How Fiscal Policy provides Stability, growth and Equity

The objectives of Fiscal policy in developed country is different from those in underdeveloped countries. The main objective of fiscal policy in developed countries is maintaining economic stability. Economic development is the main objective in underdeveloped countries.

The main objectives of fiscal policy are as follows:

1) Stability

2) Growth

3) Equity

Economic Stability

Providing stability to the process of growth and development is the key role of fiscal policy in any economy.

Economy stability means that the level of economic activity is maintained at a stable level so that there are no fluctuations in output and employment.

The government through fiscal policy controls the situations of inflationary and deflationary gaps in the economy. Market economies often experience business cycles (boom and recession). 

During boom period, both output and employment are high. A situation of excess demand prevails in the economy, leading to rise in prices and inflationary gap.

During recession/depression period, both output and employment are low leading to huge unemployment in the economy. A situation of deficient demand prevails in the economy, leading to rise in unemployment and deflationary gap. Both the situation of boom and recession is undesirable for the economy and need to be checked.

As we have already covered various instruments offiscal policy and there  working, we will see how fiscal policy will control business cycles.

During boom:

a) Government expenditure or Public expenditure: Decrease

b) Taxes: Increase

c) Public borrowing/ public debt: Increase

d) Deficit Financing: Decrease

For detailed study also Read:

Fiscal Policy – Correcting excess demand situation

During depression/ recession:

a) Government expenditure or Public expenditure: Increase

b) Taxes: Decrease

c) Public borrowing/ public debt: Decrease

d) Deficit Financing: Increase

For detailed study also Read:  

Fiscal Policy – Correcting deficient demand situation

Economic growth

Attaining high rate of economic growth is an important objective of fiscal policy in developing countries.

Economic growth is defined as the process where the real per capita income of a country increases over a long period of time.

The government attains the process of growth through investment expenditure in strategic sectors of the economy, like education, research and development, defence sectors etc. Autonomous investment by the government is a key instrument of fiscal policy which tigger the pace of growth. Higher rate of economic growth helps in solving the issues like poverty, unemployment, raising the standard of living of the people etc. in developing countries.

Economic Equity

Developing countries aim at reducing inequalities in the distribution of income and wealth. Fiscal policy of the government can reduce this disparity through its instruments.

Government offers

Subsidies: a sum of money granted by the government to help an industry or business keep the price of a commodity or service low with the aim of promoting economic and social policy) and tax holidays (a temporary reduction or elimination of tax, its similar to tax abatement, tax subisidy or tax reduction.Government usually create tax holidays as incentives for business investment) to private investors, to invest on backward areas. It facilitates balanced regional growth. It also helps to stop migration of labours from rural to urban areas in search of jobs.

Fiscal policy focuses on inclusive growth of the economy. It implies that gains of growth are evenly distributed across all the sections of the society. 

High expenditure by the government on rural employment leads to inclusive growth in developing countries.

Government offers

transfer payments: One way payment of money for which no money, good, or services is received in exchange. Government use such payment as means of income redistribution by giving out money under social welfare programs such as social security, old age pension scheme etc. to weaker sections, while levying taxation on richer sections of the society.

Progressive taxation(a tax is called progressive when the rate of taxation increases as the taxpayer’s income increases) and expenditure on subsidies are important fiscal instruments being used in developing countries to foster Social Equality.