The Government and

Fiscal Policy

4.1 The government or public sector

4.2 Government participation in the economy

Mixed economies = government + private sector

What is the best mix???

What is the best mix? Consider the following…Private sector (market forces) generally more efficient. Can best decide on: What? How? and For Whom? Free markets cannot function properly without gov. enforcement of the rules.

Markets sometimes fail and need government intervention.

Market systems do not produce equitable distribution of income and wealth.

Market systems tend to experience business cycles.

Nationalisation vs Privatisation

In groups, read Box 4.1 and come up with arguments for your given topic.

A lively debate will follow…

4.3 Fiscal policy and the budget

Read pages 74 – 81 in preparation for a quick check quiz…

Kahoot Quiz: Fiscal Policy and the Budget

4.3 Fiscal policy and the budget

Governments need to make decisions on…• how much to spend• what to spend it on• how to finance its expenditure

This is called fiscal policy.

Budget speech outlines government’s spending plans for the financial year (1 April - 31 March)

Research the following…

With regards to the 2015/16 budget…1. What is the biggest source of tax revenue

forecast to be in 2015/16?2. What is the biggest expense that the

government will face in 2015/16?3. Which 3 taxes have increased from the

previous fiscal year?4. What are 3 aims of the major aims of the

government’s 2015/16 budget?

Government spending effects…• aggregate production• income• employment• the price level (inflation)• the distribution of income.

The government uses the budget to…• stimulate economic growth and

employment• redistribute income• control inflation• address balance of payments

problems.

Highlights from the 2015/16 Budget Speech

Highlights from the 2015/16 Budget Speech

Assessing Brand SA after the Budget 2015

Full Budget Speech 2015

Where does the money come from?

Where will it be spent?

Expansionary fiscal policies stimulate economic activity • Government spending raised and taxes reduced • Budget deficit will tend to increase.

Contractionary fiscal policies restrict economic activity• Government spending reduced and taxes

increased• Budget deficit reduced, or surplus budgeted for• Helps curb inflationary pressures

4.4 Government spendingGov. involvement in economic activity measured by share of government spending in total spending.

Growth in postwar gov. spendingPossible explanations for this…

Political and other shocks• Increased exp. on defence, law and order, education. • Sanctions - spending on local manufacture of fuel & gas by gov. (Armscor, Sasol and

Mossgas)

Redistribution of income• Democratisation - balance of power towards to lower-income groups• More attention given to income equality – spending on social services increased.

Population growth and urbanisation• Increases in demand for public goods and services like education and health.• Exacerbated by urbanisation (roads, sewerage, electricity, etc), • High incidence of HIV/AIDS.

Government spending financed by…

Income from property • interest and dividend income • Eskom, Telkom and Transnet, sale of agricultural,

forestry and fishing products, mining rights Taxation Borrowing• Domestic/international capital markets & central bank• increases quantity of money - potentially inflationary.

4.5 Financing of government expenditure

4.6 TaxationCriterion for a good tax…

NeutralityShould have minimum effect on relative prices – signalling function.

EquityAbility to pay principle • pay according to their ability Benefit principle• Pay for benefits derived

Administrative simplicityCompliance and administration costs as low as possible.

http://www.taxpolicy.com/

What would your tax policy look like???

Your new tax…

If you had the ability to introduce a new tax and scrap an existing tax, what would it be and why?

Think about…1. Who would it benefit?2. Who would pay/save?3. How would it affect the macroeconomic

objectives of a SA?

Different Types of TaxPlease research and get definitions for the following…

Direct taxes Indirect taxes

Progressive taxes Proportional taxes

Regressive taxes General taxes

Selective taxes Pg 84, 85, 86 in text book

Kahoot!

Direct and Indirect Taxes

• Direct taxes: levied on income/wealth of individuals & companies. • income tax• company tax

• Indirect taxes: levied on transactions (eg purchase of goods and services). Paid by those who consume goods/services. • VAT• customs duties• excise duties.

General and selective taxes

• General tax: levied on most goods and services. – VAT

• Selective taxes: levied on specific goods only.– excise duty on tobacco & alcohol

Progressive, proportional and regressive taxes

Distinction based on ratio of tax paid to taxable income (ie the average tax rate).

Progressive tax: ratio of tax paid to taxable income increases as taxable income increases. • Personal income tax in SA.

Proportional tax: ratio of tax paid to taxable income is the same at all levels of income. • Basic company tax in SA (fixed % of company profits)

Regressive tax: ratio between tax paid and taxable income decreases as taxable income increases (or rises as taxable income falls). Takes larger % of income of low-income individuals than those with higher incomes. • Indirect taxes (eg VAT) are often regressive.

The three main taxes in South Africa are…

1. Personal income tax

2. Company tax

3. VAT

1. Personal Income Tax

Most important single source of tax revenue.

Taxable income = total income - personal and other allowances.

Marginal tax rate: the rate at which each additional rand of income is taxed.

Average tax rate: the ratio between the amount of tax paid and taxable income - also called the effective tax rate.

Personal Income Tax is a progressive tax.

Average tax rate increases as income increases because marginal tax rate increases.

Capital gains tax: a tax levied on the gains resulting from the sale of assets such as shares and fixed property.

Introduced in 2001 to ensure horizontal equity.

2. Company tax

Profits are taxed at a uniform rate

A proportional tax rate

Average tax rate = marginal tax rate.

3. Value-added tax (VAT)

2nd most valuable source of tax revenue in SA Regressive taxRatio between tax paid & income greater for low-income than high-income households.

Tax burden increases as income decreases

Essay Question

Fiscal policy is an instrument used by government to influence the economy.

• Discuss in detail the effects of fiscal policy. (26 marks)

• To what extent was the South African government successful in the implementation of its fiscal policy? (10 marks)