ABSTRACT
Fiscal policy and monetary policy play a crucial role in shaping financial development in emerging market economies for two reasons. The first is that fiscal and monetary policies shape incentives and institutions, which, as we discussed in the previous chapter, are absolutely fundamental to creating the foundations for efficient financial systems. Fiscal policy determines tax levels and the structure of a taxation system, it determines both the level and the priorities of government spending, and it determines a country's debt level and how it finances this debt. In setting monetary policy, a central bank determines the rate of money growth within an economy as well as serves as a lender of last resort and a regulator of the financial system. Together, fiscal and monetary policy directly impact many of the macroeconomic variables that play crucial roles in the functioning of financial systems, including interest rates, inflation rates, levels of credit, and exchange rates.
