Understanding Fiscal Policy: Purpose, Form, Function and Examples

Understanding of Fiscal Policy – The Covid-19 pandemic made the government issue a number of policy maneuvers to contain the pace of the economic slowdown in the last year. There are many terms that Reader may not know about the steps taken by the government.

One that is often heard but less public in the ears of the public is that the government is encouraged to relax fiscal policy. So what exactly is the fiscal policy? why are more and more experts and the media highlighting it?

Fiscal policy in Indonesia is one of the policies of the government aimed at directing the economy of a country.

When viewed and not understood more deeply, Reader may be confused because fiscal policy can look similar to monetary policy . But they are both different. Let’s see more explanation about fiscal policy.

 

A. Definition of Fiscal Policy

1. Definition of Policy

Linguistically, the word policy in KBBI has the meaning of cleverness, skill, wisdom. Policy also means a series of concepts that become the basis or basis of the implementation plan of a job, leadership, way of acting that is generally done by the government or organization.

Policy can also be interpreted as an ideal, a goal, a principle or even a purpose that is a guide in a management. Because of that, policy is generally applied to something that requires complex management, policy is used as a guide to do the management itself.

2. Fiscal Meaning

While the word fiscal linguistically comes from the English language ” fisc” which has the meaning of treasury or arrangements for the entry and exit of money in a government, or country or even a government.

It is said that this fiscal word comes from the Greek ” fiscus” which is the name of an official in the Ancient Roman empire, fiscus at that time served as the person who managed the kingdom’s finances.

Meanwhile, in Indonesian, fiscal means something that has a close relationship with tax affairs and management of state revenues. Therefore, in a fiscal language, it is always related to financial and income management, which can also include taxation.

3. Definition of Fiscal Policy

In terms, the definition of fiscal policy is a policy or guideline or basis that is usually carried out by the government or the leadership of a country/kingdom to regulate the state’s financial condition and income.

In addition, fiscal policy is also useful for directing a country’s economy to be more productive by changing or updating government spending and income. Through fiscal policy, the government can exercise control over government and state expenditure and revenue control.

The funds collected are considered by the government as income and then used as expenditure through programs made by the government. The program created by the government aims to be able to produce achievements in national income, production and the economy and is also used as a balance tool in the economy of the country or kingdom.

According to some experts, such as Zain, fiscal policy is government spending and revenue in the form of taxes. The tax is a levy imposed by the state either by the central government or local government.

Tax collection carried out by the government has been clearly regulated in law as general government financing, the aim is to carry out government functions and does not contain elements of individual rewards by the government for paying these taxes.

Meanwhile, according to Alam , fiscal policy is a policy that adjusts government spending and revenue with the aim of being able to improve these economic conditions.

Haryadi also expressed his opinion regarding the meaning of fiscal policy. According to him, fiscal policy is an economic policy used by the government of a country to be able to direct the economy of a country. The goal is to go in a better direction in accordance with what the government wants. The trick is to change the receipts and expenditures of the country’s government.

In short, fiscal policy is an economic policy carried out by the government to be able to control the income and spending of state funds so that the country’s economy will be better. To understand more deeply about the formulation of future fiscal policy, Reader can read the book Introduction to Fiscal Policy below.

B. Who Makes Fiscal Policy?

Fiscal policy is generally carried out by the government through the Ministry of Finance or other ministries such as the ministry of trade, investment institutions to independent institutions such as the financial services authority (OJK) and deposit insurance agencies (LPS).

These institutions are authorized to regulate various policies related to financial management, income, expenditure, production, industry, export and import and so on.

In contrast, monetary policy is generally the regulation of the economy by the government through the act of controlling the circulation of money and regulating interest rates. Both fiscal and monetary intervene in the economy, but monetary policy tends to affect prices, finance and public consumption as well as several real sectors.

The institution authorized to issue monetary policy is the central bank, namely Bank Indonesia (BI). An example of monetary policy is control over interest rates, so that when BI raises or lowers interest rates, it will generally affect a number of sectors, for example house sales, vehicle sales and the banking sector.

You can also study matters related to the Fiscal Policy Agency and the Ministry of Finance in the Fiscal Policy, Climate Change, and Development Sustainability books below.

C. Objectives of Fiscal Policy

Fiscal policy has the main objective of determining the direction, objectives, targets and priorities of national development and economic growth of a country and its nation.

In accordance with its understanding, fiscal policy aims to be able to control a country’s income and expenditure so as to achieve better country economic goals. This can be done with the formulation of a policy that is credible and based on the results of studies and research. A discussion of the process of formulating a good policy is discussed in detail in the book Tax Policy: Optimizing Incentives and Fiscal Sustainability.

1. Increase GDP (country GDP and GDP per capita)

The main objective of the government in releasing various fiscal policies is to intervene in the economy so that it can be boosted. Fiscal policy will affect various lines of the economy, so that every time the government makes changes or updates to fiscal policy, it is expected to be able to stimulate growth in various sectors.

So that the more state income grows, the more the industrial sector grows as well as other economic sectors, the economy of a country will increase. To measure the level of the country’s economy usually uses the calculation of Gross Domestic Product (GDP), aka gross domestic product (GDP). Indonesia is currently one of the countries with the largest GDP in Asia, namely IDR 15,434 trillion in 2020.

While the value of the country’s GDP is getting bigger, the fiscal policy issued by the government will also affect the level of GDP per capita or per capita income of the people which is also increasing.

Along with the economy that continues to grow, the industrial sector is getting bigger and the state income is getting bigger, it will affect the level of welfare of the people. People’s income will also grow because the labor market grows along with increasing wage levels.

2. Increasing labor absorption

As previously explained, fiscal policy will affect a country’s economic condition. When the fiscal policy issued is the right step, then this will help boost the economy.

As the economy develops, the industrial sector and the business world also develop, the labor market will also be boosted. The more the domestic economy grows, the greater the need for labor from the labor-intensive sector. Therefore, fiscal policy will also affect labor conditions.

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For example, government policies to encourage foreign investment flows into Indonesia will help the industrial sector grow even higher. The industrial sector grew rapidly, new factories were built so that companies needed more workers.

Appropriate fiscal policy will certainly help absorb more workers. This is very important in the midst of fears of increasing poverty and unemployment due to the Covid-19 pandemic.

The Central Statistics Agency (BPS) recorded that the number of unemployed people in Indonesia in the February 2021 period was 8.75 million people. This number continues to grow and even rises 26.26% compared to the same period last year.

Simultaneously with the increasing number of people who lose their jobs, this will lead to an increasing number of people living below the poverty line. BPS also released the number of poor people in March 2021 reaching 27.54 million people, this number also experienced an increase compared to March last year which numbered 26.42 million people.

3. Maintain price stability

 

The government can also intervene in the economy, especially in terms of the price of goods in the market. In inflation, there are three components, namely core inflation, volatile price inflation and price inflation regulated by the government.

Changes in the prices of goods in the market that are affected by changes in demand and supply are called core inflation. Changes in the prices of goods because they are affected by the season, for example, the price of chili is expensive in a certain month because of the dry season or rainy season is called fluctuating price inflation.

While this third component which is often related to government fiscal policy intervention is the price inflation component regulated by the government. In this third component of inflation, the government is authorized to set price limits on certain products so that their prices will not change even if demand or supply drops. An example is the setting of fuel prices and electricity tariffs by the government.

The government’s policy in regulating inflation will then affect the economic and social conditions. When the government decides to raise the price of fuel, many people will be affected economically so that demand will also decrease. The response will affect the condition of the oil and gas industry which will further have wider implications for various other economic sectors.

Therefore, fiscal policy is also closely related to how the government regulates the economy through price regulation. The government’s measures could affect the price increase or vice versa. Therefore, the ideal fiscal policy is issued with the aim of improving prices, for example raising prices when the value is too small or controlling the price and lowering it when the price is too high.

4. Other Purposes of Fiscal Policy

Besides the main purpose of fiscal policy, there are several other purposes that Reader knows about. What are the other objectives of the fiscal policy?

  1. Fiscal policy aims to achieve stability in the economic conditions of a country nationally.
  2. Fiscal policy aims to drive the economic growth of a country.
  3. Fiscal policy can help drive the pace of investment.
  4. Fiscal policy has the purpose of being able to open wide job opportunities.
  5. Fiscal policy aims to create social justice that every country wants to achieve.
  6. Fiscal policy is also a form of income equalization and distribution.
  7. Fiscal policy can reduce unemployment.
  8. Fiscal policy aims to be able to maintain the stability or stability of the price of goods and services, so as to avoid inflation.

That is the eighth purpose of fiscal policy that Reader needs to know. After knowing the meaning and purpose of fiscal policy, Reader needs to know the function of fiscal policy. Here is an explanation of the function of fiscal policy.

D. Functions of Fiscal Policy

Reader needs to know that the function of fiscal policy has been regulated by the country in a clear Law.

The function of fiscal policy is regulated in Law No. 17 of 2003 Article 3 paragraph 4 on National Finance, the law contains the functions of authority, planning, supervision, allocation, stability and distribution.

1. Functions of Authority

The first function of fiscal policy is authority, meaning that fiscal policy works when the national budget has become a guideline used to find income and expenditure in a specific and relevant year.

2. Planning Function

Both functions are planning. That is, fiscal policy works when the budget from a country has become the basis for management in planning the budget for the year in question at that time.

3. Supervision function

Fiscal policy works when a country’s budget has become the basis of management to plan the budget for the year in question.

4. Allocation Function

Fiscal policy works when the national budget is allocated with the aim of reducing the level of unemployment and waste of resources. The allocation function can also increase the efficiency and economic effectiveness of a country.

5. Stabilization Function

Fiscal policy works when the government’s budget is used to be a tool that aims to preserve and make efforts on the fundamental balance of the country’s economy.

6. Distribution Function

Fiscal policy works when the country makes a budget policy fairly and with a sense of propriety.

That is the sixth fungus from fiscal policy that Reader needs to know, then Reader needs to know more about this fiscal policy. Does this one policy have other forms? Here is the explanation.

E. Form of Fiscal Policy

Theoretically, the forms of fiscal policy can be in the form of

1. Functional Fiscal Policy

This form of fiscal policy is prepared with various mature considerations, especially paying attention to the aspects of its function and use. Because it prioritizes the aspects of use value and function, this fiscal policy is formed by paying attention to many aspects, especially its direct and indirect consequences.

In detail, the presentation of various studies and ideas at the Regional and Bilateral Cooperation Policy Center, the Fiscal Policy Agency that discusses how economic and financial cooperation can be developed is discussed in the book Dynamics of Regional and Bilateral Economic and Financial Cooperation.

2. Deliberate Fiscal Policy

It is a fiscal step taken deliberately when faced with conditions that could not be predicted beforehand. So that various fiscal policies are taken deliberately and do not consider aspects that are too detailed, the purpose is to respond to economic shock conditions that come suddenly.

These various forms of deliberate fiscal policy can be in the form of changes in national spending, changing a number of regulations that regulate income or making changes in aspects of income and expenditure.

3. Fiscal policy is not intentional

That is fiscal measures that can be categorized as impulsive because the government will take fiscal action without considering many aspects in the long term. Usually, this form of fiscal policy is done to respond to business conditions that are not very busy.

F. Components in Fiscal Policy

In general, fiscal policy has four components in it. The four components are taxation policy, production policy, investment policy, debt management policy.

1. Taxation Policy

Taxation policy is the policy that applies in the determination of fiscal policy. Taxes are one of the largest sources of national income, both from direct taxes and indirect taxes. The determination of taxation policy has the purpose of being able to maintain progressive taxation through tax enforcement decisions.

By raising taxes, the government can reduce the purchasing power of the public on goods and services, which can have an impact on the decline in investment and production. Likewise on the other hand, if the tax rate is lowered by the government, then the public will have the opportunity to be able to spend their money so as to increase inflation.

2. Production Policy

The second component in fiscal policy is production policy. This component is related to income and capital expenditure in a country that has been regulated in the production policy.

Capital expenditure issued by the country can be used for various fields, for example such as education, health and others. In addition, production can also be used to pay national obligations and internal and external interest.

3. Investment Policy and Disinvestment Policy

The third component of fiscal policy is investment policy and disinvestment policy. The objective of this policy component is for a country’s economic growth to be in balance, so it is necessary to optimize investment.

4. Debt Management Policy

This component of the debt or surplus management policy is carried out by the government of a country if the income received by the government is greater than the budget that has been spent by the country, so that the country experiences a surplus.

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If the opposite condition occurs in that country, then that country will experience a deficit or a loss. Financing for the deficit can be done by borrowing funds from foreign parties or by printing money.

In order for Reader to understand more clearly about this fiscal policy, the following is an example of a fiscal policy that Reader can know about.

G. Types of Fiscal Policy

The types of fiscal policy can be categorized based on their role in regulating income and expenditure conditions, including the following.

1. Surplus Fiscal Policy

 

This type of fiscal policy is oriented towards the goal of creating a surplus on income, or the value of income that the government books more than production. The purpose of this surplus fiscal policy is to avoid a spike in inflation.

To achieve a surplus value in the national budget is usually done by reducing the budget for spending, in addition to that it can be done by accelerating a number of income components such as taxation and taxes. Interventions on taxation and tax policies will affect the realization of government income.

2. Deficit Fiscal Policy

Deficit fiscal policy is the opposite of surplus fiscal policy, this type is oriented towards the goal of making the value of spending greater than the value of income.

Usually this policy is taken to inject the economy so that it is more resilient, in the sense that the national government is usually prepared to experience a deficit by increasing budget spending so that the economy can be boosted.

Usually the decision for this deficit is taken when the economic condition of a country is sluggish. On the other hand, this condition will have a bad effect because the national government will withdraw debt every year to meet the large spending needs while the income is small.

3. Balanced Fiscal Policy

This type of fiscal policy is a combination of the previous two types, where the value of income and expenditure is tried to be balanced so that there is no excess or lack of funds.

This value has positive and negative sides, in balanced conditions it means that the government does not need to withdraw funds or debt, so that the national debt condition will automatically be maintained. On the other hand, balanced conditions show that the economic conditions are not attractive.

4. Dynamic Fiscal Policy

This type of policy is a fiscal policy that is looser or easier to adjust when conditions change significantly. Simply put, a country is not always faced with predictable conditions. As during the current Covid-19 pandemic, the country is required to actively make changes to the composition of the government’s income and expenditure budget.

The government is required to correct the 2020 growth figure and create an economic stimulus package. Where Indonesia, as one of the countries that experienced a major impact from the pandemic, is able to respond to the condition quickly. Reader can read more about it in the book Tax Incentives & Fiscal Resilience During the Covid-19 Pandemic.

When economic conditions begin to normalize, then the government can begin to tighten spending and increase income, this is to maintain economic stability. On the other hand, in uncertain conditions, the government can relax spending so that a deficit occurs. The purpose is for the economy to be more liquid after the injection of new funds through an increase in the value of spending.

H. Examples of Fiscal Policy

1. Tax Incentives During the Covid-19 Pandemic

The government provides relief in the form of the elimination of a number of taxes for corporations during the Covid-19 pandemic. This certainly affects the performance of the government’s income from taxes, whose percentage portion in the state budget is quite high.

Various ideas, thoughts, analysis, research results on various aspects of fiscal instruments in the State Budget can also be learned by Reader in the book Dynamics of Fiscal Policy Responding to Global Uncertainty.

When tax incentives are implemented, it means that the government will allow less and less tax revenue to be received. But on the other hand, this step was taken as an effort to keep the economy stable.

When corporate tax is eliminated, the burden on companies will be smaller and will help keep business activities running. In this way, the tax relief stimulus is expected to be able to boost the economy so that the effect of the pandemic on the economy is not too severe.

2. Increase Budget for Handling Covid-19

The government also increased the value of the budget for the handling of Covid-19 through the national economic recovery program (PEN) 2021 to more than Rp 700 trillion, this is up from the range of Rp 690 trillion last year.

This jumbo budget certainly sucks up a lot of government budgets that were originally allocated for some specific programs and then diverted to deal with the pandemic. In addition, the increase in the value of this budget makes the need for funds higher which in the same condition the government experiences a decrease in income. To finance the budget deficit, the government will be more diligent in attracting debt.

However, the step to expand the budget for the handling of Covid-19 is the right step and is much needed at this time. The economy will not be able to recover when the pandemic is not under control, therefore paying dearly to pursue recovery makes more sense than letting the economy linger on the effects of the pandemic and not taking action to overcome it.

3. Other Examples of Fiscal Policy

In addition, there are several other examples of fiscal policies that have been applied by a country, examples of which are as follows.

  1. The government’s policy to be able to raise taxes with the aim of obtaining additional national income.
  2. The fiscal policy applied by a government in a certain country to issue bonds is to be able to borrow money from foreign countries, so that it can cover the financing of the country’s deficit.
  3. The fiscal policy applied by the government regarding the obligation of the community to have a Taxpayer Identification Number or NPWP as one of the ways to be able to increase the number of taxpayers in the country.
  4. Fiscal policies applied by the government to be able to manage and manage the budget by reducing national spending and raising taxes, the purpose is to stabilize the country’s economy.

I. Impact of Fiscal Policy on Business

After knowing the meaning, purpose and example of the fiscal policy, does Reader know the impact of the fiscal policy on the business community of a country that applies the fiscal policy?

Fiscal policies can have an impact on business operations that are being developed or run by the community in a country that applies the policy. An example is the impact of the fiscal policy component, namely tax increases.

When the government implements a tax increase policy to achieve a goal for the country’s economy to become better, it will certainly have an impact on the businesses that are being built by the community in it. Business owners need to consider price planning for the goods and services they offer to consumers.

Therefore, business owners need to do financial planning with accounting knowledge. So that when the government implements the fiscal policy, business owners do not feel confused to adjust the government’s policy to their business.

J. Instruments of Fiscal Policy

In addition to the four components of fiscal policy that have been previously discussed, Reader also needs to know the existing instruments of fiscal policy.

The instrument of this fiscal policy can help the government to achieve the objectives of implementing fiscal policy.

1. Balanced Budget

A balanced spending budget is a budget that has been adjusted to circumstances and economic conditions.

This budget aims for the long term, so that the state budget becomes balanced and creates economic stability.

2. Automatic Budget Stability

This second instrument is an emphasis on government expenditure made by the government must be useful and have a relative cost of the activity program being carried out.

3. Budget Management

This third instrument is the relationship between spending by the government and direct tax revenues that is used to minimize economic instability by adjusting the budget.

4. Functional Financing

The fourth and final fiscal policy instrument is financing which refers to government spending that has been regulated in order to achieve the goal of avoiding a direct impact on the country’s national income.

The main objective of a functional financing instrument is to increase employment opportunities for the people living within it.

K. The Role of Fiscal Policy Implemented by a State’s Government

The fiscal policy implemented by a country has several roles that need to be fulfilled or achieved when the policy is enacted.

  1. Can reduce the inflation rate, in accordance with the objectives of fiscal policy, the policy has a role in reducing the inflation rate in a country. The reduction in the inflation rate is carried out by delaying or canceling government projects.
  2. Can increase gross domestic product, this second role is achieved by encouraging public production of goods and services.
  3. Can reduce the unemployment rate of the people of the country, this one role is carried out by implementing a country development project.
  4. To increase people’s income, this role is carried out by creating new job vacancies.
  5. Can increase the stability of a country’s economy, this role is carried out by the government by reducing the international impact of cyclical fluctuations.

 

Those are the five roles of fiscal policy that need to be achieved by a government that has implemented  fiscal policy .