What is meant by Fiscal Policy?
Fiscal policy is a demand management policy that entails the use of government spending, taxation, and borrowing to control the pattern of economic activity as well as influence the level and growth of overall demand, production, and employment. Changing the fiscal policy directly affects aggregate demand and supply. This is because fiscal policy is instrumental in controlling the aggregate demand and supply of a country’s economy. During the recession, governments increase their spending and reduce taxation to stimulate a country’s economy (Quintos, 1995).
Instruments of fiscal policy
Government spending occurs in three forms. It occurs as a transfer of payment. Transfers of payment are government payments for welfare and social security such as pensions, payments to unemployed people as well as funds that are provided by the government for child benefits. Transfer of payment helps low-income earners to achieve minimum standards of living. Current government spending is another method that the government uses to regulate government spending.
These are spending on state-provided services such as state education and security. Capital spending is infrastructure spending such as new hospitals, roads, hospitals as well as (Heyne, 2010). Moreover, the government opts to increase or reduce autonomous taxation or the income tax rates depending on the nature of the economy. They increase taxation when the economy has a deficit and reduce it when it has a surplus.
Fiscal stimulus is the instrument that governments use to increase the level of economic activity during a recession. Government spurs economic activity by augmenting government spending and reducing taxation. An increase in government spending results in an increase in demand for products/services as well as an increase in labor. The creation of employment chances promotes demand further as employees then spend the money they are paid that further increases the overall demand. Governments use an expansionary fiscal policy to end a recession. The expansionary fiscal policy causes a reduction in taxation, an increase in government spending, and the transfer of payments. Expansionary demand policy takes a curve of aggregate demand to the right as illustrated below.
On the other hand, an inflationary gap is corrected by a contraction fiscal policy that involves a decrease in government spending, an increase in taxation as well as a decrease in payment transfers. This takes the curve of aggregate demand to the left illustrated in the figure below (Dungey & Fry, 2010).
Using the statistics of government expenditure, personal taxation rates, and transfer payments, what fiscal policy stance did the 2011-12 Federal Budget take?
The economic recession of 2008/09 was offset by an expansionary fiscal policy. The stimulation of the economy occurred as a result of increased government spending as well as a reduction in taxation. These strategies resulted in an increase in the fiscal deficit up to approximately -$ 51.5 billion in the 2010-11 financial year. After the recovery of the Australian domestic economy in 2010, the government started fiscal consolidation in 2010 by cutting down government spending by 2% annually. Through this process, the government succeeded in reducing the budget deficit to -$ -42.0 in 2011-12. From the budget projection, it is estimated that in financial years 2012/13, 2013/14, 2014/15 and 2015/16 Australian budget will have a surplus of approximately 2.5, 2.6, 7, and 9.5 billion respectively (Sheffrin, 2012).
The Tax Rates 2011-12. The following rates for 2011-2012 apply as from 1 July 2011.
|Taxable Income||Tax on this income|
|$6001-37000||15c for every $ 1 0ver $ 6000|
|$37001-$80000||$ 4,650 plus 30c for each $ 1 over 37000|
|$ 80001-$180,000||$ 17550 plus 37c for each $ 1 over $80000|
|$ 180,001 and over||$ 54550 plus 45 for each $ 1 over $180,000|
To get rid of the budget deficit, the government increased taxations as shown in the graph above. Besides, the government reduced the transfer of payments (Larch, 2009).
The budget indicates a negative fiscal balance in 2009-10, 2010-11 as well in 2011-12 indicating an expeditionary. The negative fiscal balance represented a deficit in the budget because of increased government spending to spur economic activities. However, with the initiation of fiscal contraction, the budget deficits are becoming smaller & smaller, ending in budget surpluses in 2012/13. Thus, indicating a fiscal policy stance that is only slightly expansionary, becoming even mildly concretionary from 2011/12 onwards.
Evaluate the appropriateness of the government’s fiscal policy stance to the present economic situation within Australia with particular reference to the growth rate, level of inflation and unemployment, the current account deficit, and monetary policy stance
The graph of GDP growth rate indicates a small growth rate of approximately 2.1% in 2007. The growth rate increased to approximately 5.5% in 2008. This was because of the expeditionary policy adopted to spur economic activity. At the same time inflation increased to 5%. For the government to reduce the inflation and the rate of growth, it adopted a contraction policy that enabled it to reduce the inflation and growth rate at approximately 3.5-4% to reduce the rate of unemployment to approximately 3.5 which is slightly equal to the government preferred inflation of about 2-3% (Eslake, 2011 ).
Monetary policy is regarded as short term management of the interest rates to meet domestic policy objectives. The monetary policy affects the economy in that short term interest rates affect the overall demand and supply. Low-interest rates encourage borrowing. Low-interest rates that were offered by banks were the ones that enticed many Americans to take mortgages loans. The monetary policy is expressed in terms of targets of cash rates.
|Cash Rate Target|
|Effective Date||Change in the cash rate Percentage points||New cash rate target Percent|
|2 May 2012||-0.50||3.75|
|7 Dec 2011||-0.25||4.25|
|2 Nov 2011||-0.25||4.50|
|3 Nov 2010||+0.25||4.75|
|5 May 2010||+0.25||4.50|
|7 Apr 2010||+0.25||4.25|
|3 Mar 2010||+0.25||4.00|
|2 Dec 2009||+0.25||3.75|
|4 Nov 2009||+0.25||3.50|
|7 Oct 2009||+0.25||3.25|
|8 Apr 2009||-0.25||3.00|
|4 Feb 2009||-1.00||3.25|
|3 Dec 2008||-1.00||4.25|
|5 Nov 2008||-0.75||5.25|
|8 Oct 2008||-1.00||6.00|
|3 Sep 2008||-0.25||7.00|
© Reserve Bank of Australia, 2001–2012. All rights reserved.
The recent decrease in cash rates indicates an expeditionary policy to cater to the unemployment rate (Markin & Narayan, 2011).
List of References
Dungey, M & Fry, R 2010, Fiscal and Monetary Policy in Australia, A journal of applied Economics and Policy, vol. 24, no 4, pp. 254-267.
Eslake, S 2011 Fisco Consolidation Gives Way to 2012-2013 Surplus, Prentice Hall, New York.
Heyne, P 2010 The Economic Way of thinking, Prentice Hall, New York.
Larch, M 2009 Fiscal Policy in the European Union, Cambridge University Press, Cambridge.
Markin, A & Narayan P 2011 How Potent is Fiscal Policy in Australia, A journal of Applied Economics and Policy, vol.30, no, 3, pp. 377-385.
Quintos, C 1995 Sustainability of Deficit Process with Structural Shifts, Journal of Business and Economic Statistics, vol. 13, no. 2, pp.409-417.
Sheffrin, S 2012 Economic Principles in Action, Pearson Prentice Hall, New Jersey.