Public Finance
Public finance is a branch of economics that deals with how government generates its revenue and how it
spends it in order to achieve its predetermined macroeconomic objectives. Like individuals who generate
revenue and spend it in other to satisfy their goals, the government also has obligations to meet and it has
to generate income.
Objectives of Public Finance
i. Generation of income.
ii. Macro-economic stability.
iii. Economic growth.
iv. Sound fiscal policy.
v. Promote social welfare service
Meaning of Fiscal Policy
As learnt earlier, public finance deals with how the government generates revenue and how it spends it.
Also, the government has to achieve a certain objective. It is a means by which the government adjusts its
spending levels and tax rates to monitor and influence a nation’s economy. Fiscal policy instruments are
divided into two, namely;
1. Revenue or Income instrument.
2. Expenditure or spending instrument.
Fiscal policies can be expansionary or contractionary.
Contractionary fiscal policy is a form of fiscal policy that involves increasing taxes, decreasing
government expenditures or both in order to fight inflationary pressures.
Expansionary fiscal policy, on the other hand, is when the government expands the money supply in
the economy by increasing its spending/expenditure.
Government Revenue
Revenue is the income generated by the government from all sources during a fiscal year (one year). T he
various sources of government revenue include:
i. Taxation
ii. Licenses & fees
iii. Fines
iv. Printing of currency
v. Royalties
vi. Grants from international organization
vii. Loans from foreign banks
It should be noted that the only certain source of government revenue is taxation. Therefore, we will be
focusing on taxation.
Types of Government Revenue
I. Capital revenue/irregular revenue: These are sources of government revenue that are not regular in
nature are not certain to be received every year e.g income from fine, licenses, etc. It should be
noted that if no one is fined the government will earn zero revenue from this source.
II. Recurrent/regular revenue: These are sources of revenue that are certain to be collected by the
government every year e.g. taxes.
Government Expenditure
Government expenditure is the spending of the government during a period of time usually a year.
Types of Government Expenditure
i. Capital/irregular expenditure: These are spending of government that is incurred once in a while i.e.
not frequent. It is also known as an extraordinary expenditure e.g. construction of roads, the
building of infrastructure, etc.
ii. Recurrent/regular expenditure: These are spending of the government that is incurred by the
government year in year out e.g. payment of salary and maintenance of infrastructure etc.
TAX
A tax is a compulsory levy imposed by the government or its agency on all natural and artificial persons in a
country. Tax is the compulsory levy or amount while taxation is the method or way of imposing the tax.
Characteristic of Tax
i. It is a compulsory levy
ii. It is imposed by the government or its agency.
iii. It is a sacrifice that must be borne by members of the country for the betterment of the country
Types of Taxes
A direct tax is a tax imposed on the income of individuals and companies. The different types of direct tax
are:
i. Personal income tax: This is a tax imposed on the taxable income of an individual
ii. Corporate/ company tax: This is a tax imposed on the net income of the company
iii. Capital gain tax: This is a tax imposed on the profit from the sales of an asset
iv. Property tax: This is a tax imposed on the property of an individual
v. Poll tax: This is a form of tax impose on people within a specific age bracket, irrespective of their
level of income.
vi. Petroleum Profit Tax: It is any form of tax impose on the profit of companies that are into the sales
of petroleum products.
Indirect tax is any type of tax imposed on goods and services bought and sold by individuals in a country.
The various forms of Indirect tax are:
i. Import duty or Tariff: This is a tax imposed on goods that were imported into a country
ii. Export duty: This is a tax imposed on goods that are to be exported out of the country
iii. Excise duty: This is a tax imposed on goods produced locally
iv. Sales tax: This is a tax imposed on the sales of a commodity
v. Purchase tax: This is a tax imposed on the purchase of certain commodities. This is used when
the government want to discourage the consumption of a particular commodity without
banning it outrightly.
vi. Value-added Tax: This a tax imposed on goods and services at the stage of transforming it into a
more usable form
Cannons of a Good Tax System
The cannons or principles of a good tax system was first developed by Adam Smith and they include;
i. Simplicity: A tax system should be structured in a way that should be simple to administer
ii. Certainty: The amount and time of payments should easily determine by the taxpayer and the
tax authority
iii. Flexibility: The system should be structured in a way that it can be quickly adapted to changes
iv. Equality: The tax system should be structured in such a way that each person is not
overburdened with tax payment to the extent of affecting his standard of living
v. Economical: The tax system should be structured in such a way that the money generated from
tax exceeds the cost of administering the tax
System of Taxation
1. Progressive Taxation: This is a type of taxation in which the higher the income a person
earns, the higher his/her tax liability.
2. Regressive Taxation: This is a type of taxation in which the higher the income of a person,
the lower his/her tax liability.
3. Proportional Taxation: It is also known as flat rate tax. This is a type of taxation in which the
tax liability is independent of the income of the individual.
TERMS ASSOCIATED WITH TAX
1. Tax base: This is any item that tax can be imposed on. Examples are income, goods, people etc.
2. Tax rate: This the percentage imposed on the base as tax. It is divided into marginal tax rate and
average tax rate.
3. Tax yield: It is the total amount of money (revenue) generated by the government from tax.
4. Tax holidays: This is the privilege giving to a firm not to pay tax for a giving period of time.
5. Tax exemption: This is when a firm is giving the privilege not to pay tax at all.
6. Tax avoidance: This when a tax payer uses a legal means to reduce his or her tax liability.
7. Tax evasion: This is when a tax payer tries to escape the payment of tax. The act is illegal and
punishable by the law.
8. Tax liability: It is the amount of money a tax payer is expected to pay as tax for a giving period of
time.
9. Tax relief: It is any form of deduction made on the tax liability.
INCIDENCE OF TAX
It can be seen as the point of final impact of a tax payment. While the burden of tax is the immediate
impact of a tax payment. The incidence of a direct tax cannot be shifted and that of an indirect tax be
shifted. There are two types of tax incidence which are:
i. Formal incidence: It deals with the person who is legally responsible for the tax payment.
ii. Effective incidence: It deals with person who bears the economic burden of the tax payment.
The incidence of tax is majorly determined by the elasticity of demand and supply of the commodity. It
can be explain as follows:
i. For good that are elastic, the consumer bears a lesser burden than the producer.
ii. For good that are inelastic, the consumer bears a greater burden than the producers.
iii. For good that are unitary elasticity, the burden is shared equally between the consumers and
the producers.
iv. For goods that are perfectly elastic, the entire burden is borne by the consumers.
v. For goods that are perfectly inelastic, the entire burden is borne by the producers.
ASSIGNMENT
State three positive effects of tax and three negative effect of tax on the economy.
