Fiscal policy

Fiscal policy use of taxation and governemnt expenditure in order to influence the economic activity and meet macroeconomic objectives. Taxation can help redistribute the income among society and widening the gap between extremly poor and rich people. It is purposel imposed by the government to influence the level of AD.

Fiscal policy promote long-term economic growth by:

governemnt spending on physical goods e.g spending on machinery in order to influence the level of economic activity.
governemnt spending on human capital formation - by using education or trainings to expand their skills and knowledge in the particular area.
provision of incentives for firms to invest - provision of tax breaks and tax incentives that will provide business confidence and inrease the propabilty of investing.

\ Sources of the government revenue to spend money on fiscal policy:

Tax is a government leavy on income directly or indirectly through the expenditure.

Direct taxes is income tax (Poland 18%), corporation tax, capital gains tax, inheritance tax, windfall tax.

Indirect tax is sales tax (Poland 23%), excise duties, custom duties, stamp duty, carbon tax.

\ The sale of goods and services from the state-owned enterprises also known as nationalized industries e.g postal services, airport authority, railway operators or oil companies SOCAR Azerbejian.

\ The sale of government assets / privatization - can be earned by selling government-ownes assets to stakeholders in the private sector. e.g telecommunication, postal services, airlines and even banks. It is a short live policy earning because it could be sold only once.

\ \ Expenditure:

current expenditure/consumption expenditure - government spending on goods and services consumed within a year. Like day-to-day purposes e.g wages and salaries for public sector employes, expenditure on healthcare and education, provision of subsidies, public sector debts.
capital expenditure - refers to long term items of governemnt spendings (public sector investments) that boost the economy’s productive capacity. They are intend to create future benefits for all members of the society. e.g physical infrastructure like new roads, ports, airports, tunnels, schoold and public hospitals. Governemnt borrow money only to provide capital expenditure
transfer payments - welfare expanses from the governemnt used to redistribute the income to others in the socity by funding essential public services and goods as the provison of state education, public healthcare, social housing. Examples of such expenditures inclued low income groups and their unemployment benefits. They are not appear as GDP statistics.

\ Goals of fiscal policy:

low and stable inflation - fiscal policy use higher tax rates a budget surplus to reduce the consumption and investment and thereby shifts the AD curve to the left. Hence, reducing the general price level and real national GDP. CONTRACTIONARY FISCAL POLICY
low unemployment - fiscal policy is used during cyclical unemployment taht occurs during recession when there is a massive job losses. Using the expansionary policy by reduction of taxes and expaning goverment spendings will boos the level of AD. This should increase the demand for labour.
promote a stable economic environment for long-term growth - by creating an environment of low taxaton that is favourable to private sector investments by domestic and foregin firms. Tax revenues cannot be too low because it will reduce the governemnt expenditure.
reduce businnes cycle fluctuations -
equitable distribution of income - use a transfer payments to improve the well-being of poorer members of society or use high marginal tax rates in a progressive tax system and wealth taxes to fund the provision of essential goods and services
external balnace - indirect taxes imposed on imports will increase the external balance and exports will be more appealing in terms of price. Demand for exports increase. If there is higher value of imports that means the country spends more than it earns on international trade which is not sustainable in the long-run.

\ Expanisonary fiscal policy is the increase governemnt spendings and lower taxes in order to achieve desired economic activity. Lower taxes boost consumption and investments. This economic growth adds inflationary pressure. Keynesian belive that it will helps economy get out of recession and operates at full employment level. Monetarist argue that is inefficient in the long-run, low unemployment can bring high inflation. It is important in thsi case to control the money supply to keep inflation low.

\ Contractionary fiscal policy - reduce the economic activty by decresing governemnt spendings and increase taxes. It tends to reduce the inflationary pressure.

\ Effectivness of fiscal policy:

political pressure - some governemnt spendings and taxes can be influence by political rather than economic decisions. It is influenced by political leaders, however the monetary policy is by central bank and has nothing with politics.
time lags- changes to fiscal policy requires clear strategy, making a plan and must be approved by the governemnt, the administrative processes takes time. Types of time lags are recognition, administrative and impact time lags.
sustainable debt - If a government continues to run a budget deficit and borrow money, the total amount borrowed will increase. The total amount borrowed is called the public sector debtor national debt.

\ To fund a deficit a government borrows money by issuing a financial instrument called a bond. Bonds allow investors to lend the government money, which is paid back on a certain date with interest.

\ How the governemnt will shift LRAS curve ?

By decreasing corporation taxes, the profits retained by firms will increase. As a result they will have more money to spend on research and development.

\ Strenght of fiscal policy:

government spending effective in deep recession - governemnt spending injects money into the circulation and boost the economic activity
progressive taxes - progressive taxing system charge higher income earners with higher taxes. During economic boom the governemnt receive automatically more tax revenue. It helps them to gain more money.
unemployment benefits - form of transfer payments. During recession governemnt spends more on unemployment benefits in order to maintain economic activity. Hence during economic boom government spends less on unemplyed, becaues the employment level is higher. Thus giving higher unemployed benefits will make working less atractive.