Fiscal Policy

Macro economic Policy

Macroeconomic policy is a programme

of action undertaken to control,
regulate and manipulate macro
variables to achieve the
macroeconomic goals of society.

Need for macroeconomic policy – after

great depression
Objectives of macroeconomic policy
 Economic growth
 high rate of employment
 Stabilisation of prices, output and
employment
Economic equity
 stabilising balance of payments

Monetary policy Fiscal policy

 Fiscal policy

 Fiscal policy is the government

programme of making discretionary
changes in the pattern and level of its
expenditure, taxation and borrowings
in order to achieve intended economic
growth, employment, income equality,
and stabilisation of the economy on a
growth path.
 What is Fiscal policy ?
 The policy of the government regarding:
(1)Taxing & Spending, (2)Lending &
Borrowing
 It is nothing but the budgetary policy of
the government.
 Refers to the government’s choices
regarding the overall level of government
purchases or taxes.
 Fiscal policy influences saving,
investment, and growth in the long-run.
 In the short-run, fiscal policy affects the
aggregate demand.
 Fiscal Policy

 Fiscal policy target variables-

disposable income, consumption
expenditure, savings and investment
wealth holding of people

Fiscal instruments – public

expenditure, taxation, public
borrowings, deficit financing
Objectives of Fiscal policy are same as the
general economic objectives of the govt.

Objectives of fiscal policy in India are:

Mobilise Resources
Raise rate of savings and capital formation
Control Inflation
 Reduce disparities in income and wealth

Fiscal policy tries to achieve its objectives

by a coordinated use of:
1. Pub. Revenue
2) Pub. Exp.
3) Pub Debt.
 Public Revenue:

TAX
Revenue
Receipts Governm-
NON-TAX ent's
own
receipts

 Recovery
of Loan Capital
Receipts
Disinvestment
Consumption
Revenue
Interest Exp.

Transfer Pay. Total

Exp.
Exp. on new
Roads, Capital
Dams etc Exp.
 Changes in Taxes & AD
When the government cuts taxes, it:
Increases households’ disposable
income households will spend some on
consumer goods shifting the
aggregate-demand curve to the right.

 The opposite is true for an increase in tax

rates.
Changes in Government Purchases

The government can influence the

economy because:
– of the size of the central government in
relation to the economy and other
economic entities.
– of the deliberate use of spending and
taxes to manipulate the economy toward
achieving a predetermined outcome.
 Changes in Government Purchases
 Thecentral government’s control of the
economy is both direct and indirect.
– Its expenditures have a direct effect on
aggregate spending and therefore
equilibrium GDP.
– Taxes and tax policy indirectly affect the
aggregate spending of consumers.
 The Multiplier Effect of
Government Purchases
 Each Rupee spent by the government can
raise the aggregate demand for goods and
services by more than a Rupee — the
multiplier effect.
 The total impact of the quantity of goods
and services demanded can be much larger
than the initial impulse from higher
government spending.
 The Multiplier Effect of
Government Purchases
The formula for the multiplier is:
Multiplier = 1 ÷ (1 - MPC)
– where, MPC is the Marginal Propensity to
Consume.
 Conclusion
 Government macroeconomic policy
should proceed carefully and with an
understanding of the consequences of
its policies in the short and long-run.

 Fiscal policies can have long-run effects

on saving, investment, the trade balance
and growth.

 Monetary policy can ultimately determine

the level of prices and affect the inflation
rate.
 NOTES
Contractionary Fiscal Policy - Policy
enacted by the government that
reduces output. Examples include
raising taxes and decreasing
government spending.
Expansionary Fiscal Policy - Policy
enacted by the government that
increases output. Examples include
lowering taxes and increasing
government spending.
 FISCAL POLICY IN INFLATION:
 Control over public expenditure
 Increase in taxes

 FISCAL POLICY IN DEFLATION:

 Increase in Public expenditure
 Decrease in taxes
 Increase in social welfare expenditure
 Price support policy
 Deficit financing
 INSTRUMENTS OF FISCAL POLICY:
1) TAXATION- Taxation is a powerful instrument of fiscal
policy in the hands of public authorities that
significantly changes disposable income, consumption
and investment.An anti depression tax policy increases
disposable income of the individual, promotes
consumption and investment.
2) PUBLIC EXPENDITURE: The active participation of the
government in economic activity has brought public
spending to the front line among the fiscal tools. The
appropriate variation in public expenditure can have
more direct effect upon the level of economic activity
than even taxes.
During inflation , public spending must aim at reducing
the government spending and it should decrease during
depression.
PUBLIC DEBT: Public debt is a sound fiscal weapon to fight
against inflation and deflation.It brings about economic stability
and full employment in an economy.The government borrowing
may be of four types.
1) BORROWING FROM NON-BANKING PUBLIC-When the govt.
borrows from non-banking public through sale of bonds, money
may flow either out of consumption or saving or private
investment or hoarding.
2) BORROWING FROM BANKING SYSTEM: The government
may also borrow from the banking institutions.
3) DRAWING FROM TREASURY: The government may draw
upon the cash balances held in the treasury for financing
budgetary deficit.
4) PRINTING OF MONEY: Printing money that is deficit financing
is another method of public expenditure for mobilising
additional resources in the hands of government.