Sample Cheat Sheets: Fiscal Policy
4.3 Fiscal Policy
4.3.1 Definition of the Government Budget
- Government Budget: A financial statement showing planned government spending and revenue (mainly from taxation) for a year.
- Balanced budget: Spending = Revenue.
- Deficit budget: Spending > Revenue.
- Surplus budget: Spending < Revenue.
4.3.2 Reasons for Government Spending
| Area | Reason | Example |
|---|---|---|
| Public goods | Not provided by market | Defense, streetlights |
| Merit goods | Under-consumed if left to market | Education, healthcare |
| Welfare | Reduce inequality | Benefits, pensions |
| Infrastructure | Support growth | Roads, railways, electricity |
| Economic stability | Stimulate economy in recession | Job creation programs |
| Interest payments | On national debt | Govt bonds interest |
4.3.3 Reasons for Taxation
- Main source of government revenue.
- Redistribute income (progressive taxes).
- Discourage harmful consumption (cigarette taxes).
- Control inflation (reduce demand).
- Correct market failure (carbon tax).
- Manage balance of payments (tariffs, import duties).
Written and Compiled By Sir Hunain Zia, World Record Holder With 154 Total A Grades, 7 Distinctions and 11 World Records For Educate A Change O Level And IGCSE Economics Full Scale Course
4.3.4 Classification of Taxes
- By Impact:
- Direct Taxes: Paid directly to govt (income tax, corporate tax).
- Indirect Taxes: Collected via goods/services (VAT, excise duty).
- By Burden Distribution:
- Progressive Tax: Higher % paid as income rises (e.g., income tax).
- Regressive Tax: Lower % paid as income rises (e.g., sales tax affects poor more).
- Proportional Tax: Same % for all income levels (flat tax).
4.3.5 Principles of Taxation (Qualities of a Good Tax – Adam Smith’s Canons)
- Equity → Fair: rich pay more.
- Certainty → Clear amount and timing.
- Convenience → Easy to pay.
- Economy → Low collection cost.
- Elasticity → Should adjust with income/ability.
- Simplicity → Easy to understand.
4.3.6 Impact of Taxation
| On Consumers | Less disposable income, reduced demand for goods. |
|---|---|
| On Producers | Higher costs, reduced profits, less investment. |
| On Government | Main revenue source; can fund spending, reduce debt. |
| On Economy | High taxes may reduce growth, but needed for redistribution. |
Written and Compiled By Sir Hunain Zia, World Record Holder With 154 Total A Grades, 7 Distinctions and 11 World Records For Educate A Change O Level And IGCSE Economics Full Scale Course
4.3.7 Definition of Fiscal Policy
- Fiscal Policy: The use of government spending and taxation to influence the economy.
- Types:
- Expansionary fiscal policy → Increase spending, cut taxes (to boost growth, jobs).
- Contractionary fiscal policy → Reduce spending, raise taxes (to cut inflation, deficits).
4.3.8 Fiscal Policy Measures
- Government Spending: On infrastructure, welfare, subsidies.
- Taxation: Direct and indirect taxes adjusted.
- Budget Balance:
- Deficit = Spending – Revenue (if > 0).
- Surplus = Revenue – Spending (if > 0).
4.3.9 Effects of Fiscal Policy on Government Macroeconomic Aims
| Macroeconomic Aim | Effect of Fiscal Policy |
|---|---|
| Economic growth | Expansionary spending boosts demand → higher GDP. |
| Employment | Govt projects create jobs, tax cuts increase hiring. |
| Stable prices | Higher taxes/reduced spending can lower inflation. |
| Balance of payments | Import duties may reduce imports. |
| Income distribution | Progressive taxes + welfare payments reduce inequality. |
Written and Compiled By Sir Hunain Zia, World Record Holder With 154 Total A Grades, 7 Distinctions and 11 World Records For Educate A Change O Level And IGCSE Economics Full Scale Course
Quick Examples for Exams
- Pakistan runs budget deficit due to high debt repayments.
- UK uses progressive tax to fund free NHS healthcare.
- Govt cuts taxes and raises spending during recession (expansionary).
- Govt raises indirect taxes on cigarettes to discourage consumption.
Memory Hooks
- Budget types = Balanced, Deficit, Surplus.
- Tax classification = Direct/Indirect, Progressive/Regressive/Proportional.
- Principles of tax = E-C-C-E-S-S (Equity, Certainty, Convenience, Economy, Simplicity, Stability/Elasticity).
- Fiscal policy tools = Taxes + Spending.
Written and Compiled By Sir Hunain Zia, World Record Holder With 154 Total A Grades, 7 Distinctions and 11 World Records For Educate A Change O Level And IGCSE Economics Full Scale Course