Fiscal Policy

The fiscal policy is the decisions made by the government for government expenditure and taxation. The fiscal policy is changed whenever necessary in order to suit the situation that the country is in. This policy tends to have large effects on the macro economic objectives:

• Inflation: Increase in government spending leads to greater inflation. If the AD increase due to the rising government spending then the price level will also go up. If there is a reduction in taxes, particularly indirect taxes, then consumption will go up and so AD will shift causing inflation to rise. 
• Economic growth: Higher government spending will encourage faster growth as output increases rapidly. Cuts in taxation will also increase economic growth as it means consumption increases. 
• Unemployment: Higher government spending will reduce unemployment as higher spending creates more demand for output. Lower taxation, especially income tax means that more people will be inclined to work as less money that they earn goes towards tax. 
• Balance of Payments: Higher government spending and lower taxation mean more economic growth through higher overall spending. Higher spending means that more people are likely to purchase imports and therefore this causes a budget deficit.