Business Environment Fiscal Policy and Monetary Policy

Topics: Economics

Monetary Policy vs Fiscal Policy

Economic Environment refers to all those economic factors, which have a bearing on the functioning of a business. Business depends on the economic environment for all the needed inputs. It also depends on the economic environment to sell the finished goods. Naturally, the dependence of business on the economic environment is total and is not surprising because, as it is rightly said, business is one unit of the total economy.

Economic environment influences the business to a great extent.

It refers to all those economic factors which affect the functioning of a business unit. Dependence of business on economic environment is total -? I. E. For input and also to sell the finished goods. Trained economists supplying the Macro economic forecast and research are found in major companies in manufacturing, commerce and finance which prove the importance of economic environment in business.

The following factors constitute economic environment of business: (a) Economic system (b) Economic planning (c) Industry (d) Agriculture (e) Infrastructure (f) Financial & fiscal sectors (g) Removal of regional imbalances h) Price & distribution controls (I) Economic reforms (j) Human resource and (k) Per capita income and national income The state became the encourager of savings and also an important investor and the owner of capital.

Since the state was to be the primary’ agent of economic change, it followed that private sector activities had to be strictly regulated and controlled to conform to the objectives of state policy.

The growth strategy also meant, in the early years of planning, a relative neglect Of public investments in agriculture.

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This negligence Of agriculture sector was purported by the general view that the increase labor in the developing countries could only be absorbed in the industry, and that during the early stages of industrialization, it was necessary for agriculture to contribute in the establishment of modern industry by offering inexpensive work force. A faster development of industry was the central objective of planning. The above is a thumbnail sketch of the growth strategy followed by the planners in the past four decades.

Fiscal policy may be defined as ‘a logic under which the government uses its expenditure and revenue programmed to produce desirable effect & avoid undesirable effect on national income, production and unemployment’. It emphasizes the effect of government expenditure and revenue upon total economy and argues that they should be used deliberately and consciously as a balancing factor to secure economic stabilization. Fiscal policy is the means by which a government adjusts its spending levels and tax rates to monitor and influence a nation ‘s economy.

It is the sister strategy to monetary policy through which central bank influences a nation’s money supply. These two policies are used in various combinations to direct a country’s economic goals. “Gerhard Cool defines fiscal policy as “the conduct of government expenditure, revenues and debt management in such a way as to take fully into account the effect of these operations in the allocation of resources and the flow of funds and thereby their influence on the level of income prices employment and production. In the modern government organization the amounts of public expenditures, revenues and public debt are so huge, that they have gun to assume a major importance in the national economy. The desired fiscal policy can be pursued by budgetary measures like taxation, expenditure, public debt etc.


He role of fiscal policy in regulating the economy and protecting it from the ills of the market mechanism were recognized very slowly. Earlier, governments were wedded to the traditional ideals of sound budgetary policy of avoiding deficits. Such a policy, amongst other things, was causing to problems. One was as Keynes pointed the fact that an attempt to balance the budget would put it to an unbalance and vice-versa. The second was that through the process of balanced budget multiplier, the budget was adding to the severity of cyclical fluctuations. It was with great difficulty that the appropriateness and usefulness of the fiscal policy in combating the ills of the economy were recognized, especially during the great Depression of 1 sass. It was conceded that the government had a primary responsibility of helping the economy towards stabilization.

As mentioned earlier, the role of fiscal policy in promoting economic stability was recognized slowly, and not sufficiently till the Great Depression of 1 sass. Actually, as Keynes pointed out ,the orthodox sound budgetary policy of avoiding deficits itself contributed towards greater instability and made the task of keeping the budget balanced, all the more difficult. This in fact, generated a “perverse” policy on the part of the authorities, pushing the expenditure and demand in the economy down during a period of depression and pushing them up during a boom.

The development of the concepts of “multiplier”, and accelerator’ and the relationship between the macro-variables like investment, Income consumption and savings enabled the economics to visualize more clearly the shines of trade cycles and the role which fiscal policy could play. This gave rise to the principle of compensatory finance and functional finance. It was realized that through fiscal policy , the government could to a great extent, neutralize the destabilize movements in the economy. The general theoretical farm work was that a depression is caused by a deficiency of effective demand. Fiscal policy should remedy it by increasing public expenditure and by encouraging private expenditure; similarly during a boom period the need is to control the demand which again can be partly done wrought curtailing public expenditure and party through curbing the private expenditure.


Fiscal policy is based on the theories of British economist John Maynard Keynes. Also known as Keynesian economics, this theory basically states that governments can influence macroeconomic productivity levels by increasing or decreasing tax levels and public spending. This influence, in turn, curbs inflation (generally considered to be healthy when between 2-3%), increases employment and maintains a healthy value of money. Fiscal policy is very important to the economy. For example, in 201 2 many worried that the fiscal cliff, a simultaneous increase in tax rates and cuts in government spending set to occur in January 2013, would send the U S. Economy back to recession. The US. Congress avoided this problem by passing the American Taxpayer Relief Act of 2012 on Jan. 1, 2013.


The idea, however, is to find a balance between changing tax rates and public spending. For example, stimulating a stagnant economy by increasing spending or lowering taxes runs the risk of causing inflation to rise. This is because an increase in the amount of money in the economy, followed by an increase in consumer demand, can result in a decrease in the value of money – meaning that it would take more money to buy something that has not changed in value. Tee’s say that an economy has slowed down. Unemployment levels are up, consumer spending is down and businesses are not making substantial profits.

A government thus decides to fuel the economy’s engine by decreasing taxation, which gives consumers more spending money, while increasing government spending in the form of buying services from the market (such as building roads or schools). By paying for such services, the overspent creates jobs and wages that are in turn pumped into the economy. Pumping money into the economy by decreasing taxation and increasing government spending is also known as “pump priming. ” In the meantime, overall unemployment levels will fall. With more money in the economy and fewer taxes to pay, consumer demand for goods and services increases.

This, in turn, rekindles businesses and turns the cycle around from stagnant to active. If, however, there are no reins on this process, the increase in economic productivity can cross over a very fine line and lead to too much money in the market. This excess in supply creases the value of money while pushing up prices (because of the increase in demand for consumer products). Hence, inflation exceeds the reasonable level. For this reason, fine tuning the economy through fiscal policy alone can be a difficult, if not improbable, means to reach economic goals.

If not closely monitored, the line between a productive economy and one that is infected by inflation can be easily blurred. And When the Economy Needs to Be Curbed . When inflation is too strong, the economy may need a slowdown. In such a situation, a government can use fiscal policy to increase taxes to suck money UT of the economy. Fiscal policy could also dictate a decrease in government spending and thereby decrease the money in circulation. Of course, the possible negative effects of such a policy in the long run could be a sluggish economy and high unemployment levels. Nonetheless, the process continues as the government uses its fiscal policy to fine-tune spending and taxation levels, with the goal of evening out the business cycles.


Unfortunately, the effects of any fiscal policy are not the same for everyone. Depending on the political orientations and goals of the policymakers, a tax UT could affect only the middle class, which is typically the largest economic group. In times of economic decline and rising taxation, it is this same group that may have to pay more taxes than the wealthier upper class. Similarly, when a government decides to adjust its spending, its policy may affect only a specific group of people. A decision to build a new bridge, for example, will give work and more income to hundreds of construction workers. A decision to spend money on building a new space shuttle, on the other hand, benefits only a small, specialized pool of experts, which would to do much to increase aggregate employment levels.


Socio-economic objectives of the economy. Monetary policy influences the us apply of money the cost of money or the rate of interest and the availability of money. One of the most important functions of Reserve Bank, is to formulate and administer a monetary policy. Such a policy refers to the use of instruments of credit control by the Reserve Bank so as to regulate the amount of credit creation by the banks. It also aims at varying the cost and availability of credit with a view to influence the level of aggregate demand for odds and services in the economy. D. C. Rowan defined Monetary Policy ‘discretionary act undertaken by the authorities designed to influence (a) the us apply of money (b) cost of money or rate of interest and (c) the availability of money’.

One of the twin aims of the economic policy is to accelerate the process of economic growth with a view to raise the national income. The Reserve bank, has made the allocation of funds to the various sectors according to the priorities laid down in the plans and requirements of day or day development The second objective is to control the prices and reduce the inflationary erasures in the economy. The monetary policy of the Reserve Bank during the planning period is appropriately termed as that of “Controlled expansion”.

Every economy faces two conflicting interests: (a) Expansion of money supply to finance the process of economic development. (b) Control of money supply to check inflationary pressure generated in the economy as a result of vast development and non- development expenditure. Thus, controlled expansion of money supply was essential for growth with reasonable. To achieve the above mentioned objectives of the monetary policy, the Reserve Bank has adopted the allowing: (a) Measures for expansion of currency and credit (b) Measures for controlling of credit.

POLITICAL IMPACT ON BUSINESS party. In this way political environment of a country has great impact on the business houses. The dominated role of public sector in our country is outcome of ‘socialist pattern of society adopted by the Congress Party. In short, important economic policies such as industrial policy, foreign capital policy, fiscal policy and import policy are often political decisions which houses. A stable and dynamic political environment is indispensable for business growth.

The political institutions I. E. Slaughter, Executive and Judiciary plays important role in economic policies as well as in development of country whereas the legislature is vested with most vital powers like policy making, budget making and executive control. The decisions of the legislature affect each and every activity of business houses. Legislatures have to check that profit earning is not only justified but also whether the activities of business houses are in a manner beneficial to the society. The other important political institution is the Executives of the actual law and policies enforcing agency.

What the legislative made in their chamber actually come in force in the hands of executives. In the way the functions of executive also effects the economic development. Some times the legislature makes some policies but there is conflict between the executives and business houses about implementation. In case of such conflicts, the judiciary, the third important political institution resolves the conflicts. It is the power of the judiciary to settle legal disputes that effect business considerably. It is therefore necessary to discuss about the impact of political and legal environment on the economy.

Depending upon the nature and stage of development of the economy, the behavior of the private sector, the political philosophy, social attitudes, administration system etc. It is a universal phenomenon that state controls economy. In the modern era, two most powerful institutions in the society are ‘business’ and government which meet on common grounds or otherwise together they determine the public policy both foreign and domestic for a nation. But four corner development of a country is only possible if the government plays significant role in the economy of a country.

Normally government plays for important roles in an economy and Government regulation of the economy may be broadly divided into two parts; direct and indirect control. The reservation of industries to small scale, public and cooperative sector, licensing system, import and export regulations, the subsidies for different sectors are some examples of regulatory measurements of the governments. For the development of economy, state/government will have to assume direct responsibility to build up and strengthen the necessary development of infrastructure I. E. Rainspout, rower, finance, marketing and institutions for training and guidance along with other promotional activities.

A well planned economy may lead to a country on the path Of development. State especially plays important role in planning economy. How to use resources the achieve the goal within the time frame set etc. Are the basic needs for proper development of economy and proper planning is most important tool for the same. Sometimes to boost-up the economic development government plays the role of entrepreneur. It establishes the business enterprises and bear the risks.

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Business Environment Fiscal Policy and Monetary Policy. (2018, Feb 02). Retrieved from

Business Environment Fiscal Policy and Monetary Policy
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