PUBLIC FINANCE

Public finance refers to the activities carried out by the government associated with
raising of finances and the spending of the finances raised (it is the study of how
government collects revenue and how it spends it)

The components of public finance are;

 Public revenue

 Public expenditure

 Public debt

 Public revenue-refers to the revenues (income) and resources

received by the government from different sources.

 Public expenditure-refers to the resources spent by the government.

 Public debt-refers to the money and resources borrowed by the

government.

Purpose of public finance

 Provision of essential goods and services. The government has a responsibility

of providing its citizens with essential goods and services such as
security,health,schools,drought control, law e.t.c such facilities and services may
not be adequately covered by the private sector because of the high costs involved
and risks.

 Encouraging consumption of certain commodities-The government may

encourage consumption of certain commodities e.g. maize by subsidizing on their
productions or lowering their taxes.

 Controlling consumption of certain commodities-The government may also

encourage consumption of some commodities e.g. cigarettes and alcohol by
imposing heavy taxes on them.

 Promotion of Balanced regional development-This may be done by initiating

economic projects in areas that are under developed/lagging behind.

 Wealth Redistribution-This is done by heavily taxing the rich and using the
money raised to provide goods and services that benefit the poor

 To promote economic stability-Economic instability may be caused by factors

such as unemployment. Such problems can be solved through public expenditure in
projects that generate employment such as ‘kazi kwa vijana’

 Creation of a conducive Business Environment-Through public expenditure,

the government may develop infrastructure such as roads, electricity, security e.t.c
thereby creating a conducive environment for businesses to thrive in.

 To raise government revenue-Through public finance, the government raises

revenue which it uses in provision of essential goods and services to the public.
  Improving balance of payment-This may be done by improving heavy taxes
such as customs duty to discourage importation.

Sources of public finance

Tax; This is a compulsory payment levied by the government on individuals and firms
without any direct benefit to the payer.

 Fines and penalties-These are the charges imposed on individuals, firms and
corporations who break the laws of the country.(offenders)

 Fees; These are the payments charged by the government for the direct services it
renders to its people e.g. road licence fee, marriage certificate fee and import licence
fee.

 Rent and rates; Charged on use of government properties e.g. game parks, forests
e.t.c

 Eschiats; Income obtained from properties of persons who die without legal heirs or
proper wills. Such people’s properties are taken over by the state.

 Dividends and profits; These are the income received from the government direct
investments e.g. income/surplus from public corporations.

 Interest from loans-This is the interest on loans advanced by the government to

firms and individuals through its agencies such as ICDc, AFC e.t.c

 Proceeds from scale of government property.

 Public debt (Government borrowing)-This is the money that the government

borrows when public revenue is insufficient to meet all its financial obligations.

Government borrowing is also referred to as national debt. It includes all

outstanding borrowing by the central government, local authorities and government
corporations.

These are two majorly two sources of public debts;

 Internal borrowing

 External borrowing

Internal borrowing

This refers to borrowing by government from firms and individuals within the country. This
may be done through;

Open market operation; the government sells its securities such as treasury bonds and
treasury bills. This however has a disadvantage of causing ‘crowding out effect’ where the
government leaves the private investors with little to borrow from.

External borrowing
This refers to government borrowing from external sources. It may either be on a bilateral
or multilateral basis.

Bilateral borrowing is where the government borrows directly from another country.

Multilateral borrowing is where the government borrows from international financial

institutions such as international monetary fund (IMF), World Bank, African Development
bank [Link] bodies get finances from various sources which they lend to their member
countries who are in need of such funds.

Generally, external borrowing has strings attached. The borrowing country is expected to
meet some set conditions, sometimes adversely affecting some sectors of the economy.
The total internal borrowing (internal debt) added to the total external borrowing (external
debt) constitutes the national debt.

Classes of public (National debt)

These are two classes of national debt;

 Reproductive debt

 Dead-weight debt.

(i) Reproductive debt

This is borrowed money used to finance project(s) that can generate revenue. Such
projects, once started may become self sustaining and may contribute towards
servicing/repaying the debt. E.g. money used to finance irrigation schemes, electricity
production e.t.c.

ii. dead-weight debt

This is borrowed money that is used to finance activities that do not generate any
revenue. Examples are money used to finance recurrent expenditure e.g. payment of
salaries or for famine relief e.t.c

Dead-weight debt is a burden to members of the public since they are the ones who are
expected to contribute towards its repayment.

Factors to consider before the government decides whether to borrow internally

or externally

This refers to how the government spends the finances it has raised on behalf of its
citizens.

Categories of government expenditure

 Recurrent expenditure

 Development expenditure

 Transfer payments.

Recurrent expenditure
This refers to government spending that takes place regularly e.g. payments of salaries to
civil servants, fuelling of government vehicles e.g.

Every financial year, the government must allocate funds to meet such expenditure.

Recurrent expenditure is also known as consumption expenditure.

Development expenditure

This is also referred to as capital expenditure .It is government spending on projects that
facilitate economic development. Such projects includes construction of railway lines,
roads, airports, rural electrification e.t.c

Once completed expenditure on such projects ceases and may only require maintenance.

Transfer payments

This is expenditure on things/people who do not directly contribute to a country’s national

income. Such expenditure include money spent on famine relief, pension, bursaries e.t.c

PRINCIPLES OF PUBLIC/GOVERNMENT EXPENDITURE

These are the considerations that are necessary before any expenditure can be incurred
by the government.

They include;

 Sanctions; Every public expenditure must be approved by the relevant authority like
parliament.

 Maximum social benefit; Any public expenditure must be incurred in such a way
that majority of the citizens are able to reap maximum benefit from it e.g. improved
living standards and quality of life.

 Flexibility /elasticity-The policy on public expenditure should be flexible enough to

meet prevailing economic situations i.e. it should be possible to increase or decrease
the expenditure on projects depending on the prevailing circumstances e.g. during
drought, it should be possible to spend on famine relief.

 Economy-public expenditure should be planned carefully and prudently to avoid any

possible waste.

 Proper financial management (Accountability)-public funds should be well

managed. This should be facilitated by maintenance of proper records which should be
audited as required.

 Productivity-The biggest proportion of public expenditure should be spent on

development projects and less on non-development projects.

 Equity-Government expenditure should be distributed equitably to all sectors of the

economy in order to reduce income and wealth inequalities.

 Surplus-Surplus revenue collected should be saved for emergencies or for when

collection of revenue is below projections.
TAXATION

Tax; is a compulsory payment by either individuals or organizations to the government

without any direct benefit to the payer.

Taxation- refers to the process through which the government raises revenue by
collecting taxes.

Purposes/reasons for taxation

 Raising revenue for government expenditure. This is the main reason for taxation.

 Discouraging /controlling consumption of certain commodities e.g. alcohol and

cigarattes which are considered to be harmful.

 Discouraging importation of certain commodities in order to protect local industries.

This is done by imposing heavy taxes on such commodities.

 Controlling inflation. Taxation reduces money supply by reducing peoples ‘disposable’

income thereby controlling inflation.

 Reducing inequality in income distribution; this is done by taxing the rich heavily and
using the finances raised in provision of goods and services that benefit the poor.

 Influencing locations of businesses. This is done by taxing businesses located in urban

areas heavily and those in rural areas lightly hence businesses moving to rural areas.

 Correcting unfavorable balance of payments. High taxes are imposed on imported

commodities thereby discouraging their importation leading to an improvement in the
balance of payments.

 To protect the key selectors of the economy such as the agricultural sector, by
stimulating their growth.

Factors that determine the amount of money raised through taxation

 Distribution of incomes

 Social and political factors

 Honesty and efficiency of tax authorities

 Citizens level of real income

 Economic structure of the country i.e. relative size of the country’s commercial and
subsistence sectors.

Principles of taxation

These are the characteristics that a good tax system should have. They are also referred
to as the cannons of taxation.
 A good tax system should be;

 Equitable/principle of equity- Every subject of the state should pay tax in proportion
to their income. A tax system should therefore have horizontal and vertical equity.

Horizontal equity means that those at the same level of income and circumstances should
pay the same amount of tax.

Vertical equity means that those earning higher incomes should pay proportionately
higher amounts of tax than those earning less.

 Certain/principle of certainty-The tax that an individual should pay should be clear

in terms of the amount, time and manner in which it should be paid. The government
should also be fairly certain of the amount of tax expected so that planning can be
easier.

 Convenient/principle of convenience-Tax levied ought to be convenient to both the

contributor and collector, it should be levied at a time when the payer has money and
mode of payment should be convenient to both the payer and the payee.

 Economical/principle of economy-The cost of collecting and administering the tax

should be lower than the tax so collected.

 Flexible/principle of flexibility-It should be readily adaptable to changing economic

times i.e. when the economic conditions of the people improve it should give raised
revenue e.g. VAT

 Ability to pay/non-oppressive-A tax system should be designed in a way that the

amount charged is not too high to the extent that the contributors are unable to pay or
is discouraged from working hard.

 Diversified/principle of diversity-There should be different types of taxes so that

the tax burden is on different groups in the society. This also ensures that the
government has money at all times.

 Simplicity-A good tax system should be simple enough to be understood by each tax
payer. This will motivate them to pay tax.

 Elastic/principle of elasticity-The tax system should be able to generate more

revenue for the government by targeting items of mass consumption.

IMPACT AND INCIDENCE OF TAX

Impact of tax; The burden of tax on the initial person

Incidence of tax; The final resting place of the tax burden.

The person on whom tax is initially imposed may either bear the whole burden or pass
part or the whole burden to someone else. E.g. for manufactured goods, the impact of the
tax is on the manufacturer and the manufacturer may pass the incidence of the tax to the
consumer.

If the manufacturer only passes part of the burden to the consumer, then the incidence of
the tax wil be partly on the manufacturer and partly on the consumer.
CLASSIFICATION OF TAXES

Taxes are classified according to;

 Structure of the tax

 Impact of the tax on the tax payer.

According to the structure

In this case, taxes are classified according to the relationship between the amount paid on
tax and the income of the tax payer. These are:

Progressive tax

Regressive tax

Proportional tax

 Progressive tax

This is a type of tax where the rate/amount paid increases proportionately with increase in
income.e.g tax may be as follows

Income Rate

0-5000 20%

5001-10000 25%

10001-15000 30% e.t.c

-In progressive tax, those with higher income rates remit a higher
proportion of their income as tax compared to those in lower income
brackets.

This type of tax is based on the belief that one only needs a certain
amount in order to have a decent standard of living.

Advantages of progressive tax

 It reduces income inequality as the rich are taxed more

 It encourages people to work harder/more in order to maintain their

standard of living

 The revenue collected is higher

 The unit cost of collecting tax reduces as the tax increases.

 Disadvantages of progressive tax

 It is oppressive-some people are taxed more than the others and punishes people for
their hard work.
 It may discourage people from working more as any additional income goes tax

 Investors may be discouraged from venturing into risky but more profitable businesses
as these would attract more tax

 It assumes that people earning the same amount of money/income have similar needs
and ability to pay tax-which in reality may not be true.

 It can lead to tax evasion by taxpayers falsifying their level of income.

Regressive tax

This is a type of tax that takes a higher proportion of low income earners as compared to
high income earners. The fax burden falls more heavily on the poor (opposite of
progressive)

Example: sales tax where people pay the same amount irrespective of the level of income.

The assumption is based on the understanding that the one who deems it necessary to
buy a certain products considers the utility derived from it to be equal to its price, which
includes tax.

 Proportional Tax

This is a type of tax where the rate of tax remains the same irrespective of the level of
income or value of property to be taxed e.g. if the rate is 20% then a person who earns
ksh.5000 will pay 20/100 x5000=ksh.1000

Ksh.10, 000 will pay 20/100x10,000=ksh.2000 e.t.c

Example: corporation tax where companies are expected to pay a fixed proportion
of their profits as tax.

 Digressive tax

This is a type of tax where the tax rate increases up to a given maximum after which a
uniform tax rate is levied for any further income.

Classification according to impact on the tax-payee

Based on the impact, the tax has on the tax payer; tax may be classified as either;

 Direct tax

 Indirect tax

 Direct tax

These are taxes where the impact and the incidence of the tax are on the same person. It
is not possible to shift/pass any part of the tax burden to anybody else.

This type of tax is based on incomes, profits and property of individuals as well as
companies.

They include:
 Personal income tax

This is a tax that is imposed on incomes of individuals and is usually progressive in nature.

Example pay-As You-Earn (PAYE) for salaries.

In most cases it is paid through check-off system where the employer deducts it from the
employee’s salary and remits it to the tax authorities.

 Corporation tax

This is tax levied on profits of companies. It is usually proportional in nature.

 Stamps duty

This is tax paid in areas such as conveyance of land or securities from one
person to another.

 Estate (death) duty

This type of tax is imposed on property transferred after the owners’ death. The tax helps
in raising government revenue and also in redistributing income since the inheritor has not
worked for it.

 Wealth tax

This is tax levied on personal wealth beyond a certain limit.

 Capital gains tax

This is tax levied on gains realized when a fixed asset is sold at a price higher than the
book value.

 Capital transfer (gifts) Tax

This is tax imposed on the value of property transferred from one person to another as a
gift. The tax is designed to seal loopholes whereby a wealthy person may try to avoid tax
by transferring his/her property to a friend or a relative as a gift.

This type of tax is progressive in nature. It however does not affect transfers between
spouses or to charitable organizations.

Merits/advantages of direct taxes

 Economical in collection; most of direct taxes are collect at source and the cost of
collecting them is fairly low.

 Tax revenue is certain; the tax payer knows what and when to pay and the
government knows how much tax revenue to expect at what time (can be collected
from the annual tax returns in advance)

 Equitable /equity; they facilitate fair distribution in tax contribution as people pay
according to the size of their income.
 Simplicity /simple to understand; they are easy and simple to understand by both
the tax payer and the collector.

 Does not affect the price of goods and services; direct tax does not cause
inflation as it only affects consumer’s disposable incomes and not the prices of goods
and services.

 Brings redistribution of wealth; direct taxes are progressive in nature hence the
wealthier members of the society are taxed more than the poorer members of the
society.

 Civic consciousness; tax payers feed the pinch of paying tax and thus take a keen
interest in government expenditure.

 No leakages; loss of collected revenue is minimized as the tax is paid directly to the
tax authorities and not through middle men.

 Desirable; the tax is desirable because it only affects people who fall within the
jurisdiction of income tax and corporation tax.

 Elastic/flexible; the tax is flexible in that it can be expanded to cover as many areas
as desirable. It can also be raised or reduced according to the needs of the economy.

DEMERITS OF DIRECT TAX

 Encourage avoidance and evasion; whenever possible people come up with ways
of reducing the amount of tax payable by falsifying information or just ignoring
payment.

 Discriminatory /not imposed on all citizens; direct taxes are not paid by all
citizens as low income earners who do not fall within the tax brackets are exempted

 Discourage investment/deterrent to investment; Heavy taxation on profits

discourage people from investing in risky but profitable businesses

 Discourage work/deterrent to work; High rate of direct tax may deter people from
working harder as people may opt for leasure instead of working extra time.

 Encourage capital flight; high taxes such as corporate tax make foreigners to
withdraw their investments and transfer them to countries with lower taxes.

 Unpopularity; the burden of the tax (incidence and impact) of tax is borne by the tax
payer directly and at once. This makes direct taxes very unpopular.

 May inconvenience the tax payer; the tax payer has to comply with complicated
formalities relating to sources of income as well as the expenses incurred while
generating it. This may force the tax-payer to engage the services of tax experts who
have to be paid.
 Lack of civic awareness; on tax payers are not interested in scrutinizing government
expenditure as they do not feel the pinch of paying tax.

 Indirect tax

These are taxes in which the impact is on one person and the incidence is partially or
wholly on another person. The tax payer may shift either the whole or part of the tax
burden to another person.

Such taxes are usually based on the expenditure on goods and services and include the
following:

 Sales tax: this is based on the sales made and may be assessed either as a
percentage of the sales or a fixed amount e.g. sh.2 per every kilograms sold. The tax
may be collected at one point or various points of sale. In Kenya, sales tax has been
replaced by V.A.T

 VALUE ADDED TAX (V.A.T): this is the tax that is levied on the value that a business
adds borne by the consumer in the final price.

 Export duty: this is a type of tax that is levied on exports. The objective may either to
raise revenue or discourage the exploitation of some commodities.

 Import duty: This is tax levied on imported products, For the following reasons.

 Raising government revenue

 Reducing incidences of dumping

 Discouraging consumption of imported goods with a view of boosting local

production

 Protecting local industries

Excise duty: This is a type of tax that is imposed on goods that are manufactured and
sold within a country.

Its purpose includes;

Raising revenue for the government

Discouraging the consumption of some commodities such as beer and cigarettes.

MERITS OF INDIRECT TAX

 Can be used selectively; It can be used selectively to achieve a given objective e.g.
consumption of some commodities.

 Tax payment is voluntary; indirect tax is only paid by those who consume the tax
commodities therefore those who do not want to pay the tax would only need to
avoid taxed commodities.

 Difficult to evade; the tax cannot be evaded because it is part of the price of the
commodity. All those who buy the commodity taxed must therefore pay the tax.
 Wide coverage/broad based; the tax is levied on a wide range of essential
commodities thus a high amount of revenue is collected.

 Stimulate effort; indirect taxes if increased increases the prices of goods and
services. People who want to maintain the same living standards will therefore have
to work harder to be able to buy/affect the same goods and services.

 Convenient; the tax is paid in bits as one buys the goods and services. The tax is
also hidden in the price of the commodity and the payer may not be aware of it.

 Flexible; flexible; the government can raise or reduce the tax rate to suit the
prevailing economic situation in a country.

DEMERITS OF INDIRECT TAXES

 May fuel inflation; continued increase in indirect taxes may fuel inflation as it directly
increases the prices of goods and services.

 Less equitable/regressive; the same amount is charged on both the high and the low
income earners making the tax burden to fall heavily on the low income earners. The
low income earners end up paying a larger proportion of their income as tax.

 Can be avoided; indirect taxes can be avoided by people who do not consume the
taxed commodity.

 Encourages falsification of records; traders may falsify their rewards in order to pay
less tax.

 Lack of civic/contributors awareness; the tax is hidden in the price of the commodities
therefore the tax payers are not aware that they are contributing anything to the state.

 Expensive to administer/expensive in collection; the government must employ many

tax inspectors making indirect taxes expensive in collection and administration.

 Uncertainty in revenue collection; the government may not predict the amount of
revenue yield as it is not easy to forecast sales and people can also not be forced to
buy the taxed commodities.

 Might interfere with resource allocation; indirect taxes increases the prices of
commodities and can therefore force consumers and producers to shift to the
consumption and production of commodities that are not taxed.

 Discourages savings; increased expenditure due to increased prices will lead to low
saving and hence low investments.
INFLATION
Introduction
Inflation refers to an economic situation where the demand for goods and
services in the economy is continuously increasing without corresponding
increase in supply which pushes the general prices up.
The opposite of inflation is called deflation.
Inflation is measured by considering the Consumer Price Index (C.P.I) which
involves comparison of prices of certain goods and services for two different
periods.
In constructing the C.P.I;
 A basket of commodities is selected which includes selecting the
generally consumed commodities by average consumers.
 Choosing the base period which should be a period when the prices
were fairly stable.
 The price of commodities both in the current period (P 1) and base
period (P2)
Consumer Price Index (C.P.I)= × 100
Types and causes of inflation
Inflation is classified in relation to its causes.
Demand pull inflation
This is a type of inflation caused by excessive demand for goods and services
without a corresponding increase in production resulting into rise in prices.
Causes of demand pull inflation
 Increase in population.;Increased number of people in a family calls for
increased demand of goods and services thus fueling demand-pull inflation.
 Increase in government expenditure;The government expenditure has
the effect of making money available to people thus increasing the aggregate
demand for goods and services.
 A fall in the level of savings; This increases the consumer expenditure on
goods and services which brings pressure on the available goods and services
thereby pulling up prices.
 Effects of credit creation by the commercial banks; When banks lend
more money to the public, their purchasing power increases hence increasing
demand which in turn leads to increase in the prices.
 Consumers’ expectation of future price increases; When consumers
expect the prices of goods and services to increase in the future, they will buy
more in the present thus increasing the demand thus fueling demand-pull
inflation.
 General shortages of goods and services; Any shortage in goods caused
by factors such as; adverse climatic conditions, hoarding, smuggling,
withdrawal of firms from the industry and decline in level of technology calls
for scramble for the available goods thus increasing their demand and prices.

\ Cost push inflation

This is a type of inflation caused by increase in cost of factors of production
which translates to increased prices of goods and services.
Causes of cost push inflation.
 Increase in wages and salaries; An increase in the wages and salaries
may increase the cost of labour. The increased cost of labour may be
reflected in the increased prices of commodities which in turn would cause
wage push inflation.
 Increase in cost of raw materials and other inputs; This increases the
cost of production thus increased prices.
 Increase in indirect taxes; This increases the cost of production and this
causes firms to raise the prices of their product.
 Increase in profit margin; If the business decides to raise its profit, it leads to
an increase in the price of the commodities resulting to profit push
inflation.
 Reduction in subsidies; removal of a subsidy implies that the producer
would produce at a higher cost that was being met by the subsidy. This
increase cost is finally reflected in increased prices.

Imported inflation
This is a type of inflation which is caused by importation of high priced inputs of
production such as; technology/machines, skilled human resources
and crude oil.
This in turn increases the prices of locally produced goods which may lead to
inflation.
Causes of imported inflation
 Importation of expensive technology especially highly skilled labour.
 Importation of expensive machines and equipment.
 Importation of high priced oil.
 The currency depreciating thus increasing the price of the country's
imports.

LEVELS OF INFLATION
 Mild / Creeping/Moderate Inflation
This a slow rise in price level of not more than 5 % per annum. It is associated
with some beneficial effects on an economy especially to firms and debtors.
 Galloping /Rapid Inflation
This is a very rapid accelerating inflation characterized by a situation whereby
the general prices levels increase rapidly.
 Stagflation;
This is an economic condition in which unemployment is high, the economy is
stagnant, but prices are rising.
 Hyper /Runway Inflation;
This is when prices are rising at double or triple digit rates of 20%, 100%, 200%.
The price levels are extremely high and under this situation people may lose
confidence in the money as a medium of exchange and as a store of value.

EFFECTS OF INFLATION IN AN ECONOMY

positive effects of inflation
 Mild inflation motivates people to work hard as they try to cope with the
effects of the inflation in order to maintain their standards of living.
 Mild inflation encourages proper utilization of resources with an attempt of
avoiding wastage as much as possible.
 Mild inflation increases investment especially in trading activities since sellers
buy goods when prices are low and sell later when prices are higher.
 It promotes creativity in an economy in terms of production in order to
survive the effects of inflation.
 It benefits debtors since they obtain goods on credit and pay for them in
future at the old low prices.

Negative effects
 It leads to reduction in profits as sales volumes reduce since inflation reduces
the purchasing power of consumers resulting to low sales.
  It wastes time as a lot of time is wasted in shopping around for reasonable
prices and also firms may waste a lot of time adjusting their price lists to
reflect new prices.
 It leads to conflicts between employers and employees as firms are
pressurized by employees and trade unions to raise wages and salaries to
cope with inflation.
 It leads to loss by creditors as they lend money when the value of money is
high but at the time of payment is low since the value of money will have
been eroded by inflation.
 It leads to decline in standards of living as consumers’ purchasing power
decrease and therefore one can not lead the lifestyle he/she used to live
before.
 Leads to unemployment.
 Discourages savings and investment since during inflation people tend to
spend most of their earnings leaving little or nothing to save.
 Leads to retardation of economic growth.
 Worsens balance of payments position.

CONTROL OF INFLATION
The govt. may adopt the following policies depending on their situation to reduce
inflation to manageable levels. They include;
 Monetary policy
This is a deliberate move by the govt. through the central bank to regulate and
control the money supply in the economy which may lead to demand pull
inflation. The policies include;
 Increase rate of interest of lending to the commercial banks. This forces them to
increase the rate at which they are lending to their customers, to reduce the
number of customers borrowing money, reducing the amount of money being
added to the economy
 Selling of govt. securities in an open market operation (O.M.O). the
selling of securities such as Bonds and Treasury bills mops money from the
economy, reducing the amount of money being held by individuals
 Increasing the commercial banks cash/liquidity ratio. This reduces their
ability to lend and release more money into the economy, reducing their
customer’s purchasing power
 Increasing the compulsory deposits by the commercial banks with the
central banks. This reduces their lending power to their customers, which
makes their customers to receive only little amount from them, reducing the
amount of money in the economy
 Putting in place the selective credit control measures. The central bank
may instruct the commercial bank to only lend money to a given sector of the
economy which needs it most, to reduce the amount of money reaching the
economy
 Directives from the central banks to the commercial banks to increase
their interest on the money being borrowed, to reduce their lending rates
 Request by the central bank to the commercial banks (the moral persuasion)
to exercise control on their lending rates to help them curb inflation.

FISCAL POLICY
These are the measures taken by the govt. to influence the level of demand in
the economy especially through taxation process controlling government
expenditure. They include;
 Reducing govt. spending. This reduces the amount of money reaching the
consumers, which is likely to increase their purchasing powers, leading to
inflation
 Increasing income taxes. This reduces the level of the consumers disposable
income and lowering their spending levels, reducing the inflation
 Reducing taxes on production. This reduces the cost of production, lowering the
prices of goods reaching the market
 Subsidizing the production. This reduces the cost of production in the economy,
which in turn passes over the benefits to the consumers inform of reduced
prices.
 Producing commodities that are in short supply. This increases their availability
to meet their existing demand in the market, controlling demand pull inflation

 Statutory measures
These are laws made by the govt. to help in controlling the inflation. They
include;
 Controlling wages and salaries. This reduces the pressure put on the employers
to meet high cost of labour for their production which in turn is just likely to lead
to cost push inflation. It also minimizes the amount reaching the consumers as
their income, to control their purchasing power and the level of demand,
controlling the demand pull inflation
 Price controls. This reduces the manufactures ability to fix their prices beyond a
given level which may cause inflation due to their desire to receive high profits.

 Restricting imports. This reduces the chances of high prices of imported goods
impacting on the prices of the goods in the country (imported inflation) and
making the manufactures to look for alternative source of raw materials for their
production

 Restricting the terms of hire purchase and credit terms of sales. This reduces the
level of demand for those particular commodities in the economy which if not
controlled may lead to demand pull inflation

 Controlling exports. This ensures that the goods available in the local market are
adequate for their normal demand. Shortage of supply of goods in the market is
likely to bring about the demand pull inflation.