Fiscal policy & its role in financial crisis

Abstract

Fiscal policy is defined as the Government’s measure to guide and control spending and taxation. The traditional view is that fiscal policy performs three main functionsallocation, distribution and stabilization. The allocation function is the process of dividing total resource use between private and social use and choosing the optimal mix of social goods. The distribution function is considered with the distribution of income and wealth within the society in a manner that the society considers egalitarian. The stabilization function is concerned with achieving the main macroeconomic objectives set by policymakers to ensure economic growth, price stability and sustainable external accounts. Objectives of fiscal policy The role of fiscal policy in developed economies is to maintain full employment and stabilize growth. In contrast, in developing countries, fiscal policy is used to create an environment for rapid economic growth. The various aspects of this are: 1. Mobilisation of resources: Developing economies are characterized by low levels of income and investment, which are linked in a vicious circle. This can be successfully broken by mobilizing resources for investment energetically. 2. Acceleration of economic growth: The government has not only to mobilize more resources for investment, but also to direct the resources to those channels where the yield is higher and the goods produced are socially acceptable. 3. Minimization of the inequalities of income and wealth: Fiscal tools can be used to bring about the redistribution of income in favor of the poor by spending revenue so raised on social welfare activities. 4. Increasing employment opportunities: Fiscal incentives, in the form of tax-rebates and concessions, can be used to promote the growth of those industries that have high employment-generation potential. 5. Price stability: Fiscal tools can be employed to contain inflationary and deflationary tendencies in the economy.