The Impact of Government Fiscal Policy on Economic Stability and Output Adjustment

The Impact of Government Fiscal Policy on Economic Stability and Output Adjustment

You must compose an essay autonomously for the project.

To demonstrate comprehension of pertinent economic concepts or theories

To implement economic theory in practical scenarios

To write an organized, cohesive, and fluent essay 

The purpose of this unit is to elucidate how the government may influence the economy's equilibrium output via alterations in fiscal policy, which subsequently affects the state's budgetary situation.

The Government sector significantly influences the economy, whether seen as an essential evil or a necessary mechanism against unrestrained market forces.

What is the rationale for designating systems like proportionate income taxes and the welfare system as automatic stabilizers? Select one of these systems and elucidate meticulously how and why it influences variations in output.

Goals and Objectives of the Assignment

The letter received from the Prime Minister indicates that the success of the next budget is vital for the next general election. This budget reflects the immediate consequences of the government's economic, social, and political initiatives. The purpose and significance of formulating this budget are clear, as it will significantly contribute to the reallocation of resources aimed at mitigating disparities in income and wealth distribution to guarantee economic stability within the nation. Economic stability closely correlates with economic growth.

The entity fulfills several functions in maintaining economic stability. This encompasses bolstering the economy by supplying products and services that the private sector is unable to provide. This include the financing of education and the development of infrastructure. The government supervises company operations to guarantee fairness and that they serve the interests of the general populace. The government is responsible for regulating business cycles by adjusting taxes, interest rates, and managing the circulating money supply within the economy. It may also regulate the economy by influencing the expenditure via fiscal policy. Furthermore, the government, while serving as the lender of last resort, also functions as the employer of last resort. The government addresses market failures when the private sector cannot adequately meet societal demands.

By establishing a robust budgeting strategy, the government may identify and reallocate resources to previously disadvantaged industries. This aligns with the nation's economic and social objectives. To do this economically, the government must stimulate investment by providing tax incentives and subsidies to manufacturers. Another method of stimulating production is to create commodities and services that the private sector lacks interest in. Provision of infrastructure and services, such as electricity supply.

The budget may be used to manage the business cycles of inflation and deflation in order to attain economic stability (Mankiw, 2007). The regulation of company fluctuations will aid in preserving price stability within the economy. Such variations are often caused by disparities in income and wealth. The budget will affect the distribution of income and wealth via taxes and resource allocation to enhance the quality of life for the impoverished and address the general welfare of the populace. The current tax rates generate money amounting to around 20% of the national income. This indicates a favorable reception of the income. Economic stability will facilitate economic development by enabling the populace to save and invest. Consequently, the government may stimulate investment in the public sector and ultimately diminish economic inequalities across various regions by establishing manufacturing units in economically disadvantaged areas.

The Role of the Government Sector in the Economy

Government action significantly influences economic developments.  This activity is confined to direct spending on goods and services. The budget projections suggest that the existing government programs may incur expenses of 4 million for goods and services. The government may also generate money via the taxation of earnings, which constitutes 20% of the national income. In this instance, it would be wise to augment government spending rather than raise income taxes. During this era, it is apparent that companies are in the concluding portion of their fiscal years. This indicates that the companies are reducing their investments. This may result in decreased consumer expenditure. Consequently, increased government expenditure might have a multiplier effect.

Government expenditure may provide more employment, resulting in heightened income for the populace and an escalation in aggregate demand. The government will benefit from this via income taxes, which will be the most effective method to prevent a budget deficit. This may ultimately result in a more significant increase in GDP, as seen by the Keynesian Cross. There exists a direct correlation between government expenditure and national revenue, multiplied by a factor known as the multiplier. Any alteration in government expenditure will result in a corresponding change in national revenue, multiplied by the multiplier effect. A diminished capital investment by the private sector will have little or no impact on the present GDP levels. The gross domestic fixed capital is projected to reach 4 million.

Productivity is a significant worry in the current economy, having grown last year; hence, if full employment were achieved, GDP might reach 20 million. Full employment in this context denotes an economic condition characterized by maximum production, optimal unemployment levels, and stable inflation. To get full employment, GDP, unemployment, and inflation must be in balance. As unemployment decreases, inflation is expected to increase. In reality, economies often do not function in that manner.

Full employment in an economy will always generate a conflict of policy about the balance of payments. Full employment consistently correlates with a balance of payments deficit (Mankiw, 2007). The issue at hand is the establishment of either an internal equilibrium or an external balance. The government's increase in spending enhances employment levels. This will subsequently elevate the demand for imports and induce an imbalance in the balance of payments. This imbalance has been a challenge for several nations. The task is to sustain full employment and internal stability while also maintaining external balance.

The Keynesian model posits that full employment in an economy does not inherently indicate the presence of external equilibrium. To attain the dual aims of full employment and external balance, it is necessary to apply two policies. Fiscal policy will manage and guarantee the full employment of resources, while commercial policy will be used to achieve external balance.

Assignment

 Devaluation is essential for attaining external equilibrium and enhancing the balance of payments position in this context. Devaluation diminishes exports while concurrently augmenting imports. However, devaluation combined with rising government spending may not provide significant advantages. Prudent timing is essential for using devaluation in conjunction with monetary and fiscal policy to ensure the country maintains both internal and external equilibrium. The international market conditions are advantageous, since the global monetary crisis has facilitated expansion in world commerce. Exports are projected to remain below 2 million. Imports are anticipated to constitute around 20% of the gross domestic output.

Government policy is crucial for attaining full employment. The National Institute has projected rising unemployment rates, necessitating a revision of government policy to achieve full employment in the next year. Various approaches exist to attain full employment beyond increasing government spending. This encompasses the decision about employment growth in the next year. We must evaluate the tempo and magnitude of interest rate increases, since this choice may impede economic development by diminishing job and pay expansion.

The government must establish a program focused on employment initiatives. To achieve full employment in the economy, it is essential to devise strategies that would directly generate jobs in regions with the greatest unemployment rates. The optimal approach is using governmental and non-profit employment initiatives to recruit a substantial workforce.

Taking all these considerations into account, fiscal policy will be the most effective economic remedy for the issue of unemployment. Fiscal policy entails augmenting government spending or diminishing net revenues. We have also seen that increasing public investment yields additional indirect benefits. In this instance, the primary impact of fiscal policy is its influence on enhancing aggregate demand. Numerous individuals may contend that expansionary fiscal policies might ultimately diminish private sector expenditure.

Aggregate demand refers to the overall demand for products and services within the economy. Aggregate demand assesses the performance of the economy and its growth rate. Government expenditure and taxation policies will affect the income earned by families via the employment of its members. This will therefore influence consumer spending and investment behaviors.

Aggregate demand quantifies the demand for all commodities and services produced domestically (Mankiw, 2007). Aggregate demand (AD) comprises the sum of total consumer expenditure, total investment from both private and public sectors, government expenditure, and net exports, defined as total exports minus total imports.

This is seen in the equation provided below:

Response

AD = C + I + G + NX; where C represents consumer spending, I denotes investment, G signifies government expenditure, and NX indicates net exports.

Expand Expansionary fiscal policy would dictate government expenditure on sectors such as infrastructure enhancement, educational advancement, and provision of jobless benefits. Keynesian economics guarantees that the aforementioned measures will prevent a decline in aggregate demand. These initiatives stabilize aggregate demand via favorable employment rates.

Open market operations (OMOs) denote the buying or selling of assets by the government, and sometimes commercial papers, to regulate the money supply within the economy. Open market operations are used to stabilize the prices of government securities. This purpose sometimes conflicts with the regulations established by the central banking authority for the regulation of credit levels in the money market. Government securities used in open market operations include Treasury bonds, Treasury notes, and Treasury bills.

Open market operations (OMOs) are fundamentally either expansionary or contractionary. The expansionary policy aims to augment the money supply and lower interest rates to stimulate economic development. The central banking authority expands the money supply by acquiring securities from commercial banks. The capital obtained by the banks from the sale will be allocated to people and enterprises as loans. An increase in the availability of funds for lending often results in lower interest rates on loans, so enabling more borrowers to access affordable capital. Facilitated access to financing will enhance investment and invigorate overall economic development.

The employment rate in the economy will indirectly influence the amount of consumption (Miranda & Michele, 2015). Keynes posits that the Keynesian Consumption Function (KCF) is expressed as C = Ca + cYd. Ca denotes autonomous consumption and presumes a value above zero. c represents the marginal propensity to consume (MPC). Yd represents disposable income. Disposable income dictates the spending level in the economy, and consumption propels economic activity. Disposable income is the money that remains available for consumers to spend after the payment of taxes and the receipt of transfer payments and social welfare funds. The government may enhance the buying power of individuals in the economy by implementing fiscal policy and generating long-term jobs. Furthermore, the government might increase taxes to prevent a balance of payments deficit and a fiscal deficit.

References

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