Fiscal Policies Essay
Fiscal PoliciesFiscal policies increase or decrease the total amount of income consumers and businesses are able to spend. The more money they can spend, the more likely it will be for output, spending and income to go up. This means that unemployment will fall and prices rise. The less money they spend, the more likely it will be for output, spending, and income to decrease.
This means that unemployment will go up and prices will go down (or stay the same).How can government affect the amount of money spent by businesses and consumers? One important and obvious way is through its power to collect taxes. By increase taxes, the government decrease total spending. This tends to stop, price increase by slowing down economic activity. Tax increases, therefore are used to fight inflation. By decreased taxes the government increases the amount of money that can be spent.
This tends to make output go up. When output goes up, more people are working and earning income thus raising the standards of living. Tax cuts therefore, are used to fight unemployment. The second method is through spending money itself during the fiscal year. This helps in increasing the demand for products which in return varies output and puts more puts more people into work.
A large increase in spending tends to increase the production of goods and services dramatically. A small increase usually means that the number of jobs does not increase as fast as the number of workers looking for jobs. This means that the unemployment rate will continue to climb.To fight rising prices and relieve shortages, the government would increase taxes and reduce spending or both.
A tax increase would curb consumer and investment spending. The cuts in government spending would further reduce total demand.If in a depressed period a fiscal policy is pursued which reduces taxes and increases spending, this is called deficit financing. The government spends more than it takes in taxes.
The use of tax increases to reduce consumer expenditures is more positive in its results. If the government wants to check inflation it can increase taxes. An increase combined with a tight money policy is certain to cut down on the ability of consumers and business to purchase goods. If a large slice of each worker’s paycheck each landlord’s rent, each investor’s interest at executive’s salary and each businessman’s profit is taxed away by the government, spending will of necessity be curtailed.The effectiveness of the fiscal policy will depend on sensitivity of investment to interest rate and this is what determines the scope the IS curve.
If investment does not change the IS also does not change. Changes in interest rate do not change income because they are unable to change investment.The government spending will not affect the private investment because investment is insensitive to changes in interest rate.Increase in government spending will mean that unemployment is reduced with more people working thus improved GDP and vice versa.An increase in income tax will translate into a decrease in the disposable income of individuals thus injuring the economy.
However, by decreasing tax the government will increase individuals’ disposable income a boost to the economy.Increasing taxes levied on profits made by companies will discourage investment thus realizing minimal economic growth; reducing corporate tax will on the other hand encourage investments in companies thus improving the economic growth and development. Moreso, raising tax changes on capital gains will discourage people from investing on shares, treasury bills, bonds etc.
This will obviously hurt the economy. Consequently reducing capital gain will boost the economy. Crowding out will occur if the government increases its borrowing or fund increased expenditure or trim the taxes.
A budget surplus will be implemented in the economy if inflation is high in order to achieve the objective of price stability.Expansionary fiscal policy will increase the output, which will increase interest rates. Contractionary on the other hand will slow down the economy and reduce interest rates. When the government wants to speed up the economy it will employ Expansionary fiscal policy thus increasing interest rates. However to slow down the economy the government will apply Contractionary fiscal policy. Reduced fixed investment will counter the expansionary effect of government deficits.
Fiscal policy may either injure or boost a small business if for example. It levies higher taxes on government chocolates the business will be face by closure threats and vice versa. To take advantage of this I would maximize production whenever there is a tax reduction on this product so as to ensure the economic progress of the small enterprise.A government may need to fund a budget deficit through public borrowing when governments fund a deficit with the release of government bonds, an increase in interest rate across the market will occur.
Increased government spending will increase GDP while a reduction in government spending will have a considerable decrease on the GDPReferencesBlinder, A. (2000): Economic Policy and the great Stagflation: New York: AcademicPressPaul, A. (1999); Economics, New York: McGraw-Hill