Fiscal Policy: Objectives and Instruments

Fiscal Policy refers to the deliberate use of government revenue (taxation) and government expenditure as instruments to influence the level of economic activity, in pursuit of specific macroeconomic goals.

Objectives of Fiscal Policy:

• Economic growth — raising the long-run productive capacity of the economy through public investment in infrastructure, education and health.
• Price stability — moderating inflation (by reducing government spending or raising taxes to cool demand) or deflation (by increasing spending or cutting taxes to boost demand).
• Full employment — using public spending, particularly on infrastructure and public works, to generate employment, especially during a slowdown.
• Equitable distribution of income and wealth — using progressive taxation (higher tax rates on higher incomes) combined with welfare expenditure to narrow economic inequality.
• Correcting balance of payments disequilibrium — using tariffs, export incentives and related fiscal tools to influence the trade balance (developed further in the International Economics chapter).

Instruments of Fiscal Policy:

1. Taxation — raising or lowering tax rates, or restructuring the tax system (e.g., a more progressive structure), to influence disposable income, consumption, saving and investment.
2. Public Expenditure — increasing government spending (especially counter-cyclically, during an economic slowdown) to boost aggregate demand, or reducing it to cool an overheating economy.
3. Public Debt — borrowing to finance expenditure in excess of current revenue, particularly useful during a recession when the government wishes to spend more without immediately raising taxes. …