Introduction to Public Finance

        Introduction to Public Finance: 

Before we begin with the public finance, we would like to point out the major functions of  a modern government: 

(a) Improving economic efficiency 

(b) Making the distribution of income less unequal 

(c) Stabilising the economy through macro-economic policies 

(d) Representing the country internationally  

It is duty of the government to bring economic and social justice in the country. And this  can only be done by properly utilising the funds raised through taxes and other sources  of public finance.  The famous American Economist J.M. Keynes has revolutionised and changed the meaning of public finance. According to Keynes, public finance should be used as an  instrument for achievement of certain economic and social objectives. Before Keynes,  the concept of public finance was to raise sufficient revenues for meeting public expenditure. In other words, before Keynes, public finance was concerned with the  raising of financial resources for the State. But Keynes made a fundamental change in  the nature and scope of public finance. Keynes and his followers emphasised that  public finance is to help in the achievement of certain social and economic objectives and finance some essential economic activities.  Keynes underlines the fact that the taxation and public expenditure policy of the State  vitally affects the level of income and employment in the country. Keynes showed that  during depression, how a government could reduce the depression from the economy  by increasing its public expenditure and raise the level of employment. When the  government increases its investment expenditure on public works, then the level of  income and employment in the country increases more than the ratio of increase in  initial investment. This is Keynes' Income Multiplier. Generally, the level of full employment in the economy is impossible. This is so because whenever there is lack of effective demand, the production remains unsold  which ultimately leads the entrepreneur to loss. Thus investor will reduce the level of  investment resulting more unemployment and a situation of depression in the economy.  In depression, the purpose of budgetary policy is to provide investment opportunities  and increase employment level in the economy. The government should increase  public expenditure during depression more than the public revenue. The deficit can be  covered by deficit financing, i.e., by creating money. The result of deficit financing is that the purchasing power with the people increases and aggregate demand for goods. and services increases. Owing to increase in aggregate demand and the operation of  multiplier, the depression will tend to disappear and the economy will move towards full  employment.  On the contrary, whenever, there is a higher effective demand and when the money  supply is increased, there will be a generation of inflation in the economy. In such a  situation, the purpose of fiscal policy to reduce money supply in the economy so as to  reduce the inflationary pressure and so people can save more and consume less.  When there is inflation in the economy and the prices are soaring higher and higher, the  government should levy heavy taxes and in this way withdraw purchasing power from  the people and should also reduce its own expenditure. The demand having been  reduced in this way, prices would tend to come down. It is clear that to fight inflation,  the government should frame a 'surplus budget'. A surplus budget means that the  government should collect more money from the public by imposing more taxes but  keep its expenditure less than the revenue raised. The result will be that less  purchasing power will be left with the people and the aggregate demand for goods will  be reduced. Consequently, the prices will have a tendency to fall.  The above situation is mostly existed in economically advanced and rich countries. The  less developed countries, like Pakistan, Bangladesh, India, China, Myanmar, etc. are  caught up in the vicious circle of poverty and their main problem is to break this circle  and move towards economic development so that poverty is removed and the living  standard of the people is raised. The objectives of public finance in less developed  countries are to give a fill up to capital formation, encourage industrialisation, encourage  productive investment, and foster economic growth. Thus the objectives of public  finance in less developed countries are different from those in the developed countries. Whereas in developed countries, the function of public finance is to accelerate economic growth so that the widespread unemployment and poverty prevailing in the country are removed.