The term fiscal policy refers to the government budget measures aimed primarily at changing income and employment in the short run. Since debate on fiscal policy is often obscured by improper reference to the institutions governing it, it can be helpful to first state the meaning of certain terms denoting the agents of fiscal policy. The general government sector consists of the following group of resident institutional units: (a) all units of central, state or local government; (b) all social security funds at each level of government; (c) all non-market non-profit institutions that are controlled and mainly financed by government units. The sector does not include public corporations owned by government units. However, unincorporated enterprises owned by government are included. Individual countries may be organised in such a way that some of the units indicated will be absent – e.g. states for countries that do not have a federal constitution (see Commission of the European Communities et al., 1993). Our analysis will generally refer to the general government sector as a whole. This means that relationships within the sector (e.g. transfers from the central to local governments) will not be examined.

The budget and its components

Let us now provide a number of definitions.