Fiscal Policy

AS Economics

Income tax quiz1. Why was income tax originally introduced?2. When does income tax expire?3. What does ‘PAYE’ stand for?4. Which 4 of the following have all been taxed at one point in the UK?

Cats DogsBooks Windows

Female Servants Hair Watches Children’s shoes

5. What is the normal final deadline for sending in a tax return?6. On which of the following might income normally tax be charged?

a) Interest from a savings account.b) Earnings from a job.c) Proceeds from selling a picture.d) State retirement pension.e) Sale of shares

What is fiscal policy?

• Fiscal policy is changes in taxation and government spending to meet macroeconomic objectives

• What are the government’s macroeconomic objectives?

• Can be used to influence AD or AS• FP is less important as the main tool is now

monetary policy

Government Spending 2011 - 2012

Government Receipts

2011 - 2012

• Total spending = £710bn• Total receipts = £589bn

• What is the forecast PSNCR for 2011-2012?

Historical receipts and spending

Changes in spending and taxation

• These occur from changes in government policy, what they want to provide e.g. public and merit goods and what they want society to benefit from

• Taxation may focus on negative externality goods like alcohol, fuel and tobacco

• Changes in the economic cycle might mean the government can reduce or increase spending

Taxes/spending in boom and recessionTax/spending Boom Recession

Income tax

Excise duties

VAT

Job Seeker’s allowance

These are known as automatic stabilisers as they automatically adjust to the economic circumstances

Taxes and spending

• Taxes – direct – income tax, national insurance – based on income – also tax rates and bands can have an effect

• Taxes – indirect – VAT, excise duties (fuel, tobacco, alcohol)

• Spending may impact on AD, e.g. a new rail link (Crossrail) will have more of an impact on AD than some other forms of government spending

Government spending

• Current spending – day to day running of public services, wages, materials etc

• Capital spending – helps to improve the productive capacity through new roads, railways, schools, hospitals

• Transfer payments – social security payments like JSA

Budget deficits and surpluses

• Budget deficit when spending exceeds revenue. Can be eliminated by cutting spending and/or increasing taxes. A deficit is financed through PSNCR

• Budget surplus when revenue exceeds spending. This results in a PSDR which pays back previous borrowing

• Could also be a balanced budget

Economic cycle and the budget• In periods of recession, a

budget deficit is more likely through lower tax revenues and increased spending (e.g. on benefits); during a boom, a budget surplus is more likely.

• Over the economic cycle, a balance is likely to be achieved Surplus

Deficit

Demand side fiscal policy

• Discretionary fiscal policy involves deliberate changes in direct and indirect taxation

• To stimulate AD, taxes can be lowered or spending increased; this is known as expansionary fiscal policy

• AD will shift right and should have little influence on P, but if too much is stimulated then AD could shift too far causing P to rise and inflation. What type of inflation is this?

Demand side fiscal policy

• Economic growth can be slowed down by a contractionary fiscal policy, spending reduced and tax increased.

Supply side fiscal policy

• Changes to SS tend to be longer term in nature and fine tune the economy;

• Labour market incentives• Capital spending • Entrepreneurship• Research & Development and Innovation• Improvements in human capital