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PUBLIC FINANCE REVIEWER Economic Stabilization Definitions of Public Finance - economic stabilization and growth are the two aspects of the Government’s econo...

PUBLIC FINANCE REVIEWER Economic Stabilization Definitions of Public Finance - economic stabilization and growth are the two aspects of the Government’s economic policy an investigation into the nature and principles of that have a significant place in the discussion on state revenue and expenditure. (Adam Smith) public finance theory. concerned with the income and expenditure of public authorities, and with the adjustment of the - This part describes the various economic one to the other. (Hugh Dalton) policies and other measures of the government to can be defined as the study of government bring about economic stability in the country. activities, which may include spending, deficits and taxation. Nature of Public Finance The goals are to recognize when, how and why the government should intervene in the current Public Finance as Science economy, and to understand the possible outcomes of making changes in the market. Science is the systematic study of any subject which studies the relationship between facts. Important aspects of PF professionals is It studies the relationship between facts relating understanding the role of the government and to revenue and expenditure of the government. how changes may affect the economy. Principles of Public finance are empirical. It is studied by the use of scientific methods. concerned with definite and limited eld of human SCOPE OF PUBLIC FINANCE knowledge. Public Revenue Public finance has been held as a science that - concentrates on the methods of raising public deals with the income and expenditure of the revenue, the principles of taxation, and its government’s finances. problems. - all kinds of income from taxes and receipts from Public Finance as an Art the public deposit are included in public revenue, and the methods of raising funds. Art is the application of knowledge for achieving - studies the classification of various resources of definite objectives. public revenue into taxes, fees, and Fiscal Policy which is an important instrument assessments, etc. of public finance makes use of the knowledge of government’s revenue and expenditure to Public Expenditure achieve the objectives of full employment, - Part of Gov. Finance To achieve the goal of economic equality, taxes - study the principles and problems relating to the are levied which are likely to be opposed expenditure of public funds. it is important to plan their timing and volume. - This part studies the fundamental principles that govern the flow of Government funds into various The study of Public finance helps solve many streams. practical problems. Public finance is therefore an art also. Public Debt - study the problem of raising loans. - public authority or any Government can raise Science too is of two types: income through loans to meet the shortfall in its 1. It is a positive science as well as a normative traditional income. science. - The loan raised in a particular year is the part of 2. It is a positive science as by the study of public receipts of the public authority. finance factual information about the problems  of government’s revenue and expenditure can be scale expenditure, and it is important to allocate known. It also offers suggestions in this respect the expenditure efficiently. allocation function 3. It is also normative science as the study of studies how to allocate public expenditure most public finance presents norms or standards of efficiently to reap maximum benefits with the the government’s financial operations. It reveals available public wealth. what should be the quantum of taxes, the kind of taxes, and on what items less of public expenditure can be incurred. The Distribution Function The distribution function of public finance is to lessen these inequalities as much as possible According to Musgrave, the further scope of public through the redistribution of income and wealth finance embraces the following three functions of the In public finance, primarily three measures are government’s budgetary policy confined to the fiscal outlined to achieve this target – department: o tax-transfer scheme - using progressive taxing, i.e. in simpler words charging o The allocation branch higher taxes from the rich and giving o The distribution branch, and subsidies to the low-income o Progressive taxes can be used to o The stabilization branch finance public services such as affordable housing, health care, etc. function of the allocation branch is to o higher tax can be applied to luxury determine what adjustments in allocation are goods or goods that are purchased by needed, who shall bear the cost, and what the high-income group revenue and expenditure policies to be formulated to fulfill the desired objectives. function of the distribution branch is to Distribution of income determine what steps are needed to bring about - the calculation of the wealth and income of a the desired or equitable state of distribution in nation once it is divided by its total population. the economy - the overall distribution can be evaluated through a series of statistical studies. stabilization branch shall confine itself to the decisions as to what should be done to secure o Wealth is the overall value of a price stability and to maintain full employment population’s physical possessions and level. financial assets. o Income is the exact monetary value of a population’s net intake over a selected The Allocation Function period of time. There are two types of goods in an economy – private - The information gathered from a country’s wealth goods and public goods. and income can be a valuable resource to help Private goods have a kind of exclusivity to themselves. answer a variety of political, social and economic Only those who pay for these goods can get the benefit of questions. such goods. Ex. Household, car public goods are non-exclusive. regardless of paying or The Stabilization Function not, can benefit from public goods. Ex. Road, electricity, - The objective of the stabilization function is to water eliminate or at least reduce these business allocation function deals with the allocation of fluctuations and their impact on the economy. public goods. The list is endless. The performance of these functions requires large- - Policies such as deficit budgeting during the time of depression and surplus budgeting during the  time of boom help achieve the required economic - PF can help increase the rate of capital formation stability. and it can effectively accelerate the rate of development in the economy. - The study of public finance helps us understand Macroeconomic Stabilization the use and effectiveness of fiscal policy as an a process by which the stabilization and growth important tool of economic policy of the economy are monitored through the - Adam Smith in his monumental work, “The development of fiscal and monetary policies Wealth of Nations”, laid out the basic jobs of government. The government has to provide for To achieve a stabilized macroeconomic the defense of the nation. environment, a balance is required between the - The word public refers to general people and the government budgeting, domestic commerce, word finance means resources. So public banking operations, international trade, and governing institutions. finance means resources of the masses, and Stabilization of the economy acts as the how they are collected and utilized. foundation for economic growth. Without - Public Finance is the branch of economics that stabilization, the economy is doomed to studies the taxing and spending activities of collapse. government. - The discipline of public finance describes and To maintain ongoing microeconomic stabilization analyses government services, subsidies, and and an optimal level of economic efficiency, the welfare payments, and the methods by which the market must be managed to ensure interest rates, expenditures to these ends are covered through business cycles and demand within the economy remain steady. taxation, borrowing, foreign aid, and the creation of money. - As the economic and social responsibilities of Economic Efficiency the state are increasing day by day, the methods the standard that economists use to evaluate a and techniques of raising public income, public variety of resources. expenditure, and public borrowings are also can be determined by a general formula of ratios changing. and their generated outcomes. What Is Stabilization Policy? difference between technical efficiency and economic efficiency is the relationship of values a strategy enacted by a government or its central people place on things. bank aimed at maintaining a healthy level of o Values in technical efficiency may be economic growth and minimal price changes. subjective from one person to another. Sustaining a stabilization policy requires o Economic efficiency focuses on monitoring the business cycle and adjusting eliminating waste to provide as much fiscal policy and monetary policy as needed to value as possible. control abrupt changes in demand or supply. Technical efficiency looks to maximize value seeks to keep an economy on an even keel by while sacrificing as much as is needed to create increasing or decreasing interest rates as needed. the best initiative. Interest rates are raised to discourage borrowing to spend and lowered to boost borrowing to Importance of Public Finance spend. - PF helps us to understand the economic Fiscal policy can also be used by increasing or functioning of the government. It helps us to decreasing government spending and taxes to know the areas where the government is affect aggregate demand. spending money. Understanding Stabilization Policy and reducing government deficit spending during A stabilization policy seeks to limit erratic swings better times. in the economy's total output, as measured by the nation's gross domestic product (GDP), as well Most modern economies have stabilization as controlling surges in inflation or deflation. policies, with much of the work being done by The term stabilization policy is also used to central banking authorities such as the U.S. describe government action in response to an Federal Reserve. economic crisis The Roots of Stabilization Policy What Are the Main Arguments For Stabilization Pioneering economist John Maynard Keynes argued that Policy? an economy can experience a sharp and sustained period of stagnation without any natural or automatic rebound or policies may help to even out erratic economic correction. swings like recessions, which can lead to unemployment, price volatility, and reduced economists had observed that economies grow output. Stabilization policy can also cool an and contract in a cyclical pattern, with occasional overheated market. downturns followed by a recovery and return to growth. Keynes disputed such theories that a What Are the Main Arguments Against Stabilization process of economy recovery should normally be Policy? expected after a recession. He argued that the fear and uncertainty that Critics of stabilization policy argue that it can consumers, investors, and businesses face could pose harmful unintended consequences. induce a prolonged period of reduced consumer spending, which would all reinforce one another in a vicious circle. To stop the cycle, Keynes argued, requires Stabilization policy refers to a government changes in policy in order to strategy designed to keep economic growth manipulate aggregate demand. He, and the steady. Keynesian economists who followed, also argued a stabilization policy is put in place by lawmakers that an inverse policy could be used to fight off and central banks, which enact a combination of excessive inflation during periods of optimism fiscal and monetary measures. In other words, a and economic growth. stabilization policy is designed to prevent the Keynesian stabilization policy, demand is economy from extreme swings in growth or stimulated to counter high levels of contraction. unemployment and it is suppressed to counter rising inflation. two main tools in use today to increase or decrease demand are to lower or raise interest rates for borrowing or to increase of decrease government spending. monetary policy and fiscal policy The Future of Stabilization Policy It involves using expansionary monetary and fiscal policy during recessions and contractionary policy during periods of excessive optimism or rising inflation. means lowering interest rates, cutting taxes, and increasing deficit spending during economic downturns, and raising interest rates, rising taxes,