function of fiscal policy,theory of social goods,objective

1. A Treatise
Fiscal Policy
Presented by :Aman Gaur
Dept. of Business Administration

2. Introduction
 Government revenue and expenditure affect not only
the government’s own activities but also the entire
economy, either directly or indirectly.
 Taxation affects both household consumption and
production.
 Deficit financing by the government increases money
supply and thereby affects the price level.
 Public debt may transfer the burden of Government
expenditure from one generation to the next

3. Introduction
 If the Government follows the principles of public
finance properly, its revenue and expenditure would
improve the overall economic welfare of the country.
 The Government may use the budget to redistribute
income from the rich to the poor; or
 It may even tax or subsidize differentially to benefit
selected groups of consumers and producers.
 However, if the Government violates the basic
principles of public finance, the budgetary operations,
instead of improving economic welfare, would actually
adversely affect the economy

4. DOMAIN OF PUBLIC FINANCE
 “In every developed society there is some form of
Government organization which may or may not
represent the members of society collectively but
certainly has coercive authority over them
individually” – A.C. Pigou
 Public finance is the study of the financial
activities of governments and public authorities.

5. DOMAIN OF PUBLIC FINANCE
 Some of the important issues studied in public finance,
are :
 i) What should be the proper functions of the
Government?
 ii) What should be the proper size of the Government
budget?
 iii) What pattern of financing of Government expenditure
could be desirable?
 iv) What should be the incidence of taxation?
 v) What composition of public expenditure would be
desirable/suitable?
 vi) What would be the effect of tax rates on people’s
desires to work, save and take risks?

6. DOMAIN OF PUBLIC FINANCE
 Some basic propositions about public finance are as
follows:
i) It deals with the expenditures and revenues of the
public sector.
ii) The basic norms of public finance are universal.
iii) Fiscal deficit measures the difference between
Government revenue and expenditure.
iv)Excessive fiscal deficit is harmful for the economy.
v)Fiscal reform is needed to improve the efficiency of
government budget by removing fiscal deficit.

7. Fiscal Policy
 It is the policy through which the Government
creates & sustains the public economy;
 Consisting of the provision of public services and
public investment;
 It is an instrument for reallocation of resources
according to national priorities,
 Redistribution, promotion of private savings and
investments, and the maintenance of stability.

8. Major Functions of Fiscal
Policy
i.) The allocation function of budget policy, that is, the
provision for social goods.
ii) The distribution function of budget policy, is ‘fair’ & ‘just
distribution of income and wealth.
iii) The stabilization function of budget policy, that is
maintaining high employment, a reasonable degree of
price stability and an appropriate rate of economic
growth, with due consideration of its effects on trade
and the balance of payments.

9. Theory of Social Goods
 The market economy, if certain conditions are met, enables
an efficient use of resources for providing private goods.
 Social goods (e.g. parks roads, bridges, free or subsidized
educational facilities) are goods which are required for the
welfare of society as a whole, but for which the market fails
to provide a value.
 People are generally ignorant of the value or utility of social
goods. An individual knows that once one piece of social
goods say a road, is constructed, he cannot be denied its
use whether he paid for its construction or not.
 Everyone assumes that others would pay for it. It is these
failures of the market (i.e. provision of social goods), which
bring the role of the government in focus for providing social
goods for the welfare of the public in general.

10. Fiscal Policy Objectives

11. Government Revenue
 For financing any public expenditure govt needs
revenue which basically comes from :
A. Personal Tax (income tax)
& Non Personal Tax (Objects/Activities eg. Sales
tax, gift tax
B. Direct (Income tax) vs. Indirect Tax
(Excise/Custom Duty)

12. Features of a Good Tax Policy
A good tax policy should have the following features:
 1. Tax burden must be equitably distributed among citizens.
 2. Excessive tax burden should be avoided.
 3. The administration and compliance cost should be
minimum.
 4. The tax policy should facilitate the objectives of fiscal policy
of stabilization and growth.
 5. Where tax policies are used to achieve other objectives
such as encourage investment in certain sectors of the
economy, interference with the equity of the system should be

13. Approaches to Tax Equity
 A. Benefit Principle (Adam Smith) - Practically tough to
implement
 B. Ability to Pay - Easy to implement
 Horizontal versus Vertical Equity
 Tax payers with equal ability to pay should be required
to contribute equally. (Horizontal)
 Tax payers with unequal capacities to contribute
correspondingly different amounts (Vertical Equity)

14. Tax Incidence
 Tax incidence refers to the effects of particular
budgetary measures on the output and
employment in economy – ultimately on social
welfare.
 1. The entire tax burden is ultimately borne by the
individuals.
 2. Depend upon the elasticity of price
(elastic/inelastic). In either case whether it is
borne by the consumer or producer.

15. Results of Tax Incidence
 1. The burden of tax can be on the employee in the
form of lower wages
 2. The burden would be on the employee in the form of
lower quality or higher prices of goods.
 3. Taxes on easily substitutable goods may be borne
mostly by the producers (significantly elastic)
 4. Statutory burden is not ultimate burden and both are
different (Statutory burden on institution but ultimately it
is individual.)