and sale of
government securities and foreign exchange. Governments influence the economy by changing the level
and types of taxes, the extent and composition of spending, and the degree and form of borrowing.

See from notes

What Is the Difference Between Fiscal Policy and Monetary Policy?

Fiscal policy and monetary policy are related in that they’re two major tools available to governments
to influence the economy. While their objectives may be broadly similar, how they work and how
they’re administered are quite different.

 While fiscal policy is concerned with how money is spent and collected by the government,
monetary policy is concerned with the overall supply of money within the economy.
 Fiscal policy is usually set by the executive and legislative functions. Monetary policy is
generally determined by central banks.
 Governments adjust fiscal policy by changing levels of taxation and spending in order to
stimulate (or discourage) consumer spending and maintain healthy levels of employment and
inflation. The key metric here is aggregate demand.
 Central banks adjust monetary policy by buying and selling treasury bonds to expand or
contract the amount of currency in circulation, and by raising or lowering the interest rate and
reserve ratio (i.e. the amount of money banks are required to hold onto at any given time) in
order to stimulate (or discourage) lending by banks.
Fiscal Policy in Pakistan

 Article 80 of the constitution of Pakistan> Annual Budgest Statement (Statement of the

estimated receipt and expenditure of the deferral govt for that year)

 Section 6 of the Fiscal Policy and Debt Limitation Act, 2005 (The Federal Government shall lay
before the National Assembly the fiscal policy statement by the end of January each year.)

 It is also mentioned in the sub section 2 of section 4 : The fiscal policy statement shall, inter
alia, analyze the following key macroeconomic indicators, namely:-

(a) total expenditures;

(b) total net revenue receipts;

(c) total fiscal deficit;

(d) total Federal fiscal deficit excluding foreign grants;

(e) total public debt; and

(f ) debt per capita.

Fiscal Policy Structure in Pakistan

In Pakistan federal government budget categorizes in two parts; that is public revenue and expenditure.
The key objective of fiscal policy is to enhance and sustain economic growth and therefore to reduce
unemployment and poverty. By imposing taxes the government receives revenue from the populace
(population). The government spending take in form of wages to government employees, development
expenditure, social security benefits, health, education, defense etc.

a) Government Revenue:

Accorging to Federal Borad of Revenue (FBR) there are two basic catagories of revenue collection in
pakistan’s economy.
i) First, Inland revenue is the major source of revenue, in fiscal year 2021-22. Inland revenue has three
different classification that is income tax, sales tax , customs duty and federal excise duties. The share of
direct tax is 32.0%, share of sales tax is 27.4%, and share of federal excise duty is 15.8% ,in inland
revenue.

ii) Second, Customs Wings in fiscal year 2021-22, its collection is 35.0% of the total revenue collection.

Change year and figures while making graph

NOTE:

FBR has collected net revenue of Rs. 6,125 billion during the current fi scal year (July 21-
June 22), which has exceeded the upward revised target of Rs. 6,100 billion by Rs. 25
billion. This represents a massive growth of about 29.1% over the collecti on of Rs. 4,744
billion during the same period, last year. Likewise, the gross revenue collecti on increased
from Rs. 4,996 billion during last year to Rs. 6,460 billion this year, showing an increase of
29.3%. One of the key features of this outstanding performance by FBR is refl ected in the
signifi cant increase in direct taxes which has registered growth of 32% over the last year.

b) Government Expenditure:

The federal government of Pakistan has divided the total expenditure in two main parts namely current
expenditure, and development expenditure.

i) The share of current expenditure in total public spending is 8,388,798.

ii) The share of development spending is 392.888 billions in fiscal year 2014-15.

The major parts of total public spending are general public service which is 5633.043 billions, defense is
1483.922 bn, and Health 154.889 bn, Education 90.861.
 2020-21
Budget 7.29 trillion
GDP 45,567 bn
Total Tax revenue (FBR)
4,963 bn
Total Non-Tax Revenue
1,610 bn
Total Expenditure
7,137 bn
Interest Payments:
2,946 bn
41.27% of total expenditure
Fiscal Deficit
Overall FD (-3,195bn)
(-7.0%% of gdp)
Trade Deficit
Import= 54.3 $ bn
Export= 25.6 $ bn
Trade deficit =28.7 $ bn
Current Account Deficit
2.8 $ bn
Tax to GDP Ratio
Tax revenue/ GDP*100
4764/45567= 10.4%
Public/ Govt Debt of GDP
71.8% of gdp
Economic Growth or GDP
Growth
5.7 %
2021-22
Budget 8.49 trillion
GDP 66950 bn
Total Tax revenue (FBR)
6,050 bn
Total Non-Tax Revenue
1,315 bn
Total Expenditure
8,487 bn
Interest Payments:
3,060 bn
36.05% of total expenditure
Fiscal Deficit
Overall FD (-4,739bn)
(-7.1% of gdp)
Trade Deficit
Import= 72.8 $ bn
Export= 31.3 $ bn
Trade deficit= 41.5 $ bn
Current Account Deficit
15.6 $ bn
Due to high imports and less
exports
Resultantly, currency
devaluation
Tax to GDP Ratio
Tax revenue/ GDP*100
6000 bn/ 66950 bn =8.96 %
Public/ Govt Debt of GDP
72.4% of gdp
Economic Growth or GDP
Growth
5.97%
Interest payment 4.57 % of GDP
= we have paid as interest
2022-23
Budget Rs9. 5 trillion
GDP 78197 bn
Total Tax revenue(FBR)
7004 bn
Total Non-Tax Revenue
2000bn
Total Expenditure
9,579 bn
Interest Payments:
3950 bn
Interest payment/total
expenditure*100
3950/9579*100= 41.2%
It means we will pay interest
41.2% of total expenditure
Fiscal Deficit
Overall FD (-3798bn)
(-4.9% of gdp)
Trade Deficit
Import= 69.2 $ bn
Export=32.8 $ bn
Trade deficit= 36.4 $ bn
Current Account Deficit
9.0bn $
Tax to GDP Ratio
Tax revenue/ GDP*100
7004/78197= 8.95% (or 9%)
Public/ Govt Debt of GDP
69.1%
Economic Growth or GDP
Growth
69.1%
 payment.
Inflation Inflation Inflation
8.9% 11.7% 11.5%

GDP Growth= 5.97 %

Inflation = 11.7% it means
economic instability ( Bcz
inflation is more than gdp
growth) due to inflation=
currency devaluation

How to Manage Fiscal/ Budget Deficit:

A budget deficit occurs when spending exceeds income — when the total amount of money that you’re
spending is greater than the total amount of money that you’re bringing in.

Budget deficit was recorded -4,739 bn during the last fiscal year 2021-22 with a percentage of -7.1 of
gdp percent against the budgetary target of 6.3 percent.

Causes of a Budget Deficit

Both levels of taxation and spending affect a government's budget deficit. Common scenarios that
create deficits by reducing revenue and increasing spending include:

• Tax structure that under taxes high-wage earners but overtaxes low-wage earners.

• Increased spending on programs like Social Security, Medicare, or military spending.

• Increased government subsidies to targeted industries.

• Tax cuts that decrease revenue but provide corporations with funds to increase employment.

• Low GDP, or gross domestic product, results in lower tax revenue.

Budget deficits may occur as a way to respond to certain unanticipated events and policies, such as the
increase in defense spending after the September 11 terror attacks.
Effects of a Budget Deficit

Budget deficits affect individuals, businesses, and the overall economy. As the government takes steps
to improve the deficit, spending for programs such as Medicare or Social Security may be curtailed.
Improvements to infrastructure may also be affected.

To increase revenue, tax hikes may occur for high-income earners or large corporations which may
affect their ability to invest in new business ventures or hire new employees.

A looming concern of a budget deficit is inflation, which is the continuous increase of price levels.

A huge disadvantage or implication of fiscal deficit is it may lead to a debt trap.

Strategies to Reduce Budget/Fiscal Deficit:

Countries counter budget deficits by promoting economic growth through fiscal policies, such
as reducing government spending and increasing taxes.  Here are some commonly-floated federal
budget deficit solutions:

a) Cut government spending

The government can cut its public spending to reduce its fiscal deficit. Cutting spending can come in a
number of different forms. Some groups advocate for cutting spending on social programs like Social
Security, Medicaid, and aid for state-based programs. Some advocate cutting the military budget, which
is much higher than any other developed nation.

For example, in the 1990s, Canada reduced its public spending quite significantly. They evaluated many
different departments and cut spending by up to 20% within four years across the board. This proved a
successful policy in reducing the budget deficit. During this period of spending cuts, the Canadian
economy continued to grow which also helped reduce the budget deficit.

b) Increase Taxes:

Higher taxes increase revenue and help to reduce the budget deficit. This could largely be achieved by
increasing taxes, particularly on the wealthy.

Tax on goods, services, imports and exports.

c)Increase growth.

One of the best ways to reduce the budget deficit as a % of GDP is to promote economic growth. If the
economy grows, then the government will increase tax revenue, without raising taxes. With economic
growth, people pay more VAT, companies pay more corporation tax (tax on profits), and workers pay
more income tax. High economic growth, is the least painful way to reduce the budget deficit because
you don’t need to raise tax rates or cut spending.

d) Borrowing:
From Public : Bonds: US Special Bonds, National Savings Bonds

From Internal/Commercial Banks: NBP, UBL, HBL ect

From State Bank of Pakistan

From Int Banks: IMF, World Bank, Asian Development Bank, Islamic Development Bank, Asian
Infrastructure Investment Bank: AIIB

From Foreign Countries: Saudi China, Qatar

e) Printing Currency:

Printing New Currency

Impacts of These Options:

a) Borowing:

If govt does not pay back loans or borrowings, the security which a govt gives while taking loans or
borrowing is hold by the borrower. Security= Precious Asset= if withholden=loss to govt= Interest rate
increases=Enocomic instability+inflation

Total External Loans:

2020-21

22201.25

2021-22

3776.249 billions

2022-23

5503.47 billions

IMF Loans

2020-21

77.4 billions

2021-22

183.75 billions

2022-23

558 billions
b) Increase Tax:

Increase Tax=consumption decreases= savings and investments also decrease= ultimately gdp
declines/shrinks and national economy suffers.

c) Printing Currency:

While printing currency if there is no back support to it such as gold and silver reservoirs= the worth of
currency is equivalent to zero

Market= More Money circulates= Intrinsic value of currency is lost (Currency Devaluation)=Inflation
Increases

So, according to economic analyst the best to combat fiscal deficit is the cutting of expenditure and
increase growth.

What's the Difference Between the Federal Budget Deficit and the Federal Government Debt?

A federal budget deficit occurs when government spending outpaces revenue or the income drawn
from taxes, fees, and investments. Deficits add to the national debt or federal government debt. If
government debt grows at a faster pace than gross domestic product (GDP), the debt-to-GDP ratio may
balloon, possibly indicating a destabilized economy.

 Which Policy is Pakistan Following?

Pakistan is facing Expansionary Fiscal Policy. (see further about it in notes)

Govt Spending High

Taxation is low

Expansionary policy is adopted for GDP growth.

See lect 5

 Pakistan and IMF

Pakistan, being a developing nation is facing the critical situation for which it is left with no option other than knocking the door
of IMF for borrowing credit in order to reform the up speculated economic crises.

 Effect of FATF on Pakistan

 How to control Inflation: Solutions

 Issues of Taxation

 How to Improve Pakistan’s Economy?