The fiscal policy and its objectives.

What is fiscal Policy?

In this article I would like to discuss the meaning of the fiscal policy and some of its objectives.

The fiscal policy:

    The fiscal policy refers to the use of government spending and the  tax policies to affect macroeconomic conditions, particularly employment, inflation, and macroeconomic variables such as aggregate demand for goods and services.

Objectives of Fiscal Policies:

1. Full Employment: 

        The first and foremost objective of fiscal policy in a developing economy is to achieve and maintain full employment in an economy. In such countries, even if full employment is not achieved, the main motto is to avoid unemployment and to achieve a state of near full employment. Therefore, to reduce unemployment and under employment, the state should spend sufficiently on social and economic overheads. These expenditures would help to create more employment opportunities and increase the productive efficiency of the economy.

        In this way, public expenditure and public sector investment have a special role to play in a modern state. A properly planned investment will not only expand income, output and employment but will also step up effective demand through multiplier process and the economy will march automatically towards full employment. Besides public investment, private investment can also be encouraged through tax holidays, concessions, cheap loans, subsidies etc.

        In the rural areas attempts can be made to encourage domestic industries by providing them training, cheap finance, equipment and marketing facilities. Expenditure on all these measures will help in eradicating unemployment and under-employment.

2. Price Stability:

        There is a general agreement that economic growth and stability are joint objectives for underdeveloped countries. In a developing country, economic instability is manifested in the form of inflation. Prof. Nurkse believed that “inflationary pressures are inherent in the process of investment but the way to stop them is not to stop investment. They can be controlled by various other ways of which the chief is the powerful method of fiscal policy.”

            Therefore, in developing economies, inflation is a permanent phenomena where there is a tendency to the rise in prices due to expanding trend of public expenditure. As a result of rise in income, aggregate demand exceeds aggregate supply. Capital goods and consumer goods fail to keep pace with rising income.

            Thus, these result in inflationary gap. The price rise generated by demand pull reinforced by cost push inflation leads to further widening the gap. The rise in prices raises demand for more wages. This further gives rise to repeated wage-price spirals. If this situation is not effectively controlled, it may turn into hyper inflation.

            In short, fiscal policy should try to remove the bottlenecks and structural digitizes which cause imbalance in various sectors of the economy. Moreover, it should strengthen physical controls of essential commodities, granting of concessions, subsidies and protection in the economy. In short, fiscal measures as well as monetary measures go side by side to achieve the objectives of economic growth and stability.

3. To Accelerate the Rate of Economic Growth:

            Primarily, fiscal policy in a developing economy, should aim at achieving an accelerated rate of economic growth. But a high rate of economic growth cannot be achieved and maintained without stability in the economy. Therefore, fiscal measures such as taxation, public borrowing and deficit financing etc. should be used properly so that production, consumption and distribution may not adversely affect. It should promote the economy as a whole which in turn helps to raise national income and per capita income.

4. Optimum Allocation of Resources:

         Fiscal measures like taxation and public expenditure programmers, can greatly affect the allocation of resources in various occupations and sectors. As it is true, the national income and per capita income of underdeveloped countries is very low. In order to gear the economy, the government can push the growth of social infrastructure through fiscal measures. Public expenditure, subsidies and incentives can favorably influence the allocation of resources in the desired channels.

            Tax exemptions and tax concessions may help a lot in attracting resources towards the favored industries. On the contrary, high taxation may draw away resources in a specific sector. Above all, direct curtailment of consumption and socially unproductive investment may be helpful in mobilization of resources and the further check of the inflationary trends in the economy. Sometimes, the policy of protection is a useful tool for the growth of some socially desired industries in an under-developed country.

5. Equitable Distribution of Income and Wealth:

            It is needless to emphasize the significance of equitable distribution of income and wealth in a growing economy. Generally, inequality in wealth persists in such countries as in the early stages of growth, it concentrates in few hands. It is also because private ownership dominates the entire structure of the economy. Besides, extreme inequalities create political and social discontentment which further generate economic instability. For this, suitable fiscal policy of the government can be devised to bridge the gap between the incomes of the different sections of the society.

         To reduce inequalities and to do distributive justice, the government should invest in those productive channels which incur benefit to low income groups and are helpful in raising their productivity and technology. Therefore, re-distributive expenditure should help economic development and economic development should help redistribution.

            Thus, well-planned fiscal program, public expenditure can help development of human capital which in turn possesses positive effects on income distribution. Regional disparities can also be removed by providing incentives to backward regions. A re-distributive tax policy should be highly progressive and aim at imposing heavy taxation on the richer and exempting poorer sections of the community. Similarly, luxurious items, which are consumed by the higher section, may be subject to heavy taxation.

6. Economic Stability:

         Fiscal measures, to a larger extent, promote economic stability in the face of short-run international cyclical fluctuations. These fluctuations cause variations in terms of trade, making the most favorable to the developed and unfavorable to the developing economies. So, for the purpose of bringing economic stability, fiscal methods should incorporate built in-flexibility in the budgetary system so that income and expenditure of the government may automatically provide compensatory effect on the rise or fall of the nation’s income.

            Therefore, fiscal policy plays a leading role in maintaining economic stability in the face of internal and external forces. The instability caused by external forces is corrected by a policy, popularly known as ‘tariff policy’ rather than aggregate fiscal policy. In the period of boom, export and import duties should be imposed to minimize the impact of international cyclical fluctuations.

           To curb the use of additional purchasing power, heavy import duty on consumer goods and luxury import restrictions are essential. During the period of recession, government should undertake public works programmed through deficit financing. In nut shell, fiscal policy should be viewed from a larger perspective keeping in view the balanced growth of various sectors of the economy.

7. To Encourage Investment:

             Fiscal policy aims at the acceleration of the rate of investment in the public as well as in private sectors of the economy. Fiscal policy, in the first instance, should encourage investment in public sector which in turn effect to increase the volume of investment in private sector. In other words, fiscal policy should aim at rapid economic development and must encourage investment in those channels which are considered most desirable from the point of view of society.