FISCAL POLICY: This is the manipulations of Taxation, Public Spending and Borrowing to meet macroeconomic objectives.  EG: Use of Taxation and Government Spending will effect the incentives that people hold.  If taxing is low whilst covernment spending through welfare benefits is high, people will have an incentive to spend more and save less.

           

SUPPLY SIDE POLICY: A range of measures used to increase aggregate supply.

 

MAIN OBJECTIVES OF THE UK TAX SYSTEM:

• Fund government spending: Money may be used to fund spending. i.e: Subsidising good causes (Health care and education).  Providing more public & merit goods.  Although money can be borrowed for this to a certain extent, it must come from taxation to avoid inflationary pressure.

• Managing the economy as a whole:  Taxes and rate may be altered to influence economics growth, inflation, unemployment and even the balance of payments.  Governments are fully aware that reducing certain taxes can lead to important micro-economic supply side improvements.

• Redistribution of income: If the government sees that income is unfairly distribution, progressive taxes may be put into place in order to redistribute via Transfer Payments (eg; Unemployment Benefits)

• Correcting market failure: For example, placing an indirect tax on demerit goods to reduce any spill-over effects onto third parties.  Also to perhaps correct the negative externalities.

 

LEVY = Impose (eg; a tax or fine)

 

DIRECT/INDIRECT TAXES:

Im sure you know this from AS.

 

Direct Taxes: Taxes levied directly onto the income of an organisation or individual.

 

• These taxes are paid directly to the queen, by the individual taxpayer

• Example: Income tax, maintenance tax, capital gains tax or corporation tax.

• Tax liability cannot be passed onto another person (eg; consumers)

 

Indirect Taxes: Taxes levied on the spending of goods or services.

 

• Paid only upon consuming the certain good/service. Charged to producers so production costs rise but are usually passed onto consumers.  PED is usually inelastic for these goods.

• Mainly for demerit goods that may cause negative externalities

• Mainly to discourage the consumptions and production of that product

 

Although taxes are seen as BAD by the taxpayer due to having to pay it, they appreciate that it is essentially to improve the public.

 

JUDGING IF A TAX IS GOOD OR BAD:

• ECONOMICAL?  It should be simple and cheap to collect.  The revenue should also be greater that cost.

 

• EQUITABLE? Taxes should be fair and based on the taxpayers ability to pay.

Horizontal Equity = People/Firms with the same income and financial circumstances pay same

Vertical Equity= Amount paid are based on whether the person/firm can pay it or not. Poor pay less, rich pay more.

 

• CONVENITENT? Timing and payment method should be simple and convenient for taxpayer

 

• CERTAIN? Taxpayers should be aware of WHAT/WHEN/WHERE/WHY/HOW they have to pay.  The tax should also be difficult to evade.

 

 

• EFFICIENT?  It should meet aims whilst minimising any negative distortions that may occur.

 

• FLEXIBLE? The structure and rates of taxation should be capable of easy alteration so that it can do so according to economics conditions. EG: Inflation

 

HYPOTHECATION: THIS IS WHEN TAXES ARE RAISED FOR A SPECIFIC PURPOSE/OR EVEN LOWERED.

 

CASES FOR AND AGAINST INDIRECT TAXATION:

 

FOR:

• Influencing spending patterns: EG: If alcohol consumption needs to be decreased, the indirect tax can be imposed.

 

• Correcting externalities: Using money to correct spill-over effects. EG: Make polluter pay by internalising external costs of production and consumption.

 

• Incentive effects: Indirect taxes have a less of an effect on individual work in comparison to leisure choices. Due to this, it makes sense to levy higher indirect taxes to allow a fall of direct taxes.

 

• Flexibility: Indirect taxes can be changed more easily, whereas direct taxes can only be changed one a year- During the time of The Budget.

 

• Choice: People have a choice on whether to buy the products that are tax levied.

 

AGAINST:

 

Distributional effects:  Many taxes have a regressive nature.  This means that it can make the distribution of income more unequal.  EG: As people get richer they tend to move away from the goods that are bad for you.  However, the poorer groups to do not.

 

REGRESIVE TAX = Proportion paid falls as income rises.

 

Inflationary effects: High indirect taxes man higher cost push inflation as well the rise in inflation expectations.

 

Crime: People may find incentives to illegally avoid taxes.

 

Knowledge: Sometimes the lack of the ‘announcement effect’ means that people are not aware of how much they are paying.  This goes against the ‘certainty’ principle for a good tax system.

 

PROGRESSIVE PROPORTIONAL & REGRESSIVE TAX:

 

Progressive Tax: As income rises to does the proportion of tax that needs to paid. High income = High Tax

 

Proportional Tax: Amount paid stays the same as income increases.  Income increasing = Same Tax

 

Regressive Tax: Amount paid in tax decreases as income rises. Increasing income= Decreasing tax

 

Progressive and Regressive tax can effect: Automatic stabilisers, distribution of income and supply-side incentives.

 

GOVERNMENT EXPENDITURE:

 

Capital expenditure: EG- Hospitals, roads, schools etc.

 

Currant expenditure: Day to day spending on public services.  For example: Paying teachers or purchasing medicine for the NHS.

Transfer Payments: This is money from taxpayers transferred to benefit receivers.  EG: The unemployed

 

G= Government Spending

T= Taxation Revenue

G = T (Balanced Deficit)

G > T (Budget Deficit)

G < T (Budget Surplus)

 

Expansionary & Contractionary Fiscal Policy: Measuring Fiscal Stance

 

Fiscal Stance: Whether the government is seeking to increase or decrease aggregate demand through use of fiscal policy measures.

 

Neutral Fiscal Stance: Where the government runs a balance budget.

 

Expansionary Fiscal Policy: When the government runs a large budget deficit and spend more/reduce taxes to encourage AD and economic activity.  When improvements begin, they will lower the spending and increase taxes.

 

Contractionary Fiscal Policy: When the government runs a large a budget surplus so that government spending is cut.  Taxes and interest rates will be risen so that economic activity and AD is depressed. May be done at the time of high inflation.

 

By using these policies the government aims to influence demand = Demand management.  This is done to generate grate stability and smooth out any fluctuations. 

 

Automatic Stabilisers: Features of government spending and taxation that automatically minimise fluctuations in the economic cycle to stabilise it.

EG: Spending on unemployment benefits falls automatically when economic activity is buoyant (high).

 

 

CYCLICAL AND STRUCTURAL BUDGET DEFICIT:

 

CYCLICAL: A budget deficit that results from fluctuations in the economic cycle.

This happens automatically during the time of a downturn or recession phase.

• Tax revenues fall but public spending on unemployment and other welfare benefits increases.  The government finances deteriorate as they are being used.

During an upturn/boom period:

• Tax revenues rise and public spending on unemployment and other welfare benefits falls.

In the long run: Growing budget deficit cancels out with economic grown, providing that growth is sufficient robust (strong).

 

STRUCTURAL: A budget deficit resulting from fundamental changes in the structure of the economy.

Such as:

• Deindustrialisation

• Growth in single parent families increases the households dependent on welfare benefits

• To improve public finances, the government would have to significant raise taxes and/or reduce public spending.

 

PUBLIC SECTOR NET CASH REQUIREMENT (PSNCR)

 

This is the term that describes various types of government spending over taxation revenue. (Budget Deficit)

To finance the gap between revenue and spending, government will have to borrow from the banking sector (high street banks) or the Bank of England.

Or: non-bank private sector such as insurance companies or rich individuals.

 

NEGETIVE PSNCR: This means that the revenue is higher than public spending. (Budget Surplus)

This allows the government to pay off past debts.

 

 BUDGET DEFICIT PROBLEMS:

• Financing the deficit: The government debt will mean that there will be interest attached to all the borrowed money.  This will be a further leakage from the circular flow of income.

 

• Growing national debt: Over-time government borrowing increases the national debt as more money if spend on debt interest rates rather than public/merit goods like; schools and road.

 

• Crowing out: High taxation and interest rates result in reducing private sector expenditure.  This means that consumption and investment will fall.

 

 

BUDGET DEFICIT BENEFITS:

• Stimulus to growth: Budget used to finance additional capital spending. EG: for building roads or schools.

 

• Demand management: Keynesian economists would encourage running budget deficit to boost AD. This would help to avoid large negative output gaps.

 

UK GOVERNMENTS FISCAL RULES:

 

Code for fiscal stability:

• Golden Rule = The government can only borrow money to invest in new social and capital like schools/roads, if it is needed for current spending.  EG: Welfare benefits, in the recession it would have to repay any borrowing in the boom.

 

Limitations of Fiscal Policy (EVALUATION):

• Less precise demand-management

• Time lags: Long to implement. Long term effects. Income taxes can only change one a year.

• Potential crowding out of private sector.