CBSE Class 12 Economics Government Budget And The Economy Notes Set 03

GOVERNMENT BUDGET AND THE ECONOMY

• Concept of Government Budget
• Objectives of Government Budget
• Structure (or Components) of the Budget
• Budget Receipts—Revenue Receipts —Capital Receipts
• Budget Expenditure—Revenue Expenditure —Capital Expenditure
• Budget Deficit—Revenue Deficit —Fiscal Deficit —Primary Deficit
• Balanced and Unbalanced Budget

I. CONCEPT OF GOVERNMENT BUDGET

February-1 is a well known date in India when the Finance Minister presents annual budget of the government for its approval by the parliament. The budget unfolds:
(i) the financial performance of the government over the past one year, and
(ii) the financial programmes and policies of the government for the next one year.

As regards financial performance of the government, it is more like a description of what happened during the past one year. Focus is placed largely on the other part of the budget describing programmes and policies of the government for the next one year.

The programmes and policies of the government (as presented in the budget) are known as ‘Budgetary Policy’ of the government, or ‘Fiscal Policy’ of the government. It has two aspects: (i) revenue aspect, and (ii) expenditure aspect. On the revenue side, the budgetary policy reveals expected receipts of the government. On the expenditure side, it reveals expected expenditure of the government.

It is by managing the budgetary revenue and budgetary expenditure that the government tries to achieve ‘growth with stability’.

Thus, government budget is a statement of expected receipts and expected expenditure of the government (for the financial year to come) that reveals budgetary policy of the government to achieve the twin objective of growth with stability.

Government budget is a statement of expected receipts and expected expenditure of the government (for the financial year to come) that reveals budgetary policy of the government to achieve the twin objective of growth with stability.

2. OBJECTIVES OF GOVERNMENT BUDGET

Following is a brief description of some principal objectives of government budget (with special reference to the Indian economy):

(1) GDP Growth: GDP growth is the central objective of government budgetary policy. It is achieved in two ways: (i) by making public investment expenditure, and (ii) by inducing private investment expenditure (through tax rebates and subsidies).

(2) Allocation of Resources: Private enterprises will always desire to allocate resources to those areas of production where profits are high. However, it is possible that such areas of production (like production of alcohol) may not promote social welfare. Through its budgetary policy, the government of a country directs the allocation of resources in a manner such that there is a balance between the goals of profit maximisation and social welfare. Production of goods which are injurious to health (like Cigarettes and Whisky) is discouraged through heavy taxation. On the other hand, production of ‘socially useful goods’ (like, ‘Khadi’) is encouraged through subsidies.

(3) Provision of Public Goods: Supply and demand forces in a market economy do not allow enough production of public goods. These are those goods which satisfy collective needs of the people. Law & order and defence of the country are important examples of public goods. It is through budgetary allocation of funds that these goods are sufficiently provided to the people.

(4) Redistribution of Income and Wealth: Budget of the government shows its comprehensive exercise on the taxation and subsidies. The government uses fiscal instruments of taxation and subsidies with a view to improving the distribution of income and wealth in the economy. Equitable distribution of income and wealth is a sign of social justice which is the principal objective of any welfare state as in India. Distribution of income and wealth is improved in two ways:
(i) By imposing taxes on rich and giving subsidies to the poor, and
(ii) By supplying food grains to BPL population at a low price.
Example: Free distribution of LPG connection to the poor people.

(5) Balanced Regional Growth: The budgetary policy places priority on the development of backward regions in the country. This is achieved through liberal tax laws for the backward regions. Establishment of SEZ (special economic zones) in the backward regions through liberal tax laws may be cited as an example.

(6) Employment Opportunities: Budgetary policy focuses on the generation of employment opportunities through investment in public enterprises. Budgetary provisions are made for schemes like MGNREGA offering employment to poorer sections of the society.

(7) Economic Stability: Free play of market forces (or the forces of supply and demand) are bound to generate trade cycles, also called business cycles. These refer to the phases of recession, depression, recovery and boom in the economy. The government of a country is always committed to save the economy from business cycles. Budget is used as an important policy instrument to correct the situations of deflation and inflation. By doing it, the government tries to achieve the state of economic stability. Economic stability stimulates the inducement to invest and increases the rate of growth and development.

Briefly, the government tries to manage its revenue and expenditure in such a way that the GDP growth is accelerated, inflationary & deflationary pressures are eliminated, and inequality is reduced. This imparts stability to the process of growth.

Question. What do you mean by ‘Fiscal Discipline’? What happens if fiscal discipline is not maintained in the economy?
Answer: Fiscal discipline refers to the state of balance between revenues and expenditures of the government. It calls for a necessary check on the expenditures in view of the limited revenues of the government. Lack of fiscal discipline often causes excess expenditure. It leads to inflationary spiral. Cost of production starts rising. High cost of production hurts the process of investment. Eventually, GDP growth is hurt and its instability is challenged.

3. STRUCTURE OF THE BUDGET OR COMPONENTS OF THE BUDGET

Structure of the budget refers to the components of budget. Two broad components of the government budget are:
(i) Budget Receipts (including revenue receipts and capital receipts), and
(ii) Budget Expenditure (including revenue expenditure and capital expenditure).
Details of both these components are discussed as under:

Budget Receipts

Budget receipts refer to estimated money receipts of the government from all sources during the fiscal year. Broadly, the budget receipts are classified as:
(1) Revenue Receipts, and
(2) Capital Receipts.
Following are the details:

(1) Revenue Receipts

Revenue receipts are those money receipts of the government which show the following two characteristics:
(i) These receipts do not create any corresponding liability for the government. Example: Tax receipts. Tax is a revenue receipt because it does not involve any corresponding liability for the government. Tax is a unilateral (or one-sided) compulsory payment to the government.
(ii) These receipts do not cause any reduction in assets of the government. Example: Tax receipts do not lead to any reduction in assets of the government. In contrast, if government receives money by selling its share of some company (say Air India), it causes reduction in assets of the government. These are therefore, not to be treated as revenue receipts.

In short, revenue receipts of the government are those money receipts which do not create a liability for the government and as well do not lead to reduction in assets of the government.

Question. Is borrowing by the government a revenue receipt?
Answer: No, because it creates a liability (for the government) of repayment.

Constituents of Revenue Receipts

Revenue receipts are broadly classified as tax receipts and non-tax receipts.

Tax Receipts:

• Income Tax
• Corporation Tax
• Estate Duty
• Gift Tax
• Customs Duty
• Excise Duty
• GST (Goods and Services Tax)

Non-tax Receipts:

• Fees
• Fines
• Escheat
• Special Assessment
• Income from Public Enterprises
• Income from the Sale of Spectrum like 2G and 3G
• Grants/ Donations

Tax Receipts

A tax is a compulsory payment to the government by the households, firms or other institutional units. The taxpayer cannot expect any service or benefit from the government, in return.

A tax is a compulsory payment made by an individual, household or a firm to the government without reference to anything in return.

Types of Taxes

Taxes are broadly classified as:
(i) Progressive and Regressive Taxes,
(ii) Value Added and Specific Taxes, and
(iii) Direct and Indirect Taxes.

(i) Progressive and Regressive Taxes
Taxes are classified as ‘progressive’ and ‘regressive’ depending on the real burden of taxation. Details are as under:
(a) Progressive Tax: A tax is said to be progressive when the rate of tax increases with an increase in income. So that, the real burden of the tax is more on the rich and less on the poor. Example: Tax rate is 10% for income between Rs. 2 to Rs. 5 lakh. It is 15% for income between Rs. 5 to Rs. 10 lakh, and so on. Thus, tax rate increases as the level of income increases.
(b) Regressive Tax: A tax is said to be regressive when it causes a greater real burden on the poor than the rich. If a person with Rs. 1,00,000 as his monthly income pays 10% income tax (or pays Rs. 10,000), he still has a balance of Rs. 90,000 per month. But if a person with Rs. 5,000 as his monthly income has to pay 10% income tax (or pays Rs. 500), it might mean a cut in his essential consumption leading to poor diet and therefore, poor health. Thus, a constant rate of taxation on the rich and the poor is a regressive tax, as it causes a greater real burden on the poor than the rich.

(ii) Value Added Tax or VAT and Specific Taxes
Depending upon tax base, taxes can be classified as:
(a) Value Added Tax or VAT: Value added tax is an indirect tax which is imposed on ‘Value Added’ at the various stages of production. Value added refers to the difference between value of output and value of intermediate consumption. It is imposed at each stage of production. GST is an important form of value added tax.
(b) Specific Tax: When a tax is levied on a commodity on the basis of its units, size or weight, it is called the specific tax.

(iii) Direct and Indirect Taxes
Taxes are classified as direct and indirect depending on their final burden.
(a) Direct Tax: A direct tax is the one the final burden of which is borne by the person on whom it is imposed. For example, income tax is imposed on the income of a person and he himself bears its burden. The burden of tax cannot be shifted to any other person. Income tax, corporation tax, gift tax, wealth tax, are examples of direct tax.
According to Prof. Dalton, “A direct tax is really paid by the person on whom it is legally imposed.”
(b) Indirect Tax: An indirect tax is the one whose initial burden or impact is on one person but he succeeds in shifting the burden to another persons. GST is an important example. It is levied on the producers. They are to pay this tax to the government. But they charge this tax from the buyers by adding it to the price of the goods sold.
According to Prof. Dalton, “An indirect tax is imposed on one person but paid partly or wholly by another.”

Direct Tax and Indirect Tax—The Difference

Question. Explain through an example, how the burden of an indirect tax is shifted.
Answer: GST is an indirect tax. A shopkeeper pays GST to the government. But, the shopkeeper recovers this tax from the customers as a part of price of the commodity sold. So, impact of GST (an indirect tax) is ultimately shifted to the consumers.

Non-tax Receipts

Non-tax receipts are those receipts which arise from sources other than taxes. Some of the non-tax receipts are as follows:
(i) Fees: A fee is a payment to the government for the services that it renders to the people. Examples: Land registration fees, birth and death registration fees, passport fees, court fees, etc. It is to be noted that fee is not a payment (price) for commercial service. It is a payment for administrative and judicial services provided to the people.
(ii) Fines: Fines are those payments which are made by the law breakers to the government. These are economic punishments for breaking laws. The aim is not to earn revenue, but to make people respectful to the laws.
(iii) Escheat: Escheat refers to that income of the state which arises out of the property left by the people without a legal heir. There are no claimants of such property. The government makes revenue out of it.
(iv) Special Assessment: Special assessment is that payment which is made by the owners of those properties whose value has appreciated due to developmental activities of the government. Example: When as a result of construction of roads or provision of sewerage system or construction of drains, etc., value of the neighbouring property or its rental value appreciates, then a part of the developmental expenditure is recovered from the owners of such property by way of special assessment.
(v) Income from Public Enterprises: Several enterprises are owned by the government. Examples: Indian Railways, Nangal Fertilizer Factory, Indian Oil, Bhilai Steel Plant, etc. Profit of these enterprises are a source of revenue for the government.
(vi) Income from the Sale of Spectrum like 2G and 3G: Income from the sale of spectrum has emerged as a significant source of non-tax receipts of the government.
(vii) Grants/Donations: Grants are also a source of government revenue. It is very common for the people to offer donations and grants to the government when there are natural calamities like earthquake, floods and famines.

(2) Capital Receipts

Capital receipts are those money receipts of the government which show the following two characteristics:
(i) These receipts create a liability for the government. For example, loans by the government are a liability. These are to be paid back. These are, therefore, the capital receipts of the government.
(ii) These receipts cause reduction in assets of the government. As stated earlier, money received by the government by selling its shares (say of Air India) would cause reduction in assets of the government. These are, therefore, to be treated as capital receipts.

In short, capital receipts are those money receipts of the government which either create a liability for the government or cause a reduction in its assets.

In India, capital receipts of the government budget are often classified as under:
(i) Recovery of Loans: The central government offers loans to the state governments to cope with financial crises. When these loans are recovered, assets of the government are reduced. Accordingly, these are classified as capital receipts.
(ii) Borrowings and Other Liabilities: While lending creates assets, borrowing creates liability. Accordingly, borrowings are to be treated as capital receipts. It may be noted that the government borrows money from:
(a) the general public. [Borrowings from the general public are called market borrowings.]
(b) the Reserve Bank of India.
(c) the rest of the world.
(iii) Other Receipts: These include items like ‘disinvestment’. It is the opposite of investment. Disinvestment occurs when the government sells off its shares of public sector enterprises to private sector. It involves transfer of ownership of public sector enterprises to the private entrepreneurs, leading to privatisation. Money received through disinvestment is treated as capital receipt because it causes reduction in assets of the government.

Question. What is disinvestment? Does it refer to revenue receipt or capital receipt of the government? Give an example.
Answer: Disinvestment refers to withdrawal of existing investment. Example: The Government of India is making disinvestment by selling its shares in the Maruti Udyog. It is a capital receipt of the government, as it reduces assets of the government.

Question. How are revenue receipts different from capital receipts in terms of their meaning and significance?
Answer: Following observations highlight the difference between revenue receipts and capital receipts:

Budget Expenditure

Budget expenditure refers to estimated expenditure of the government during the fiscal year. Like budget receipts, budget expenditure of the government is broadly classified as:
(1) Revenue Expenditure, and
(2) Capital Expenditure.

(1) Revenue Expenditure

Revenue expenditure of the government is that expenditure which shows the following two characteristics:
(i) It does not create any asset for the government. For example, expenditure by the government on old-age pensions, salaries and scholarships are to be treated as revenue expenditure. Because this does not lead to any type of asset formation.
(ii) It does not cause any reduction in liability of the government. Expenditure by way of grants to the state government to cope with natural calamities (like floods and earthquakes) does not reduce financial liability of the central government in any manner. Accordingly, this is to be treated as revenue expenditure.

In short, revenue expenditure refers to estimated expenditure of the government in a fiscal year which does not create assets or causes a reduction in liabilities.

Important Items of Revenue Expenditure in the Indian Government Budget:
(i) Wage bill of the government.
(ii) Interest payments.
(iii) Expenditure on subsidies.
(iv) Defence purchases.
Important: As a matter of convention, all grants given by the centre to the state governments (and the governments of Union territories) are treated as revenue expenditure, even when some grants may result in the creation of assets.

(2) Capital Expenditure

Capital expenditure of the government is that expenditure which shows the following two characteristics:
(i) It creates assets for the government. Equity (or shares) of the domestic or multinational corporations purchased by the government may be cited as an example.
(ii) It causes reduction in liabilities of the government. Repayment of loans certainly reduces liability of the government. Accordingly, this is to be treated as capital expenditure.

In short, capital expenditure refers to the estimated expenditure of the government in a fiscal year which creates assets or causes a reduction in liabilities.

Important Items of Capital Expenditure in the Indian Government Budget:
(i) Expenditure on land and building.
(ii) Expenditure on machinery and equipment.
(iii) Purchase of shares.
(iv) Loans by the central government to the state governments or state corporations.

Plan and Non-plan Expenditure

Budget expenditure (revenue expenditure + capital expenditure) is also classified as plan and non-plan expenditure. Following is the difference:

(1) Plan Expenditure: Plan expenditure refers to that expenditure which relates to (i) specified plans and programmes of development, and (ii) assistance of the central government to the state governments. It includes both revenue expenditure (like assistance to the states) and capital expenditure (like expenditure on the construction of roads, bridges and hospitals).

(2) Non-plan Expenditure: Broadly, all expenditure other than plan expenditure is classified as non-plan expenditure. Specifically, non-plan expenditure relates to expenditure on routine functioning of the government. Or, it includes expenditure on such services as of law and order, defence and subsidies.

Thus, we can write that:
\[ \text{Budget Expenditure} = \text{Revenue expenditure} + \text{Capital expenditure} \]
Or
\[ \text{Budget Expenditure} = \text{Plan expenditure} + \text{Non-plan expenditure} \]

Note: After the abolition of planning commission, the government is also considering to abolish the classification of budgetary expenditure as plan and non-plan expenditure.

Structure of Government Budget at a Glance

• Budget Receipts
  • Revenue Receipts (Tax Receipts, Non-tax Receipts)
  • Capital Receipts (Recovery of Loans, Borrowings and Other Liabilities, Other Receipts/disinvestment)
• Budget Expenditure
  • Revenue Expenditure (wage bill, interest payments, subsidies, defence purchases, etc.)
  • Capital Expenditure (land and building, machinery & equipment, purchase of shares, loans to state governments, etc.)
  • Plan Expenditure
  • Non-plan Expenditure

\[ \text{Revenue expenditure} - \text{Revenue receipts} = \text{Revenue Deficit} \]
\[ (\text{Revenue expenditure} + \text{Capital expenditure}) - (\text{Revenue receipts} + \text{Capital receipts other than borrowings}) = \text{Fiscal Deficit} \]
\[ \text{Fiscal deficit} - \text{Interest payment} = \text{Primary Deficit} \]

[Note: Structure of the Government Budget may also be studied in terms of (i) Revenue Budget, and (ii) Capital Budget. Revenue Budget includes revenue receipts and revenue expenditure of the government. Capital Budget includes capital receipts and capital expenditure of the government.]

HOTS

Question. How are revenue expenditure different from capital expenditure in terms of their meaning and significance?
Answer: Following observations highlight the difference between revenue expenditure and capital expenditure:

Question. How are revenue budget different from capital budget?
Answer:

4. BUDGET DEFICIT: REVENUE DEFICIT, FISCAL DEFICIT AND PRIMARY DEFICIT [MEANING, TYPES AND MEASUREMENT]

What is Budget Deficit?

Budget deficit (also called government deficit) refers to a situation when budget expenditures of the government are greater than the budget receipts. Or, it is the excess of total expenditure (revenue expenditure and capital expenditure) over and above the total receipts (revenue receipts and capital receipts) of the government.
Budget Deficit = Total expenditure (Revenue expenditure + Capital expenditure) - Total receipts (Revenue receipts + Capital receipts)
\[ BD = BE - BR, \text{ when } BE > BR \] (Here, BD = Budget deficit; BE = Budget expenditure; BR = Budget receipts.)

Types of Budget

• Balanced Budget: Budget Receipts = Budget Expenditure
• Deficit Budget: Budget Receipts < Budget Expenditure
• Surplus Budget: Budget Receipts > Budget Expenditure

Types and Measurement

With reference to the budget of the Government of India, there are three important types of budget deficit. These are:
(1) Revenue Deficit,
(2) Fiscal Deficit, and
(3) Primary Deficit.

(1) Revenue Deficit

Revenue deficit is the excess of revenue expenditure over revenue receipts.
Revenue Deficit = Revenue expenditure - Revenue receipts
\[ RD = RE - RR, \text{ when } RE > RR \] (Here, RD = Revenue deficit; RE = Revenue expenditure; RR = Revenue receipts.)

Implications

• (i) Because of revenue deficit, the government may have to cut its expenditure on several welfare programmes in the country. This leads to loss of social welfare.
• (ii) The government may have to raise funds through borrowing. This raises liabilities of the government and lowers its credit-worthiness.
• (iii) The government may be compelled for disinvestment—selling its ownership of public enterprises. The ownership of public enterprises may be lost to foreign companies. Consequently, economic control of the foreigners may increase in the domestic economy.

Three Ways of Managing Revenue Deficit

• (i) Borrowing from the general public, RBI or rest of the world.
• (ii) Disinvestment by way of selling its ownership (shares) of public enterprises.
• (iii) Cut in expenditure (subsidies in particular).

(2) Fiscal Deficit

Fiscal deficit is the excess of total expenditure over total receipts (other than borrowings).
Fiscal Deficit = Total expenditure (Revenue expenditure + Capital expenditure) - Total receipts other than borrowings (Revenue receipts + Capital receipts other than borrowings)
\[ FD = BE - BR \text{ other than borrowings, when } BE > BR \text{ other than borrowings} \] (Here, FD = Fiscal deficit; BE = Budget expenditure; BR = Budget receipts.)

In fact, fiscal deficit is the estimation of total borrowings by the government. It is often called ‘Gross Fiscal Deficit’.
Gross Fiscal Deficit = (i) Borrowing from RBI + (ii) Borrowing from abroad + (iii) Net borrowing at home

Gross fiscal deficit shows estimated borrowing by the government to cope with its expenditures during the year. Often it is expressed as a percentage of GDP.

Implications

Fiscal deficit is an estimate of borrowings by the government. Greater fiscal deficit implies greater borrowings by the government. It has following implications:
(i) Inflationary Spiral: Borrowing from RBI is often linked to inflationary spiral in the economy. This is how it happens: Borrowing from RBI increases money supply in the economy. Increase in money supply leads to increase in the general price level. A persistent increase in the general price level (over a period of time) leads to inflationary spiral.
[Borrowing from RBI
\( \implies \) Increase in money supply
\( \implies \) Increase in prices
\( \implies \) Inflationary spiral.]
(ii) National Debt: Fiscal deficit leads to national debt. It hinders GDP growth. Because, a significant percentage of national income is used up to pay the past debts.
(iii) Vicious Circle of High Fiscal Deficit and Low GDP Growth: Constantly high fiscal deficit leads to a situation where: (a) GDP growth remains low because of high fiscal deficit, and (b) fiscal deficit remains high because of low GDP growth.
[High fiscal deficit
\( \implies \) Low GDP growth
\( \implies \) High fiscal deficit.]
(iv) Crowding-out: High fiscal deficit leads to ‘Crowding-out Effect’. This is a situation when high borrowings by the government (owing to high fiscal deficit) reduces the availability of funds (in the money market) for the private investors. Accordingly, overall investment in the economy is reduced.
(v) Erosion of Government Credibility: High fiscal deficit (and consequently, the mounting national debt) erodes credibility of the government in the domestic as well as international money market. ‘Credit rating’ of the government (and the economy) is lowered. Owing to lower credit rating, global investors start withdrawing their investment from the domestic economy. Consequently, GDP growth is reduced.

Briefly, fiscal deficit must NOT be allowed to rise beyond manageable limits (about 3 per cent of GDP is considered to be manageable). High fiscal deficit signals fiscal indiscipline. It points to a situation when GDP growth is low and unemployment is high. The economy slips into stagnation and revival becomes difficult without FDI (foreign direct investment).

(3) Primary Deficit

Primary deficit is the difference between fiscal deficit and interest payment.
Primary Deficit = Fiscal deficit - Interest payment
\[ PD = FD - IP \] (Here, PD = Primary deficit; FD = Fiscal deficit; IP = Interest payment.)
While fiscal deficit shows borrowing requirement of the government inclusive of interest payment on the past loans, primary deficit shows borrowing requirement of the government exclusive of interest payment. In other words, primary deficit indicates government borrowings on account of current year expenditures and current year receipts of the government.

Implications

Implications of primary deficit are similar to those of fiscal deficit. The only difference is that primary deficit does not carry the load of interest payments on account of the past loans. Primary deficit just indicates borrowings when: Current year expenditure > Current year revenue.

Revenue Deficit, Fiscal Deficit and Primary Deficit—The Difference

HOTS

Question. What does zero primary deficit mean?
Answer: It means the government resorts to borrowing only to clear the backlog of interest payments. There are no borrowing because of the excess of current year expenditure over the current year revenue. Simply because, current year expenditure happens to be equal to current year revenue. It is a sign of fiscal discipline or fiscal responsibility on the part of the government.

Question. A government budget shows a primary deficit of Rs. 6,900 crore. The revenue expenditure on interest payment is Rs. 400 crore. How much is the fiscal deficit?
Answer: Fiscal Deficit = Primary deficit + Interest payment
= Rs. 6,900 crore + Rs. 400 crore
= Rs. 7,300 crore.

Question. How can the gulf between capital expenditure and capital receipts be reduced without borrowing? Suggest two ways.
Answer: (i) The government can resort to disinvestment: selling its stake in public sector enterprises, and (ii) The government can sell its surplus land.

Question. Can there be a fiscal deficit without a revenue deficit?
Answer: Obviously yes. Because fiscal deficit is worked out by accounting for both the revenue and capital receipts and expenditures of the government. So that, even when revenue receipts and revenue expenditure are in a state of balance, there could be excess of capital expenditure over capital receipts, causing fiscal deficit.

An Illustration on the Estimation of Various Types of Budget Deficits

The illustration is based on the following set of data drawn from Economic Survey, 2018-19.

Revised Estimates on the Budgetary Status of the Government of India (2018-19)

[Source: Economic Survey, 2018-19]

Using the estimation procedure discussed earlier, we get the following estimates of different types of budget deficit:
(1) Revenue Deficit = Revenue Expenditure - Revenue Receipts
= Rs. 21,40,612 crore - Rs. 17,29,682 crore
= Rs. 4,10,930 crore
(2) Fiscal Deficit = Total Expenditure - (Revenue Receipts + Recoveries of Loans and Other Receipts)
= Rs. 24,57,235 crore - (Rs. 17,29,682 crore + Rs. 93,155 crore)
= Rs. 6,34,398 crore
Or
Fiscal Deficit = Borrowings and Other Liabilities
= Rs. 6,34,398 crore
(3) Primary Deficit = Fiscal Deficit - Interest Payment
= Rs. 6,34,398 crore - Rs. 5,87,570 crore
= Rs. 46,828 crore
[Implying that:
Fiscal Deficit = Primary Deficit + Interest Payment
= Rs. 46,828 crore + Rs. 5,87,570 crore
= Rs. 6,34,398 crore]

5. BALANCED AND UNBALANCED BUDGET

(I) Balanced Budget

A balanced budget is that budget in which government receipts are equal to government expenditure.
Balanced Budget: Government Receipts = Government Expenditure

Merits and Demerits of Balanced Budget

Merits:
(i) The government does not indulge in wasteful expenditure.
(ii) A balanced budget ensures financial stability. It signals fiscal discipline in the economy.
However, during the general depression of 1930’s, the policy of balanced budget was severely criticised. It was then that the following shortcomings of a balanced budget were highlighted.

Shortcomings or Demerits:
(i) Balanced budget does not offer any solution to the problem of unemployment. Particularly, when unemployment is linked with the lack of AD. It happened in most European Countries during 1930’s.
(ii) Balanced budget is not conducive to growth in less developed countries. Kick-start of growth in these economies depends on a big-push of investment expenditure by the government. This often leads to deficit budget.

Does Balanced Budget Leave Aggregate Demand Unaffected in the Economy?

No is the obvious reply. This is how it happens:
Balanced Budget means: Government receipts = Government expenditure
Assume tax as the only source of government receipts,
Tax of (say) Rs. 100 = Expenditure of Rs. 100
Expenditure of Rs. 100 increases AD by Rs. 100.
Tax of Rs. 100 does not decrease AD by Rs. 100.
Tax of Rs. 100 decreases disposable income of the people by Rs. 100.
If MPC is assumed to be 0.5, then reduction in disposable income by Rs. 100 would reduce consumption (expenditure) by \( 0.5 \times Rs. 100 = Rs. 50 \) which is ‘MPC times’ decrease in income.
Thus, because of tax of Rs. 100, AD would decrease by Rs. 50 only.
Net increase in AD = Rs. 100 (increase in AD owing to government expenditure) - Rs. 50 (decrease in AD owing to tax) = Rs. 50.
Thus, a balanced budget is expected to increase AD. Accordingly, balanced budget is a good policy instrument to increase AD when the economy is close to achieving full employment.

(2) Unbalanced Budget

An unbalanced budget is that budget in which receipts and expenditures of the government are not equal. This may be a situation of: (i) Surplus Budget, or (ii) Deficit Budget.

(i) Surplus Budget

This is a budget in which government receipts are greater than government expenditures.
Surplus Budget: Estimated Government Receipts > Estimated Government Expenditures

Merits and Demerits of Surplus Budget

Merits: Surplus budget (when, receipts > expenditures) is desired when the economy is battling inflation due to excess AD. Surplus budget plugs the inflationary gap by lowering the level of AD. AD is lowered on account of (a) rise in revenue collection by the government, and (b) fall in government expenditure.
Demerits: As surplus budget tends to lower the level of AD in the economy, it is not desired during periods of depression. If surplus budget policy is constantly pursued by the government, AD may reduce to a level that causes unemployment in the economy. The economy may be driven into a low level equilibrium trap.

(ii) Deficit Budget

This is a budget in which government expenditures are greater than government receipts.
Deficit Budget: Estimated Government Expenditures > Estimated Government Receipts
Keynes and other modern economists stress significance of deficit budget, highlighting its merits.

Merits and Demerits of Deficit Budget

Merits: Keynes recommends deficit budget as a key instrument to correct the state of depression. According to him, depression is that phase of economic activity when the level of investment is low owing to the low level of AD. Consequently, planned output is much lower than the full employment level of output. Unemployment becomes a national problem. Deficit budget raises the level of AD in two ways:
(a) Directly by way of high government expenditure, and
(b) Indirectly by inducing greater (investment and consumption) expenditure by the people.
Demerits: Deficit budget is not desired during periods of inflation. It is a period when the AD exceeds AS at full employment. Deficit budget in such situations (when AS cannot increase) would further increase the gulf between AD and AS. Consequently, inflationary gap would rise and wage-price spiral (when wages increase with prices and prices increase with wages) may set in.

Power Points & Revision Window

• Budget is a statement of expected receipts and expenditure of the government over the period of a financial year, April 1—March 31.
• Objectives: (i) GDP growth, (ii) Allocation of resources, (iii) Provision of public goods, (iv) Redistribution of income and wealth, (v) Balanced regional growth, (vi) Employment opportunities, (vii) Economic stability.
• Structure of the Budget includes (i) revenue budget showing revenue receipts and revenue expenditure of the government, and (ii) capital budget showing capital receipts and capital expenditure of the government. Looked at from a different angle, structure of the budget includes: (i) budget receipts (including revenue receipts and capital receipts), and (ii) budget expenditures (including revenue expenditure and capital expenditure).
• Budget Receipts are the estimated money receipts of the government from all sources during a fiscal year.
  • Revenue Receipts are those receipts: (i) which do not cause any reduction in assets [Example: Income from public sector enterprises], and (ii) which do not create any liability for the government [Example: Tax receipts of the government].
  • Capital Receipts are those receipts: (i) which create liability for the government [Example: Funds received by the government as loans], and (ii) which cause reduction in assets of the government [Example: Disinvestment in public sector enterprises].
• Budget Expenditure is the estimated expenditure of the government relating to its development and non-development programmes during a fiscal year.
  • Revenue Expenditure is that expenditure by the government (i) which does not cause increase in government assets [Example: Expenditure on law & order], and (ii) which does not cause any reduction in government liability [Example: Expenditure on old-age pensions].
  • Capital Expenditure is that expenditure by the government (i) which causes increase in government assets [Example: Expenditure on the construction of roads], and (ii) which causes reduction in government liability [Example: Payment of loan by the government].
  • Plan Expenditure is related to specified plans and programmes of development, as well as assistance of the central government to the state governments. [Example: Expenditure on the construction of canals for irrigation.]
  • Non-plan Expenditure is related to expenditure on routine functioning of the government. [Example: (i) Expenditure on law & order, and (ii) Expenditure on defence & subsidies.]
• Balanced Budget: Total expenditure = Total receipts.
  • Surplus Budget: Total expenditure < Total receipts.
• Deficit Budget: Total expenditure > Total receipts.
• Budget Deficit is the excess of total expenditure over total receipts of the government.
  • Types: (i) Revenue deficit, (ii) Fiscal deficit, (iii) Primary deficit.
• Revenue Deficit: Revenue expenditure - Revenue receipts.
  • Implication: Since revenue receipts and revenue expenditures are related largely to recurring expenses of the government (as on administration and maintenance), high revenue deficit gives a warning to the government either to cut its expenditure or increase its tax/non-tax receipts.
• Fiscal Deficit: (Revenue expenditure + Capital expenditure) - (Revenue receipts + Capital receipts other than government borrowing).
  • Implications: (i) Inflationary spiral, (ii) National debt, (iii) Vicious circle of high fiscal deficit and low GDP growth, (iv) Crowding-out, (v) Erosion of government credibility.
• Primary Deficit: Fiscal deficit - Interest payment.
  • Implication: Primary deficit indicates the extent to which the government needs to borrow to implement its budgetary programmes and policies for the year ahead.
• Balanced Budget: It raises the level of AD in the economy, though moderately. It is recommended when the economy is close to achieving full employment.
  • Surplus Budget: It is recommended when there is an inflationary gap and AD needs to be reduced.
• Deficit Budget: It is recommended when there is a state of depression and AD needs to be raised.