FISCAL IMPACT AND INVESTMENT

TAXATION AND INVESTMENT

Taxation is one of the powerful instrument of fiscal policy. Changes in the taxation rate affect the disposable income, consumption and investment. An anti-depression tax policy increases the disposable income of the individual, promotes consumption and investment. Even sometimes, the reduction in the rate of commodity taxes like excise duties, sales tax and import duty lead to promote consumption and investment. Prof. Kalecki, opined that during depression, tax reduction cannot provide stimulus to guide entrepreneur to undertake more investment.

PUBLIC EXPENDITURE AND INVESTMENT

With the changes in the govt. expenditure, the consumption of the people changes and so as the investment. Public expenditure in inflation during this period public expenditure should curb in unproductive channels and postponed in other channels. By this the public spending and economic activity can be reduced. Public expenditure in deflation public spending increases to lift the economy out of stagnation. Private consumption and investment increases due to increase in public spending.

PUBLIC EXPENDITURE AND INVESTMENT

Two concepts of public spending

Compensatory Public Spending: public spending is undertake with a clear view to compensate for the decline in private investment. Different forms are relief expenditure, subsidy, social insurance payments and public works. Pump Priming: refers to increase in private investment through injection of fresh purchasing power into income steam. It is like a little water pored into a pump to prime it, it may supply endless flow of water.

Expansionary Fiscal Policy

LM E Rate of Interest

r1 r0

The govt. either increases its expenditure and/or reduces tax

IS IS

Y0 Level Income

Y1 Y2

Fiscal policy is more effective LM curve is flatter

LMs E Rate of Interest

r1 r2 r0

LMF

IS IS

Y0 Y1 Y2 Level Income