FISCAL POLICY- The policy undertaken by the government in order to utilize the government revenue in necessary expenditure is called fiscal policy. This policy is actually based on the concepts presented by UK economist John Maynard Keynes (1883-1946). The two major specimens of it are tax cuts and increased government spending. Both of which lead to deficits in the budget.
This policy is mostly used to stabilize the economy in the business cycle and by that influence, the economy. As per Keynesian economics, the changes in government spending and taxation policy influence the macroeconomic variables in the following ways:
- Aggregate demand and level of economic activity;
- Saving and investment;
- Income distribution;
Fiscal policy can be easily separated from the Monetary policy as this policy is managed by an executive, underneath the laws of a legislature and it handles taxation and government spending. According to Classical macroeconomics when depression in expenditure takes place during the recession due to a decline of business conditions, a Fiscal policy is considered as a useful strategy for the government.
Prior to the Great Depression, the government proceeded towards the economy in a ‘laissez-faire’ manner. However, in World War II, it was understood that the government had a major role in the economy to regulate unemployment, business cycles, inflation, stabilizing the growth rate of the economy, promote the development of underdeveloped countries, and the cost of money. Hence, a mix of fiscal and monetary policy was used depending on the situation. One survey also tells us that every three out of four presidents agree that the expansion of fiscal policy is best for their economy. This policy is hotly debated at federal, state, country, or municipal level as it usually shows the needs of individual lawmakers and focuses on fulfilling their constituencies ignoring the priorities of the nation.
There are mainly three major types of fiscal policy and the government uses one of them as per the need. They are:
- Expansionary Fiscal Policy:
This policy is quite well-known among the citizens as it is used by the government to increase the flow of money either by spending more on public works, providing employment opportunities, invest in incomplete projects or reduce the tax rate which affects the largest economic group, that is, the middle class. The application of this policy isn’t possible by the state government as it is always pressured to keep its budget balanced
- Contradictory Fiscal Policy:
As opposed to an Expansionary policy, the main focus of this policy is to reduce economic growth in order to remove inflation. This policy can be dangerous as it reduces the money supply among the people which means the businessmen will not be able to vend their products and on the other hand, it increases tax rates which mostly affect the upper class as they have to pay more tax. Thus, it is hardly ever used.
- Neutral Fiscal Policy:
When the economy of a country is neither under boom or recession, this policy is undertaken which has no effect on the level of economic activity