CHAPTER 1

1.3 Importance of Public Finance

Public finance is very important for the economic and social progress of
a country. Its role can be explained from different angles, such as
keeping the economy stable, making resources available for everyone
fairly, and providing necessary goods and services for the people. Here
are the main reasons why public finance is important:

1. Provision of Public Goods and Services

Public finance makes sure that important goods and services are
available which private businesses may not provide properly or
fairly. Examples include education, healthcare, roads, bridges,
defense, and law enforcement. These services are very important
for the well-being of people and the growth of the economy.

2. Economic Stability
By using fiscal policies (like taxes, government spending, and
borrowing), public finance helps to keep the economy stable. For
example, the government can fight inflation (when prices rise too
much) or recession (when the economy slows down) by changing its
spending and income. This helps the country maintain steady
economic growth and avoid big ups and downs.

3. Redistribution of Income
Public finance helps reduce income inequality (the gap between
rich and poor). This is done through progressive taxes (where
richer people pay more tax) and welfare programs like
unemployment benefits, pensions, and subsidies. These measures
 help to reduce poverty and give support to weaker groups in
society.
4. Efficient Allocation of Resources

Public finance makes sure that resources (like money and

investment) are used in the best way to meet people’s needs. The
government spends money on sectors that need more support,
such as infrastructure (roads, bridges), and education. This helps
in fixing market failures where private companies may not invest
enough, and it also supports long-term economic growth.

5. Support for Economic Development

Through public finance, the government invests in big projects like

roads, bridges, electricity, and communication networks. It also
invests in human capital by improving education and healthcare.
These investments increase productivity and create a strong
foundation for sustainable economic growth.

6. Public Debt Management

Public finance helps in managing the national debt. By keeping

borrowing under control and making sure debt levels are not too
high, governments can avoid heavy interest payments and prevent
financial crises. Proper debt management also creates a stable
environment for the private sector to grow.

7. Promoting Social Welfare

Public finance provides money for social welfare programs that

improve people’s lives, such as healthcare, housing, education, and
unemployment benefits. These programs reduce inequality and
improve the living standards of the population.
 8. Crisis Management

During emergencies like economic recessions, natural disasters, or

pandemics, public finance plays a key role. Governments use it for
emergency spending, stimulus packages, and relief programs,
which reduce the negative impacts and help the country recover.

9. Public Accountability and Transparency

Managing public money requires transparency and responsibility.

Processes like budgeting, auditing, and reporting ensure that
government funds are used properly and that people can trust
their government.

10. Environmental Sustainability

Public finance also supports the environment. The government can

invest in green projects, renewable energy, and pollution control.
It can also make laws to reduce climate change impacts. This helps
protect the environment for future generations.

👉 In summary: Public finance is very important for using resources

wisely, keeping the economy stable, improving social equality, and
supporting sustainable development. It helps governments provide
services, infrastructure, and welfare to society.

1.4 Meaning and Sources of Public Revenue

● Meaning of Public Revenue:

Public revenue is the money that the government earns from
different sources. This money is used to pay for government
activities such as public services, infrastructure, and welfare
 programs. It is very important for running the government, as it
provides funds for essential services like education, healthcare,
defense, and law enforcement.
Public revenue means the money collected by the government to
run the country and provide services to the people. It mainly
comes from two types of sources:

1. Tax Revenue

● Taxes are the main and most important source of government

income.

● A tax is a compulsory payment made to the government. People

pay taxes without expecting direct benefits in return.

● The government uses tax money to provide common benefits like

healthcare, education, roads, defense, and law enforcement.

👉 Types of Taxes

● Direct Taxes – Paid directly to the government by people or

organizations.
Examples: Income tax, wealth tax, gift tax.

● Indirect Taxes – Collected when people buy goods and services.

Examples: Custom duty, excise duty, VAT, supplementary duty,
service tax.

2. Non-Tax Revenue
Non-tax revenue comes from other sources apart from taxes. The main
sources are:

1. Fees

○ Charged by the government when it provides certain

services.

○ Example: Fees for issuing passports, driving licenses, etc.

○ Unlike taxes, people pay fees only if they use that service.

2. Fines or Penalties

○ Charged as punishment for breaking the law or rules.

○ Example: Traffic fines.

○ Like taxes, these are compulsory but not for direct benefit.

3. Surplus from Public Enterprises

○ The government runs public sector enterprises (like state-

owned businesses).

○ If these enterprises make profits, the government uses that

profit for public spending.

4. Special Assessment or Betterment Levy

○ A special charge on people who directly benefit from a

government project.
 ○ Example: If the government builds a bridge in an area, the
nearby landowners may have to pay a levy because their
property value increases due to the project.

5. Grants and Gifts

○ Gifts: Voluntary contributions from individuals or

organizations. These are especially useful during wars or
emergencies.

○ Grants: Financial help given by one government to another.

○ Foreign Aid: Developing countries (like Bangladesh) often

receive military aid, food aid, technology, etc., from
developed countries.

6. Deficit Financing

○ This happens when government spending is more than its

income.

○ To cover this gap, the government may borrow from

domestic sources, foreign sources, or the central bank (by
printing new currency).

7. Borrowing

○ When revenue is not enough, governments borrow money to

meet expenses.

○ Borrowing can be from domestic lenders, foreign countries,

or international institutions.
 ○ Borrowing can be done in many ways:

■ By issuing bonds

■ By taking loans from international financial

institutions (like the World Bank, IMF)

■ By borrowing from domestic financial markets

9. Money Creation

○ Sometimes, governments may create money through their

central banks to finance expenses.

○ This is used only as a last resort, because creating too much

money can cause inflation (rise in prices).

👉 Summary of Public Revenue

Public revenue comes from a mix of tax sources and non-tax sources.

● The largest part is from taxes (like income tax, VAT, customs
duties).

● But non-tax sources such as fees, fines, profits from state

enterprises, grants, borrowing, and money creation are also very
important.

This revenue enables the government to:

● Provide public goods and services

 ● Maintain economic stability

● Promote social welfare

1.5 Definition of Tax

● The word “tax” comes from the Latin word taxare, meaning “to
assess, evaluate, or estimate.”

○ In Roman times: used for assessing the value of

goods/property for levying charges.

○ Later evolved into Old French (taxer), still meaning “to

impose a charge.”

○ Entered English during the Middle English period (1150–

1500), with the modern meaning: a compulsory charge
imposed by the government on individuals or property to
raise revenue.

👉 In simple words: A tax is a compulsory payment by individuals or

organizations to the government, without expecting any direct
return.

● Constitutional Definition in Bangladesh (Article 152(1)):

Taxation includes any tax, rate, duty, or impost (whether general,
local, or special). Taxes are the main source of revenue for modern
governments.

● Key Points about Tax

 ○ It is compulsory – citizens who are liable must pay.

○ It is non-penal – not a punishment.

○ It is unrequited – taxpayers do not get a direct benefit in

return.

○ It is imposed by the government to raise money for public

purposes.

● Views of Economists
Many economists agree that tax is a compulsory payment
without expecting specific return, such as:

○ Seligman, Adam Smith, Bastable, Taussig, Dalton all defined

tax in this way.

● Definitions

○ Income Tax Act 2023 (Section 2(21)):

“Tax means the income tax payable under the income tax
act and includes any additional tax, excess profit tax,
penalty, super tax, fine, interest, fees, or other charges
payable under this act.”

○ Leroy Beaulieu:
“A tax is purely and simply a contribution, whether direct or
hidden, which the public authorities impose upon the
inhabitants or goods for the purpose of government
expenditure.”
✨ So, in short:
A tax is a compulsory, non-penal payment made to the government,
collected to finance public services, development, and welfare.

● Dalton:
“A tax is a compulsory contribution imposed by a public authority,
not based on the exact amount of service received in return, and
not imposed as a penalty for any legal offense.”

● P. E. Taylor:
“Taxes are compulsory payments to the government without
expecting any direct return or benefit to the taxpayer.”

👉 Conclusion:
From these definitions, it is clear that tax is a compulsory contribution
by people to the government. It is not a penalty, nor a payment for a
specific benefit received.

Characteristics of Tax

The main features/characteristics of a tax are:

1. Imposed by the Government:

○ Only the government has the authority to levy taxes (as per
Article 83 of the Constitution of Bangladesh).

2. Compulsory and Non-Penal:

 ○ Payment of tax is compulsory.

○ It is not a punishment, but refusal to pay tax is a punishable

offense.

3. Involves Sacrifice:

○ People pay taxes by sacrificing a portion of their income or

wealth for the public interest.

4. Purpose is Public Welfare:

○ The main aim of tax collection is to finance government

expenditure and promote the welfare of society.

5. Not Payment for Direct Benefit:

○ Tax is not the price of the services or benefits received from

the government.

○ Citizens benefit indirectly, but not in direct proportion to the

tax paid.

6. Major Source of Revenue:

○ Tax is one of the primary sources of income for the

government.

7. Not a Fine or Penalty:

○ Unlike fines, taxes are not imposed as punishment.

 8. Levied by Law:

○ A tax can only be imposed through proper laws made by the

government.

Characteristics of a Good Tax System

Taxes are very important for the economic development of a country.

Since tax is the main source of government revenue, it provides funds for
different development programs such as infrastructure, education,
healthcare, and social welfare.

👉 A good tax system means a system that:

● Contains mostly fair and efficient taxes

● Follows the canons (principles) of taxation

● Generates enough revenue for the government

● Creates the least possible burden or sacrifice for the people

● Does not discourage production, investment, or economic growth

When the tax system maintains a balance between raising

revenue and minimizing hardship for taxpayers, it can be called
an ideal tax system.

Tax should always follow some basic principles. According to the

principle of least sacrifice, cost, and benefit and above all the ability to
pay, tax should be charged in a fair way.
Taxes must follow the important canons (rules) of taxation:

● Equity (fairness) – everyone should pay according to their ability.

● Convenience – payment should be easy for taxpayers.

● Certainty – the taxpayer should clearly know how much and when
to pay.

● Economy – the cost of collecting tax should be low.

● Productivity – it should give the government enough revenue.

● Elasticity – it should adjust with the needs of the economy.

A good tax system should maximize government revenue. It must have

a balance of both direct and indirect taxes.

To make it effective, the tax authority needs:

● Skilled manpower

● Efficient administration

● Simple laws and rules

Positive Role of Tax System

● The tax system should help in production and distribution without

harming people’s ability or willingness to work, save, and invest.
 ● It should ensure that the country’s resources are used properly
(economic neutrality).

Features of a Good Tax System

● It should collect the maximum amount of tax at the lowest cost.

● It must leave no chance for tax evasion (illegal non-payment).

● It should follow the principle of maximum social advantage –

meaning taxes should benefit society as a whole, not just the
government.

● The idea of least aggregate sacrifice means the total burden of

taxes should be shared fairly among people. This is not done by
one single tax but by the entire tax system working together.

Tax Burden and Its Allocation Approaches

Tax burden means the amount of tax paid by a person, company,

or even a whole country during a specific period. It is usually
measured as a proportion of income in that period.

For example:

● For a person → it is the tax paid compared to their income.

● For a country → it is the total tax payments in a fiscal year

divided by Gross National Product (GNP) or national income,
which is often called the tax ratio.
To decide how the tax burden should be shared, economists use different
approaches. One of the popular approaches is explained below:

1. The Expediency Approach (Super Simple Explanation)

● This approach says that before creating any tax, the government
must check:
👉 Can the tax really be collected in practice?

● The main focus here is only on practicality and efficiency (easy to

collect, not too costly).

● Things like fairness, equality, or social goals are not considered

important under this approach.

💡 In short: “A tax is only good if it can actually be collected.”

But in real life, it’s not that easy:

● Different groups (economic, social, political) push for their own

interests.

● Because of this, the government often has to change or adjust the

tax system.

● Sometimes the tax administration is weak, so even if the tax law

exists, it is not collected properly or the collection cost becomes
too high.

Why it still matters:

Even with these challenges, taxation is a very powerful tool for the
government.
If used correctly, it can help solve big problems in society, like:

● Income inequality – rich vs poor gap

● Regional imbalance – some areas richer, some poorer

● Unemployment – creating jobs

● Business cycle problems – like inflation, recession, or slowdown in

the economy

👉 So, the Expediency Approach is all about asking:

“Is this tax practical and workable?” If yes, then it should be used, even
if it ignores fairness or social goals.

1. Socio-Political Approach (by Adolph Wagner)

● Main idea: Taxes should not just be about money; they should help
society as a whole.

● Focus: Social and political goals.

● Wagner believed:

○ We shouldn’t look at taxes only from an individual’s

perspective.

○ Taxes should be used to solve big social problems (like

inequality).
 ○ The state has the right to control property and inheritance
in the interest of society, because property rights are given
by the state, not by nature or God.

● Example: If rich people inherit a lot of money, the government

should tax inheritance to reduce inequality and use it for welfare
programs.

● Today: Many modern governments (welfare states) follow this idea

— taxes fund education, healthcare, poverty reduction, etc.

👉 Summary: Taxes are a tool for fairness and welfare, not just for
raising money.

2. Benefits Received Approach

● Main idea: Taxes are like a payment for services.

● Focus: Exchange relationship between citizens and the state.

● People should pay taxes in proportion to the benefits they get

from government services.

● Example:

○ If someone uses public roads more, they should pay more

road tax.

○ If someone benefits from government defense, they pay for

that benefit.
 ● Weakness:

○ Ignore income equality or poverty reduction.

○ Rich and poor pay based only on use, not on ability.

● Result: Good for simple services but not useful for modern goals
like economic growth or reducing inequality.

👉 Summary: Taxes are like quid pro quo (give and take): “I pay because
I get benefits.”

3. Cost-of-Service Approach

● Main idea: Very similar to Benefits Received, but stricter.

● Focus: State works like a business — citizens must pay the exact
cost of services they use.

● Key Points:

○ No free benefits — if the state provides something, you must

pay for it fully.

○ The government should recover all costs and keep a

balanced budget (no deficit).

○ The state should not bother about income distribution (rich

vs poor).

● Example:
 ○ If the government runs a hospital, only those who use it must
pay for it.

○ If you don’t use it, you don’t pay.

● Weakness:

○ Ignores welfare and protection for the poor.

○ Can increase inequality.

👉 Summary: Taxes = price of services used. No charity, no welfare, just

cost recovery.

4. Ability-to-Pay Approach

● Main idea: Taxes are compulsory payments, not payments for

benefits.

● Focus: People should pay according to their ability (how much

they can afford).

● Principle: The richer you are, the more you should contribute.

● Reason: This is fair and just because society works better if the tax
burden is shared based on wealth/income.

● Supporters:

○ Socialists: Because it matches equality and justice.

○ Non-socialists too: Because it is practical and fair.

 ● Example:

○ A millionaire should pay much more tax than a low-income

worker, even if both use the same road or hospital.

● Result: Basis of progressive taxation (higher income → higher tax

rate).

👉 Summary: Taxes are based on capacity to pay, not on benefits

received.

🚦 Super-Simple Comparison

Approach Key Idea Who Pays & Weakness

Why

Socio- Taxes used for Richer people May reduce

Political social welfare & pay more for private property
(Wagner) reducing inequality welfare rights
programs

Benefits Taxes = payment Pay according Ignores

Received for government to benefits fairness/inequality
services received

Cost-of- Pay exact cost of No free Harsh, no welfare,

Service services used services, full ignores poor
cost recovery

Ability-to- Pay based on Rich pay more, Rich may resist,

Pay capacity poor pay less hard to measure
(income/wealth) ability
✨ In short:

● Socio-Political: Taxes = tool for fairness & welfare.

● Benefits Received: Taxes = payment for benefits.

● Cost-of-Service: Taxes = exact cost of services, no welfare.

● Ability-to-Pay: Taxes = based on wealth/income, rich contribute

more.