PROJECT

ON

SYBMS
III rd
SEMESTER

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Group Members
NAMES ROLL No

PANKAJ JAIN 40

BHARAT JAIN 35

PANKAJ JAIN 41

DARSHAN GANDHI 24

Submitted To:-
Mrs. Dr.
Neelam Mathur

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 Aknowledgement

We would like to thank Prof. Dr. Neelam

Mathur for giving us such an opportunity to
explore and study such an interesting topic. It
was indeed a wonderful experience and we
learned a lot out of it.

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 Declaration

We,

Name Roll no. Signature

Pankaj Jain 67140
Bharat Jain 67135
Pankaj Jain 67141
Darshan Gandhi 67124

of Lala LajpataRai College of Commerce and Economics

of S.Y.B.M.S.”A”, Semester – III, hereby declare that we
have completed the project on FISCAL POLICY in the
academic year 2007-2008. The information submitted is
true and original to the best of our knowledge.

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 Certificate

I, Prof. Dr. NEELAM MATHUR, hereby certify that

Pankaj Jain - 67140
Bharat Jain - 67135
Pankaj Jain - 67141
Darshan Gandhi - 67124

of Lala Lajpat Rai College of Commerce and Economics of

S.Y.B.M.S. “A”, Semester - III have completed the project
on FISCAL POLICY in the academic year 2007-2008. The
information submitted is true and original to the best of my
knowledge.

PROJECT CO – ORDINATOR
MRS. Dr. NEELAM MATHUR

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 INDEX

SR. NO. TOPICS PAGE NO.

1. Introduction 7

2. Meaning of Fiscal 9
Policy
3. Objectives of Fiscal 11
Policy
4. Limitations of Fiscal 14
Policy
5. Strategy Statement 16

6. Conclusion 20

7. Bibliography 21

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 Introduction
In Governments Economic policies determine the set of actions that a
government can take in terms of its expenditure, borrowing, setting of
interest rates, labour market, government deficit, etc. Such policies are often
dictated or influenced by the IMF or World Bank as well as political belief
systems and the consequent policies of parties.

Types of economic policy

Economic policy is a complicated area and can be broken down into three
principal areas:

• Fiscal policy is the size of the government deficit and the methods it
uses to finance it.
• Monetary policy is concerned with the amount of money in
circulation and, consequently, interest rates and inflation.
• Trade policy refers to tariffs, trade agreements and the international
institutions that govern them.

Almost any aspect of government has an economic aspect and so many

terms are used. However, they can usually be seen to apply to one of these
areas.

Tools and goals

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Policy is generally directed to achieve particular objectives, like targets for
inflation, unemployment, or economic growth. Sometimes other objectives,
like military spending or nationalization are important.

These are referred to as the policy goals: the outcomes which the economic
policy aims to achieve.

To achieve these goals, governments use policy tools which are under the
control of the government. These generally include the interest rate and
money supply, tax and government spending, tariffs, exchange rates, labour
market regulations, and many other aspects of government.

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 Meaning of Fiscal Policy
The word ‘Fiscal’ is derived from the Greek word ‘fisc’ meaning
basket. The word ‘fisc’ was used to denote the income and expenditure
operations of government while the income operations relate to taxation and
government borrowing, the expenditure operations relates to government
spending. The income of the government from various sources is called
public revenue. It includes income from taxes; both direct and indirect.
Taxes constitute the bulk of government incomes. There are sources as non-
tax revenue of the government such as public sector enterprises, fines, fees,
gifts and grants. Similarly, the government makes expenditure on various
activities which includes social and community services, economic services,
general services. It is referred to as Public expenditure. Broadly speaking,
public expenditure and public revenue constitutes the tools of fiscal policy
which are at the disposal of the government to pursue its macro-economic
goals. Fiscal policy can be explained as a policy executed by the government
to produce desirable effects on national income, output and employment.
Fiscal policy is based on the theories of British economist John
Maynard Keynes. It is also known as Keynesian economics. Fiscal policy
can be explained as a policy executed by the government to produce
desirable effects on national income, output and employment. For Prof.
Hicks, the objective of fiscal policy is to achieve the aim of economic policy

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or in other words, the macro-economic goals which like the monetary policy
remains the same i.e., economic growth, full employment and price stability.
The governments use budgets to plan and control their fiscal affairs. The
budget shows the planned expenditure of government programmes and the
expected revenues from the tax systems. A budget surplus occurs when
government income or public revenue is greater than government or public
expenditure. However surplus budget has become a thing of the past given
the macro-economic goals of a modern state. A budget deficit occurs when
public expenditure is greater than income. A deficit budget has become a
characteristic feature of fiscal policy of all modern governments. A balance
budget occurs when public expenditure is equal to public revenue which is a
rare possibility. When the government has a deficit budget, it means, it is
borrowing from the public by issuing bonds which are repayable on maturity
in future. The government borrowing known as public debt consists of total
or accumulated borrowings by the government. It is the money value of
government bonds owned by the public, households, banks, businesses
foreigners and other non-government institutions. In the Indian context,
when the government borrowing programmes fails to meets its targets, the
Reserve Bank of India simply prints more notes and fills the gap between
actual borrowing, and desired borrowing which is known as Monetised
deficit. Here precisely, monetised deficit is the increase in the net RBI credit
to the Government of India. It thus indicates the amount of fiscal deficit that
is monetised. Monetised deficit leads to increase in money supply and
inflation.

Fiscal policy is said to be tight or contractionary when revenue is

higher than spending (the government budget is in surplus) and loose or

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expansionary when spending is higher than revenue (the budget is in deficit).
Often the focus is not on the level of the deficit, but on the change in the
deficit. Thus, a reduction of the deficit from $200 billion to $100 billion is
said to be contractionary fiscal policy, even though the budget is still in
deficit.

Objectives of Fiscal Policy

Although, both fiscal and monetary policies are complementary and
supplementary to each other and that their goals are almost the same, the
objective of social justice and equity can only be realised through the
operation of fiscal policy. There is hardly any difference in the macro-
economic goals of countries both highly developed and less developed or
developing countries. However, under-developed, less developed or
developing countries may lay greater emphasis on the goal of social justice
and equity, not because of wide inequalities of income but because of
massive and rampant poverty in these countries. Highly advanced countries
have greater income inequalities than developing countries, but they do not
confront the problem of poverty as much as the developing countries.

The macro-economic goals of fiscal policy of all modern countries

therefore can be stated as high employment, economic growth, economic
stability and social justice and equity. How the operation of fiscal policy
helps to achieve these goals is explained below:

1. High Level of Employment: While the macro-economic goal of high

employment remains the same, the nature of unemployment differs.
Unemployment is largely cyclical, frictional & structural in nature. Further

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there is a problem of under-unemployment which is also massive on account
of a faulty HRD policy. In advanced countries, cyclical unemployment is
caused due to deficiency in aggregate demand which can be eliminated by
compensatory public speading, through a deficit budget. The government
can spend huge amounts of money on public works programmes and
generate employment. Cyclical or recessionary unemployment can be
corrected only by raising the level of aggregate demand. One of the
important causes of unemployment in poor and developing countries is the
inadequacy of investible resources. They are labour abundand and capital
scarce. Fiscal policy should aim at improving the level of savings by giving
tax incentives and also promote labour intensive industrial growth by giving
tax holidays and subsidies. The problem of disguised and seasonal
unemployment can be eliminated by large scale public works programmes
on the one hand and rapid industrialisation on the other. However, fiscal
policy alone cannot eliminate the problem of unemployment because of its
sheer magnitude and variety. A proper agricultural policy, education policy
and a population policy will have to work together to eliminate the peculiar
problem of unemployment in countries.

2. Sustained Economic Growth: The economy is said to be growing when

the quantum of goods and services produced in a given year is more than
that of the previous year and when this happens year after year we may say
that the economy is growing in a sustained manner. However, it is the rate of
growth of national output that determines the sustainability of the growth
process. The rate of growth of output is determined by the capital output
ratio. Fiscal policy must be geared to improve or target the savings rate in

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the economy. However, the process of economic growth should be
consistent with other macro economic goals. Further, the rate of economic
growth should be greater than the rate of population growth so that along
with sustained economic growth, the per capita income also rises in a
sustained manner.

3. Economic Stability: A consistent net positive growth of the economy can

be referred to as economic stability. A cree rate of inflation between 0 to 3
percent is implicit in the term economic stability. A persistently high growth
rate in the real national income is absolutely desirable. What is not desirable
is the high rate of inflation. It is not the fiscal deficit per se that causes high
price rise, it is in fact the use of this deficit for non-productive purposes that
leads to price rise. A moderate fiscal deficit of less than 4 percent of the
GDP is considered consistent with economic stability.

To impart economic stability, fiscal policy essentially should be

counter cyclical in nature. The upswings and downswings of the business
cycles need to be controlled.

4. Social Justice and Equity: A socially just income distribution can be

ensured only if the principle of equity is borne in mind while determining
the pattern of income distribution. Fiscal policy is effective enough to
address the problem of social justice and income inequalities by the
following measures:

(a) Increasing the rate of investment and capital formation.

(b) Encouraging a socially optimum pattern of investment.

(c) Reducing income inequalities.

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 (d) Reducing unemployment and under employment, and

(e) Controlling inflationary pressures in the economy.

Limitations of Fiscal Policy

In the early years of Keynesian revolution beginning with the 1940s
fiscal policy was considered as the most powerful macro-economic tool an a
balanced remedy for controlling business fluctuations through the
management of aggregate demand. However, lately, beginning with the
1970s, fiscal policy as a macro-economic tool, particularly in the context of
inflation management, had lost much of its sheen and has therefore lost
much of its attractiveness as a stabilisation tool to policy makers and macro
economists. The loss of effectiveness or attractiveness of fiscal policy was
due to the limitations that emerged during the course of its operation since
the Keynesian revolution. These limitations emerged from factors such
timing, politics, macro-economic theory and the size of the fiscal deficit. We
discuss below, the limitations of fiscal policy as a stabilisation tool.

1. Long and Growing time-span between Cyclical Shock and Effective

Response:

The time span between cyclical shock and effective response is quite
long. The timing of business fluctuation, particularly, the one which is
economy wide cannot be accurately forecasted. The failure of policy makers
and macro- economists to foresee cyclical turns is described as ‘recognition

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lag’ by Prof. Samuelson and Prof. Nordhaus. The time consumed on
deciding on the measures, debating and then clearing the measures is known
as the ‘response lag’. Finally when, taxes are increased or decreased and
public expenditure is raised or lowered, the economy takes quite sometime
before it responds to the fiscal measures undertaken by the government.
Greater the responise time of the economy, lower will be the effectiveness of
the fiscal measures and vice-versa. Thus the time taken by the economy to
respond to the fiscal measures is known as the ‘effectiveness lag’. The
response lag for fiscal policy is so long that it becomes useless for
stabilisation.

2. Difficulty in Raising Taxes and Reducing Expenditure:

A reduction in taxes and an increase in public expenditure during a
cyclical downturn will be welcomed by one and all. However, during the
cyclical upturn, in order to control inflationary tendencies, if taxes are raised
and public expenditure is reduced, it will be met with widespread resistance
and criticism thus delaying the implementation and effectiveness of an anti-
inflationary fiscal policy. Further no government will think of implementing
unpopular policies like increasing taxes and reducing public expenditure at
the cost of political power in a democracy.

3. Large Size of the Fiscal Deficit and Consequent Lack of Upward

Flexibility:

Fiscal deficits both central and combined are already very high. In
such a situation, there is little or no scope of increasing public expenditure or
reducing taxes even when the economy is in a state of recession and the
unemployment levels are high. At this point of time the finance minister has

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 relied more on monetary measures such as reduction in interest rates and
increase in money supply. The case for using discretionary fiscal policy to
stabilize business cycles is further weakened by the fact that another tool,
monetary policy, is far more agile than fiscal policy.

FISCAL POLICY STRATEGY

STATEMENT

FISCAL INDICATORS – ROLLING TARGETS AS A PERCENTAGE

OF GDP (AT CURRENT MARKET PRICES)

Sr. Revised Budget Targets for Targets for

Estimates Estimates 2008-09 2009-10
No.
2006-07 2007-08

1. Revenue Deficit 2.0 1.5 0.0 0.0

2. Fiscal Deficit 3.7 3.3 3.0 3.0
3. Gross Tax Revenue 11.4 11.8 12.3 12.7
4. Total Outstanding 64.4 61.4 58.6 56
Liabilities at the end
of the year

On the strength of domestic consumption demand and increasing

investment, the ongoing economic dynamism is turning out to be a virtuous
cycle of economic growth in conjunction with consistent fiscal consolidation
policies pursued by the Central Government, more particularly during the
period after the Fiscal Responsibility and Budget Management Act, 2003
(FRBMA) came into force.

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 Fiscal Policy Overview

The last three years’ fiscal results, particularly measured against the
deficit targets, demonstrate the effectiveness of managing resources on the
FRBMA compliant road map. It is reassuring that deficits have been
contained within the mandated limits.
The improvement in deficit indicators has been achieved through
improvement in tax-GDP ratio and measured increase in non-developmental
expenditure, in the backdrop of moderate growth in non-tax revenue and
increasing demand for investment requirements for social sector flagship
programmes of the Government. The process of fiscal consolidation on the
FRBMA roadmap would need to be sustained to meet the mandated annual
targets. Capital expenditure has to be raised to promote infrastructural
development and accelerate the pace of growth. The revenue expenditure
needs to be directed at sectors such as health and education to make growth
equitable and inclusive.

Fiscal Policy for the Ensuing Financial Year

Budget 2007-08 is being presented in the backdrop of continuing

robust economic growth and a better than budgeted fiscal performance
during 2006-07. A new industrial resurgence, increasing domestic savings, a
pick-up in capital formation and a rapid growth in exports are the emerging

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opportunities for raising resources and sharing prosperity. Simultaneously
finding the resources required to achieve the Eleventh Five Year Plan
objectives amidst the global uncertainties is a challenge. Keeping inflation
within an acceptable range and reducing the costs of financing government
spending while also recognizing the need for inter-generational equity are
challenges that the Government is confident of surmounting. Collectively
these opportunities and challenges reinforce the need for continuity in the
prudent mix of fiscal and monetary policy measures with no scope to slip on
the annual deficit targets.

Government’s Strategy to Pursue Fiscal Consolidation

1. Tax Policy
Indirect Taxes
a. Customs
b. Excise Duty
c. Service Tax
d. Higher and Secondary Education Cess
Direct Taxes
2. Contingent and other Liabilities
3. Government Borrowings, Lending and Investments
4. Initiatives in Public Expenditure Administration

Policy Evaluation

The FRBM period has been marked by sustained fiscal consolidation.

The performance in RE 2006-07 shows an improvement over BE 2006-07

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achieved mainly due to revenue receipts being higher than budgeted and
measured growth in non-Plan expenditure. Budget 2007-08 aims to continue
on the path of fiscal consolidation consistent with the objective of the Fiscal
Responsibility legislation. Continuation of the policy measures already
implemented in the domain of tax policies, expenditure management, etc.
and further initiatives being launched in these areas form the basis of rolling
targets included in the FRBM Statements. Fiscal policy measures to achieve
the right economic environment to unleash the full potential of the Indian
economy must essentially be a continuing challenge to be achieved and then
sustained.

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 Conclusion
Whether for good or for ill, fiscal policy's ability to affect the level of
output via aggregate demand wears off over time. Higher aggregate demand
due to a fiscal stimulus, for example, eventually shows up only in higher
prices and does not increase output at all. That is because over the long run
the level of output is determined not by demand, but by the supply of factors
of production (capital, labor, and technology). These factors of production
determine a "natural rate" of output, around which business cycles and
macroeconomic policies can cause only temporary fluctuations. An attempt
to keep output above its natural rate by means of aggregate demand policies
will lead only to ever-accelerating inflation.

One of the biggest obstacles facing policymakers is deciding how

much involvement the government should have in the economy. Indeed,
there have been various degrees of interference by the government over the
years. But for the most part, it is accepted that a degree of government
involvement is necessary to sustain a vibrant economy, on which the
economic well being of the population depends.

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 BIBLIOGRAPHY

 www.google.com

 www.investopedia.com

 www.yahoosearch.com

 www.wikipedia.com

 Managerial economics- by Krishnan Nandela

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