Fiscal policy includes the measures of the Government which deal with its revenues and expenses. Fiscal measures are significant in any economy as when the government changes the measures of its income (primary source being taxation) and expenditure (education, healthcare, police, military forces, interest on borrowing, administrative machinery, welfare benefits etc.), it pressurisescollective demand, supply, savings, investment and the overall economic activity in the country.
Budgeted excess of Government’s expenditure over its revenues in anexplicit year is called as fiscal deficit, which is in generalclear as a percentage of GDP. The fiscal deficit is bridged by the government through market borrowings, both short-term and long term.
A large fiscaldeficit, and as a result a higher borrowing by the government, will push up interest rates in the economy and make it complicated for corporate borrowers to access funds. A high interest rate environment is disadvantageous to economic growth.
A country has business and other contracts with body abroad which results in receipts and payment of funds. These include receipts for Experts and payments for imports, interest, dividend received and paid and other transfers from abroad.
The current account balance is the disparity between the receipts and the payments. A country may have a current account surplus (receipts > payments) or deficit (receipts < payments).
A high fiscal deficit in ratio to the GDP caused by lack of competitiveness in trade or unnecessary consumption is a negative remark on the economy.
A high CAD reasons the nation’s currency to grow weaker relative to other currency. This makes imports more expensive and will affect the efficiency of the economy as capital goods and commodities become expensive.
It diminishes the credit worthiness of the nation and makes borrowings more expensive. A run down currency makes Experts of the nation more aggressive and may assist narrow the deficit.
If the country is viewed as an attractive investment destination, the capital inflows in the form of FDI and portfolio inflows will counterbalance the CAD and defend the currency from deflation.
Expenditure is funded by the Government through multiple ways: chiefly through
P/L measures - Income from operations: Taxation, interest and dividend income
B/S measures - Borrowing and Sale of assets
While Government tries to poise between its inflows and outflows, based on its actions, fiscal policy is being considered as:
Neutral fiscal policy–When governments’ income and expenditure are in balance. Nomajor changes required in the Fiscal policies.
Government’s spending exceeds its income were measured by Expansionary fiscal policy.This policy bearing is usually undertaken during recessions/slow moving economy.
Contractionary fiscal policy–Fiscal measures when government’sspending is lower than itsincome. Government uses surplus income to repay its debts/obligations or acquire assets.
Monetary Policies and their Impact on Economy
Monetary policies, administered by central bank in an economy, deal with money supply, inflation, interest rates for the purpose of encouraging economic growth and managing price stability (inflation).