Fiscal policy is an economic policy by which a government adjust its level of spending in order to monitor and influence a nation’s economy. Fiscal policy refers how the government use the budget to affect economic activity, allocation of resources and the distribution of income which comes from different sectors. The government uses fiscal policy in various circumstances and give direction to a countries economic goal.
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How it works: The fiscal policy which is a very famous theory of a British economist John Maynard Keynes. This theory actually describes that a government can influence macroeconomic productivity levels by increasing or decreasing tax levels and public spending. Effects of the fiscal policy are not same for every class of people in an economy. For example, a tax cut could affect only in the middle class people or business group. This is typically a large proportion of economic group. It is actually depends on political condition and policy makers. The main purposes of fiscal policy are:
To reduce the rate of inflation.
To reduce budget deficit.
Stabilize the country’s economic growth and the balance of economic cycle.
Aim for full employment.
This refers to where the government is increasing AD (the total level of planned expenditure in an economy) or decreasing of Ad, that involves-
Incensement of AD – government spending in public sectors, cut taxes. The Lower taxes will increase consumer spending.
Decrements of AD- reduce government spending in public sector, increase of taxes. This will help government to collect more money from the economy.
Actually the fiscal policies are used to influence the overall economy by manipulating tax rates, interest rates, and government spending.
Fiscal policy in UK economy: The UK economy is one of the most globalised economics in the world. The UK economy is now clearly experiencing one of the worst economic problems in recent history. They are facing problems like – unemployment, large budget deficit and related problems. Though now a day’s fiscal policy is not used so much in the modern economic system, but, this theory can help to prevent recession or inflation rate. Now a day In UK economy recession and inflation both are major economic problem. By using fiscal policy- UK government can increase tax rates and cut their spending to face inflation problem. The advantage is that it will help to reduce budget deficit. This will help to reduce aggregate demand and therefore reduce inflation pressure. But in recession problem the government can increase AD, increasing government spending and cutting taxes. Lower taxes increase disposable income. This helps increase economic growth and reduces unemployment. In my opinion in a country like UK, which has a large budget deficit, Government can use fiscal policy for increasing tax rate and reduce public spending. Because,it will reduce the inflation and at the same time it can improve the budget deficit.
2. Monetary policy:
Monetary policy refers to manage the supply of money in national economy. Monetary policy is maintained by some actions like-increasing interest rates, changing the amount of money banks need to keep in their reserve. All this policy is done by central bank. Actually monetary policy is the use of interest rate and the level of the money supply to manage the economy. This interest rate is set by the government/ Chancellor.
How it works: monetary policy can be used either to reflate economy or to deflate economy.
In deflation- if there is any problem like economic decline or recession, the monetary policy could be considered to cut down interest rates. Cutting interest rates will encourage people and firms to borrow more money.
It will also give people who have mortgages more money to spend each month as their mortgage payments fall. Overall these effects will increase the level of consumption and investment. If the consumptions and investment level increases which are the key components of aggregate demand, cutting interest rates will increase economic growth and will reduce unemployment.
In Inflation- if the committee of monetary policy consider that inflation is rising and perhaps going over their inflation target, then they may consider to increase the interest rates. Increasing interest rates in economy will discourage people and firms from borrowing money. It will also give people who have mortgages less money to spend each month as their mortgage payments rise. This fact will reduce the levels of consumption and investment. Increasing interest rates will cause decline in economic growth and increase of unemployment. It will increase bank reserve. The government could also try to cut the level of money supply growth to cut inflation.
Monetary policy in UK economy: There are lots of problem around UK economy. Unemployment, inflation, exchange rate, recession etc. The main purpose of monetary policy is to control money supply in the economy, cost of money, interest rates and to reserve money in different situation. The current UK economy is facing rescission. Government could try to cut current interest rates. Because lower interest rates in theory, should stimulate economic activity. This is because lower interest rates reduce borrowing costs. This increases the disposable income of consumers with mortgage interest payments and should encourage spending.
If the bank feels the economy is growing too quickly and inflation is expected to exceed the government’s target, then they can increase interest rates to reduce the rate growth and inflationary pressure.
3. GDP :
The gross domestic product is a measure of a countries overall economic output. It is the market value of all final goods and services made within the borders of a country in a year G.D.P is a better indicator of the productive capacity. G.D.P can be determined in three ways,
Output method: This involves adding together the value of the output of goods and services produced in the economy, during an appropriate time period; double counting must be avoided.
Income method: This aggregates all the incomes from the production of goods and services in the economy. To measuring income the national income accounts uses some facts- personal income, gross profit of companies, gross trading profits of public corporations and government enterprises, rent.
Expenditure method: this involves adding together spending by households on goods and services like- Consumption(c), investment (I), government spending (G), net exports (X) which comes from less imports (M).
This statistics shows that in 2010 the gross domestic product increased by 0.3 per cent in the first quarter of the year. This is 0.2% lower than first quarter in 2009. It means uk economy is growing slowly but not out of risk. Though it’s an increase but it doesn’t change the overall picture of a still very weak and struggling economy. Growth rate was revised higher on the industrial and manufacturing sector. The national statistics report shows that- output of the production industries rose by 1.2 per cent compared with a rise of 0.4 per cent the previous quarter, with manufacturing g output growing by 1.2 per cent compared with growth of 0.8 per cent in the previous quarter. Construction output fell by 0.5 over the quarter. Gross fixed capital formation rose by 1.5 per cent now. But household expenditure remained unchanged and is now 0.5 per cent lowers than the first quarter of 2009. So, we can see in this report, there are ups and downs in various sectors. This slight improvement offers some hope for an economy. This will help to reduce rescission level in the economy and increase production level.
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4. As a Chancellor of the Exchequer:
The Chancellor of the Exchequer is a person who is governments chief minister and responsible for raising revenue through his different kinds of economic activity. His responsible are raising revenue, control taxations, economic policy making, controlling government spending etc. A chancellor is a very important person, because he plays a vital role to develop a countries economic development. As a new Chancellor of the Exchequer I would take some decision in situation like UK currently facing. The UK current budget deficit is £156 billion per year and GDP in 1st quarter of this year is about 0.3%. My main target would be to reduce the huge budget deficit at minimum level by reducing government spending and increasing government income. To face this problem I have to take some decisions like-
Taxation: In current situation I would like to change in taxations system. I would prefer changes in direct and indirect taxation system. I would like to increase income tax. But other hand I will cut little in the indirect taxes. This will increase public spending in the economy. As a result there will be flow of money in market.
Interest rates: Low interest rate will be imposed in the economy. Though there is a risk of higher inflation rate but higher interest could damage overall economy. In current economic crisis there should be a good and positive environment for lenders to invest more in the economy to increase country’s productivity. This will help manufacturing companies to produce more. A higher interest rate creates incentive to save more rather than spending. For example, if mortgage interest rates increased by 0.5 % what now it is, then it will increase monthly payment. As a result consumer will not interested to spend more and it has a significant impact on personal disposable income. Though higher interest rate will increase the value of (£) but it has a bad effect on export. So, by analysing all these fact I would like to keep interest level at minimum rate.
Reduce government spending in public sector: Government can save money by reducing spending in public sectors like- child trust funds, extra education facilities, military spending, non-profitable government investment etc. This can help to reduce spending therefor increase in government reserve. International spending like lending money to other country should reduce in these circumstances.
In conclusion I can say a good framing of annual budget which focused on countries internal productivity, uses of resources, reducing government spending and increase in public spending and investment can improve current economic crisis.
5. Economic crisis in Greece and Spain:
Now days the financial crisis is the most talked of topics in the world. Every country mostly developed country has faced this crisis and still now new countries are adding in this list. Greece is one of them and economic problems are also developing in Spain. Greece is in the dangerous position, the current economic report shows they have debt over 100% and its increasing position. The budget deficit in this year is about 12%. Another problem is uncompetitive economy; the current Greek economy is uncompetitive. There is a huge gap between rising wages and productivity. It reduced the demand of goods which effected on export and import system. Another reason of failing competiveness is -they don’t have their own currency, they are fully dependent on EURO. The GDP of Greece fell by 1.2 % in last year which created budget deficit and the result is higher unemployment. Though European governments are trying to rescue Greek by €110 billion bailout, but it would be tough for Greece to regain its previous economic condition.
Economic problems are also developing in Spain. A debt crisis is growing in Spain which could affect whole European economy. A debit crisis in Spain would make the Greece problem more complex. They are facing problem with domestic consumption, unemployment, a little drop in tax revenues. The unemployment rate is increasing day by day which is now about 20%. The Spanish economists are predicting that the GDP rate may fall by 0.3% this year.
It could effect on Export and import system between Eurozone.
Greek owing money which may collapse UK current economy policy.
European stocks mixed with Greece economy that could collapse European banking system which is negative for UK.
Investors will not take any risk to invest in market. It will reduce investment in internal UK market.
These could be the impact of economic problem in UK which relates with Greece and Spain.