Fiscal Policy

Fiscal Policy is the policy relating to public revenue and public expenditure and allied matters. Government spending policies that influence macroeconomic conditions. These policies affect tax rates, interest rates and government spending, in an effort to control the economy.

Fiscal Policy


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Fiscal Policy

Fiscal policy is the means by which a government adjusts its levels of spending in order to monitor and influence a nation’s economy. Fiscal policy and Monetary policy go hand in hand with each other. Both are interdependent on each other.

Tax System

A compulsory contribution given by a citizen or organisation to the Government is called Tax, which is used for meeting expenses on welfare work. Tax imposing and Tax collecting is at three levels in India — Central level, State level, and Local level. The distribution of tax between Centre and State has been clearly mentioned in the provisions of Indian Constitution. For rationalising it from time to time, Finance Commission has been constituted. The tax system has been divided into two parts:

  1. Tax by Central Government — Custom Duty, Income Tax and Corporate Tax etc.
  2. Tax by State Government — The state government has right to collect all the taxes in this category and to spend them.
  • There are two types of taxes: 1. Direct Taxes 2. Indirect Taxes:
    • Direct Taxes — The taxes levied by the central government on incomes and wealth are important direct taxes. The important taxes levied on incomes are—corporation tax and income tax. Taxes levied on wealth are wealth tax, gift tax etc.
    • Indirect Taxes — The main forms of indirect taxes are customs and excise duties and sales tax. The central government is empowered to levy customs and excise duties (except on alcoholic liquors and narcotics) whereas sales tax is the exclusive jurisdiction of the state governments.

However, the union excise duties form the most significant part of central taxes. The major tax revenue sources for states are their shares in union excise duties and income tax, commercial taxes, land revenue, stamp duty, registration fees, state excise duties on alcohol and narcotics etc. Sales tax forms the most important component of commercial taxes.

  • Progressive Tax — A tax that takes away a higher proportion of one’s income as the income rises is known as progressive tax. Indian Income Tax is a progressive and direct tax.
  • R. Chelliah Committee was constituted in August 1991 for suggesting reforms in Tax Structure.
  • Chelliah Committee recommended Income Tax for agricultural income of more than Rs. 25,000 p.a. Chelliah Committee also recommended for lowering down the tax rates and reducing the tax slabs.
  • K.L. Rekhi Committee was constituted in 1992 for suggesting uniform regulations for indirect taxation (Custom Duty and Excise Duty).

Finance Commission

  • Finance Commission is constituted by the President under Art 280 of the constitution. Since Independence, 13 Finance Commissions have submitted their reports.
  • 1st Finance Commission was constituted under chairmanship of Prof. K.C. Pant.
  • 14th Finance Commission has been constituted in 2013 with Dr. Y. V Reddy as the Chairman.
    Major Recommendations of 14th Finance Commission headed by Prof. Y V Reddy
  1. The share of states in the net proceeds of the shareable Central taxes should be 42%. This is 10 percentage points higher than the recommendation of 13th Finance Commission.
  2. Revenue deficit to be progressively reduced and eliminated.
  3. Fiscal deficit to be reduced to 3% of the GDP by 2017–18.
  4. A target of 62% of GDP for the combined debt of centre and states.
  5. The Medium Term Fiscal Plan(MTFP) should be reformed and made the statement of commitment rather than a statement of intent.
  6. FRBM Act need to be amended to mention the nature of shocks which shall require targets relaxation.
  7. Both centre and states should conclude ‘Grand Bargain’ to implement the model Goods and Services Act(GST).
  8. Initiatives to reduce the number of Central Sponsored Schemes(CSS) and to restore the predominance of formula based plan grants.
  9. States need to address the problem of losses in the power sector in time bound manner.

Important Taxes Imposed in India

  • Tax on Income and Wealth — The central government impose different types of tax on income and wealth, viz, income tax, corporate tax, wealth tax and gift tax. Out of them income tax and corporate tax are more important from the revenue point of view.
  • Personal Income Tax — Personal income tax is generally imposed on an individual combined Hindu families and total income of people of any other communities.
  • In addition to tax, separate surcharges are also imposed some times.
  • Agricultural income in India is free from income tax.
  • Corporate Tax — Corporate Tax is imposed on Registered Companies and Corporations.
  • The rate of corporate tax on all companies is equal. However, various types of rebates and exemptions have been provided.
  • Custom Duties — As per the Constitutional provisions, the central government imposes import duty and export duty both. Import and Export duties are not only sources of income but with the help of it the central government regulates the foreign trade.
  • Import Duties — Generally import duties are ad-valor em in India. It means import duties are imposed on the taxable item on percentage basis.
  • Export Duties — Export Duties are more important, compared to Import Duties in terms of revenue and regulation of foreign trade.
  • Excise Duties — Excise duties are commodity tax as it is imposed on production of an item and it has no relevance with its sale. This is the largest source of revenue for the Central Government.
  • Except liquor, opium and other drugs, production of all the other items is taxable under Central Excise Duties.
  • To develop Social Accounting method of National income — Richard Stone.
  • One Coin & One Rupee note belong to “Legal Tender Money” category.
  • M1 is known as Narrow Money.
  • M3 is known as Broad Money.

Types of Tax

Direct TaxIncome Tax, Property Tax, Gift Tax etc.
Indirect TaxSales Tax, Excise Duty Custom Duty etc.
Taxes imposed by the Central GovernmentIncome Tax, Corporate Tax, Property Tax, Succession Tax, Wealth Tax, Gift Tax, Custom Duty Tax on agricultural wealth etc.
Taxes imposed by the State GovernmentLand revenue tax, Agricultural income tax, Agricultural Land Revenue, State Excise Duty, Entertainment Tax, Stamp duty, Road Tax, Motor Vehicle Tax etc.

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Important Questions on Fiscal Policy

Questions 1
Fiscal Policy is concerned with [MPPSC (Pre) 1996]
(A) the volume of currency that banks should put in the economy
(B) the policy regarding taxation and expenditure
(C) policy for regulating stock
(D) the policy for dealing with IMF

Questions 2
Which one of the following is part of fiscal policy? [UKPCS (Pre) 2014]
(A) Production policy
(B) Tax policy
(C) Foreign policy
(D) Interest rate policy

Questions 3
Which one of the following is NOT the objective of fiscal policy of government of India? [HCS (Pre) 2014]
(A) Full employment
(B) Price stability
(C) Regulation of inter-state trade
(D) Economic growth

Questions 4
In India, which one among the following formulates the fiscal policy? [UPPCS (Mains) 2014]
(A) Planning Commission
(B) Finance Commission
(C) Finance Ministry
(D) Reserve Bank of India

Questions 5
Which of the following economists, introduced fiscal policy as a tool to rectify the Great Depression of 1929-30? [UKPCS (Pre) 2014]
(A) Prof. Keynes
(B) Prof. Pigou
(C) Prof. Marshall
(D) Prof. Crowther

FAQs on Fiscal Policy

What is meant by fiscal policy?

Fiscal policy means policy relating to government spending, taxation and borrowing.

A change in fiscal policy affects the balance of payments through ___

A change in fiscal policy affects the balance of payments through both the current account and capital account.

What was not stipulated in the Fiscal Responsibility and Budget Management Act 2003?

Elimination of primary deficit by the end of the fiscal year 2008-09 was not stipulated in the Fiscal Responsibility and Budget Management Act 2003.

Fiscal responsibility and Budget Management Act was enacted in India in the year

Fiscal responsibility and Budget Management Act was enacted in India in the year 2003.

Which statement appropriately describes the ‘fiscal stimulus’?

It is an intense affirmative action of the government to boost economic activity in the country.

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