MBF707: Monetary and Fiscal Framework in Islamic Finance

1. MBF707: Monetary and Fiscal Framework in Islamic Finance COMSATS Institute of Information Technology (Virtual Campus)

2. Lecture 19 FISCAL POLICY: ISLAMIC VERSUS CONVENTIONAL

3. Review of the Last Lecture

4. Topics Covered • Introduction • Elements of FP • Constraints • Three Sector Model • Allocation Function • Role of the Government

5. CONCLUSION • Zakat • Taxes. • Voluntary institutions, Private sector • Public sector • Equilibrium, stability and less consistency of growth.

6. Topics to Cover • INTRODUCTION (ROLE OF THE GOVERNMENT IN ISLAM) • FISCAL POLICY (IN CONVENTIONAL PERSPECTIVE) • WITH KEYNESIAN TEORY • IN ISLAM PERSPECTIVE • EARLY ISLAMIC PERIOD • CONCLUSION

7. Introduction • Fiscal policy is a policy to change tax and government spending to ensure economic stabilization. • Main purpose of fiscal policy are to: a) achieve economic growth without inflation and unemployment. b) achieve equality in income distribution in order to reduce gap between rich and poor people.

8. Introduction- Types of FP • Automatic stabilizers • Progressive & Proportional Taxes • Price Ceiling & Price Flooring • Discretionary fiscal policy • Contractionary Fiscal Policy • Expansionary Fiscal Policy

9. Introduction- Types of FP There are two approaches to analyze fiscal policy: • First- the economics law governing the economy in which these macroeconomic policies are made and pursued. It can be in two ways: a) An economy governed by Shariah principles. b) An economy governed by civil or western law while some aspects of Shariah principles are observed in selected economic activities. • The first approach has been a natural choice. • Second-much more in research and investigation as it means extracting information and knowledge from real economic life. In Pakistan & Malaysia, governments have power to control zakat collection and disbursement; In Malaysia government also controls waqaf and faraid management.

10. The Beginning of FP Classical economy • Classical economic theory has always claimed that the economy is always at full-employment. • Guarantee that, all output produced by firms will be taken up by consumers on the principles that, supply creates its own demand. • In the short-run there will be temporary disequilibrium in the capital, labor and product market, but in long run the economy is always in equilibrium or full employment. • The market is therefore perfect and there is no need for government to interfere in the economy. • However classical economy was proven wrong as the US economy got into the Great Depression in the 1930’s. There was huge amount of unemployment due to business shut downs and bank failures. It clearly shows that something went wrong with the market.

11. The Beginning of FP Keynesian economics • In criticizing the classical economist, J.M Keynes (1936) says that there is not enough demand in the market. • In his explanation of short run, it is the demand for goods and services that will determine the level of GDP, rather than the supply of factor inputs. • The Great Depression was a result of low spending by consumer and business. • The spendings were not enough to bring back the economy to full employment. The only way to raise demand and GDP is increasing government spending.