Fiscal Policy: An overview

Fiscal policy refers to the use of government spending and tax policies to influence economic conditions. These include aggregate demand for goods and services, employment, inflation, and economic growth. When economic activity slows or deteriorates, the government may try to improve it by reducing taxes or increasing its spending on various government programs. When the economy is threatened by inflation, may increase taxes or reduce spending. 

The International Monetary Fund (IMF) has recently approved a USD 4.7 billion loan for Bangladesh. The government is required to implement certain reforms as a condition of receiving this loan, one of which is improving the nation's fiscal space.The IMF expects Bangladesh to increase its tax-to-GDP ratio by an additional 0.5% of GDP. 

Types of Fiscal Policies

1. Expansionary Policy 

To illustrate how the government can use fiscal policy to affect the economy, consider an economy that's experiencing a recession. The government might issue tax rebates to increase aggregate demand and fuel economic growth. 

The logic behind this approach is that when people pay lower taxes, they have more money to spend or invest, which fuels higher demand. That demand leads firms to hire more, decreasing unemployment, and causing fierce competition for labor. In turn, this serves to raise wages and provide consumers with more income to spend and invest. 

Alternatively, instead of decreasing taxes, the government may strive to stimulate the economy by raising spending. Constructing new bridges, for example, might boost employment, hence increasing demand and growth.

2. Contractionary Policy 

In the face of mounting inflation, a government can pursue contractionary fiscal policy by increasing taxes, reducing public spending, and cutting public sector pay or jobs. As a result of such a shift, there is very little money available in the market. This causes a decrease in purchasing power, which leads to decreased consumption.

Why does Fiscal Policy matter?

-Stimulating economic growth

The promotion of economic growth is one of fiscal policy’s main goals. The government can promote economic activity and employment by raising spending. As a result, there may be an increase in tax collections and growth in the economy.

-Regulating inflation

Inflation control is another key responsibility of fiscal policy. When there is an excess of money chasing an insufficient amount of goods, inflation can result in price increases. The government can lower demand by altering expenditure and taxation, which can aid in reducing inflation.

-Reducing unemployment

Furthermore, fiscal policy can be used to reduce unemployment. The government can promote economic activity and employment by raising spending. As a result, there may be less unemployment and more options for employment.

-Managing debt

By adjusting government spending and taxation, the government can influence the amount of money it borrows. This can help manage the government’s debt levels and ensure that it is able to meet its financial obligations.