Which of the following situations best illustrates the concept of Fiscal Drag?
(a) When rising incomes push taxpayers into higher tax brackets, increasing their tax burden even if tax rates remain unchanged.
(b) When the government reduces public spending during a recession to maintain fiscal discipline.
(c) When a government finances its deficit by borrowing from the central bank, leading to inflation.
(d) When rising tax collections due to income growth lead to an unintentional tightening of fiscal policy.

Question

Which of the following situations best illustrates the concept of Fiscal Drag?
(a) When rising incomes push taxpayers into higher tax brackets, increasing their tax burden even if tax rates remain unchanged.
(b) When the government reduces public spending during a recession to maintain fiscal discipline.
(c) When a government finances its deficit by borrowing from the central bank, leading to inflation.
(d) When rising tax collections due to income growth lead to an unintentional tightening of fiscal policy.

ONLiNE UPSC · Accepted Answer

Fiscal Drag occurs when inflation or economic growth increases nominal incomes, and people get pushed into higher tax brackets, even though:
. The tax rates have not changed, and
. The real purchasing power of those people may not have increased proportionally.This leads to a higher tax burden and reduces disposable income, which in turn can slow down consumption and economic growth.
Imagine tax slabs remain the same, but due to inflation, your salary rises from ₹8 lakh to ₹10 lakh. Now you're taxed at a higher rate, even though your real income (after inflation) hasn't increased much. This creates a drag on your ability to spend.

Fiscal Policy

Fiscal Drag

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M Question 1	⏱ 0
Which of the following situations best illustrates the concept of Fiscal Drag? (a) When rising incomes push taxpayers into higher tax brackets, increasing their tax burden even if tax rates remain unchanged. (b) When the government reduces public spending during a recession to maintain fiscal discipline. (c) When a government finances its deficit by borrowing from the central bank, leading to inflation. (d) When rising tax collections due to income growth lead to an unintentional tightening of fiscal policy.