Fiscal policy can be viewed as a government legislative measure to control the economy of a country. It is carried out by the legislature of a country. The main fiscal policy tools are the government spending/expenditures and taxation. All the government must collect taxes from the economy in order to finance their expenditures. Government expenditures as spelt out in the budget can be grouped into two, recurrent and capital budgets. Recurrent budgets include all government expenditures which all used to support the smooth running of a government. Capital budget will include all expenditures in infrastructure. A government plans for all its financial activities in the coming year through budgetary allocation. It can choose to do so by employing either a deficit or a surplus budget. The government is said to have used a deficit budget when all its expected expenditures for the year exceed the amount of revenues collected from taxes and other sources of government revenues. The deficit that is left unaccounted for will be funded from external or internal borrowing. The borrowing will be in form of fixed income securities both short term and long term. Accumulation of principal amount and interest of this borrowing and other finances will result to a national debt. Thus the government will be increasing its national debt when it uses a deficit budget to finance its expenditures.
The other situation of budget surplus will exist when government revenues collected for the year exceed the total government expenditures for that year. A government that has an outstanding national debt will pay the remaining amount from the unused cash in that year. We can also have a condition where the amount of expenditures is equal to the amount of income collected from the country inform of taxes. When such a condition exists the coming is said to be running on a balanced budget.
The government through the fiscal policy can influence the market and this will result into either an expansionary measures or contractionary measures. The two types of fiscal policies will be used under different economic condition. An expansionary measure will be used when the levels of economic growth of a country starts to go down. This period is referred to as depression. A contractionary measure is mostly used to curb the effects of inflation in a thriving economy. Expansionary measures will seek to increase government expenses to try and inject more money into the sluggish economy. The government will also reduce the amount of taxation levied to its citizens to encourage them to save more hence create a condition called the multiplier effect. Multiplier effect is defined by Keynesian as in his attempt to explain how expansionary measures can be used to combat recession as the increase in one quantity of output due to increase in the input.
Contractionary measures as government attempts to reduce money supply in an economy is achieved through reducing the amount of government expenses in an economy. The effects of this is excess money will be withdrawn from the economy reducing the amount of inflation. Another tool used by the government under contractionary measures is increasing the amount of taxation. Taxation will reduce the government deficit by increasing the amount of revenues collected this will enhance a health economy and control the rate of inflation.