Development of the theory of fiscal policy has been inhibited by the lack of a satisfactory theory of real fiscal incidence. By default, fiscal policies are proposed, analyzed and implemented using the naive assumption that the real incidence of fiscal measures is the same as their legal incidence.

The problem of the real incidence of the fiscal activity of the state has two dimensions:

1. The relationship between nominal tax rates (legal incidence) and the real distribution of income for any given level and composition of total output; and

2. The relationship between the mix of tax rates, the overall scale of fiscal activity, and the level and composition of effective demand.

The formidable complexity of the problem derives from the necessity of tackling both dimensions at the same time, and at the general (as opposed to the partial) level. This requires the integration of a theory of value and distribution with the theory of effective demand.

The objective here is to present a framework of analysis which is suited to this task. This framework is used to identify the crucial elements which must be incorporated into a full theory of fiscal incidence; it provides a setting within which such elements may be combined and manipulated, and represents, in itself, a check on the conditions which any theory of incidence must satisfy. The formal framework is constructed on a basis of strong simplifying assumptions, but is capable of extensive generalization. The incorporation of more complex relationships between the variables, or the extension of the framework to include functional specification of what are here expressed as constants, would make the analysis more complicated, but would not invalidate the general approach.