Inflation And Fiscal Policy

By: EconomyWatch   Date: 14 October 2010

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Inflation and fiscal policy affects the level of economic activities of a country. Inflation can be specified as an increase in the general level of prices for goods and services that eventually declines the purchasing power of money. Fiscal policy is the Government's expenditure policy that influence macroeconomic conditions.
Inflation
Inflation is a monetary phenomenon, which is usually measured by changes in Consumer Price Index (CPI). When a persistent increase occurs in the level of prices that lowers the purchasing power of money, we call it inflation. An appreciable number of countries in the world prefer to sustain an inflation rate between 2 and 3 percent.

Cause of inflation
When too much money is in circulation in comparison to the production of goods and services, then inflation occurs. It can also be said that inflation occurs when the supply of money per unit of output increases. The consequence is the fall of purchasing power of money. Inflation also brings down the rate of savings.
Measurement of Inflation
It is necessary to understand the changes of relative and absolute price, at the time of evaluating inflation rate. One of the vital factors to be considered, while evaluating inflation, is the GNP (Gross National Product) of the country. Generally inflation is calculated by changes in the Consumer Price Index.
Fiscal policy
The fiscal policy is basically the revenue generating policy of the Government . The government finances expenditures on the basis of this fiscal policy. The two methods of financing are borrowing and taxation.

Taxation can be of several forms like taxation of personal and corporate income, value added taxation and the collection of royalties.

A government not having sufficient tax revenue to finance its expenditure, borrows money to provide goods and services to it's people. The government borrows money through the issuance of securities.
Impact of fiscal policy
The fiscal policy influences interest rates, tax rates and government spending strategy.
Economic effects of fiscal policy
The fiscal policy has the power to affect the level of overall demand in the economy. The primary objective of fiscal policy is to maintain the price stability, economic growth and employment of the country. Hence an appropriate fiscal policy can help in combating rising inflation rates.


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