CHAPTER – 10

GOVERNMENT BUDGET
AND THE ECONOMY
GOVERNMENT BUDGET:
It 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.
The programmes and policies of the government as presented in the budget are known as
‘Budgetary Policy’ of ‘Fiscal Policy’ of the government. It includes Receipts and Expenditure of
the government. The government budget unfolds:
1. The financial performance of the government over the past one year.
2. The financial programmes and policies of the government for the next one year.

OBJECTIVES OF GOVERNMENT BUDGET

GDP GROWTH: Government tries to achieve GDP growth through its budget in two ways:
1. By making public investment expenditure.
2. By inducing private investment expenditure through tax rebates and subsidies.
ALLOCATION OF RESOURCES: The government allocates the resources through its budgetary
policy in such a manner that there is a balance between the goals of profit maximisation and
social welfare. Production of socially harmful goods like Cigarettes, liquor etc. is discouraged
through heavy taxation. Production of socially useful goods like khadi goods is encouraged
through subsidies.
PROVISION OF PUBLIC GOODS: These are those goods which satisfy collective needs of the
people like defence, law and order, etc. Through the budgetary allocation of funds these goods
are sufficiently provided to the people.
EMPLOYMENT OPPORTUNITIES: Budgetary policy focuses on generation of employment
through investment in public enterprises. It also provide fund for schemes like MGNREGA
offering employment to poorer sections of the society.
REDISTRIBUTION OF INCOME AND WEALTH: Equitable distribution of income and wealth is a
sign of social justice. The government uses fiscal instruments of taxation and subsidies to
improve the distribution of income and wealth in the country. Distribution of income and
wealth is improved in two ways:
1. By imposing tax on rich and giving subsidies to the poor.
2. By supplying food grains to BPL population at a low price.
BALANCED REGIONAL GROWTH: Development of backward region in the country is achieved
through liberal tax laws for the backward regions like establishment of Special Economic Zones
(SEZ) in the backward regions.
ECONOMIC STABILITY: While the market forces are operating freely in the economy, it creates
business or trade cycles. Business or trade cycle refers to the phases of Recession, Depression,
Recovery and Boom in the economy. It leads to situations of deflation and inflation in the
economy. Government by using the budget tries to correct these situations and to achieve the
state of economic stability. Economic stability stimulates the inducement to invest and
increases the rate of growth and development.

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STRUCTURE OR COMPONENTS OF THE BUDGET

GOVERNMENT BUDGET

BUDGET RECEIPTS BUDGET EXPENDITURE

REVENUE
CAPITAL RECEIPTS
RECEIPTS REVENUE CAPITAL
EXPENDITURE: EXPENDITURE:
SUBSIDIES, DEFENCE PURCHASE OF
PURCHASES ETC. MACHINES, SHARES,
ETC. LOANS TO STATE
GOVERNMENTS, ETC.

NON-TAX RECEIPTS: -RECOVERY OF

TAX RECEIPTS: -FEES LOAN
-INCOME TAX -FINES -BORROWINGS
-CORPORATION TAX -ESCHEAT
-ESTATE DUTY AND OTHER
-SPECIAL ASSESSMENT
-GIFT TAX LIABILITIES
-INCOME FROM PUBLIC
-CUSTOMS DUTY -OTHER RECEIPTS
ENTERPRISE
-EXCISE DUTY -INCOME FROM SALE OF
-GST SPECTRUM
-GRANTS/DONATIONS
PLAN NON-PLAN
EXPENDITURE EXPENDITURE

BUDGET RECEIPTS: It refers to estimated money receipts of the government from all sources
during the fiscal year. It is classified as Revenue and Capital receipts.
REVENUE RECEIPTS: These are those money receipts of the government which shows:
a. Neither creates any corresponding liability for the government.
b. Nor leads to any reduction in assets of the government.
It is further classified as: Tax and Non-tax receipts.
TAX RECEIPTS: Tax is a compulsory payment made by the people to the government without
reference to anything in return.
TYPES OF TAXES:

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  Progressive and Regressive Taxes.
 Value Added and Specific Taxes.
 Direct and Indirect Taxes.

PROGRESSIVE AND REGRESSIVE TAX

PROGRESSIVE TAX: When the rate of tax increases with an increase in income is said to be
Progressive Tax. The real burden is more on the rich and less on the poor.
REGRESSIVE TAX: When the tax causes greater real burden on the poor is said to be Regressive
Tax. A constant rate of tax on both the rich and the poor is a regressive tax.

VALUE ADDED TAX (VAT) AND SPECIFIC TAX

VALUE ADDED TAX (VAT): Value added refers to the expenditure incurred on every stage of
production (Value Added = Value of output – Intermediated consumption). VAT is an indirect
tax imposed on every stage of production.
SPECIFIC TAX: This is a tax which is levied on a good on the basis on its units, size or weight.

DIRECT AND INDIRECT TAX

DIRECT TAX: This is a tax which is borne by the person on whom it is levied i.e. imposed and the
final burden cannot be shifted on others. For example: Income Tax, Corporation Tax, Gift Tax,
Wealth Tax, etc.
INDIRECT TAX: This is a tax in which the burden can be partially or wholly shifted to others. For
example: GST.

DIFFERENCE BETWEEN DIRECT AND INDIRECT TAX

DIRECT TAX
It is the tax which is finally paid by
the person on whom it is legally
levied.
The burden of this tax cannot be
shifted to other person.
Direct taxes are generally
progressive in nature.
Examples: Income Tax, Corporate
Tax, etc.
INDIRECT TAX
It is the tax which is imposed on one
person and paid by another person.
The burden of this tax can be shifted
to other person.
Indirect taxes are generally
regressive in nature.
Examples: GST, customs duty

NON-TAX RECEIPTS: These are those receipts which arise from sources other than taxes.
FEES: It is a payment to the government for the services that it renders to the people. It is not a
price for commercial service. It is paid for the administrative and judicial services provided by
the government. For example: Land registration fees, Birth and death registration fees,
passport fees, court fees, etc.

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FINES: These are the economic punishments for breaking laws. The main aim is to make people
respectful to the laws.
ESCHEAT: It refers to that income which arises from property left by the people without a legal
heir. There are no claimants of such property and the government makes revenue out of it.
SPECIAL ASSESSMENT: It is that payment (a part of the developmental expenditure) which is
made by the owners of those properties whose value has appreciated due to developmental
activities of the government.
INCOME FROM PUBLIC ENTERPRISES: There are several industries owned by the government
like, Indian Railways, Indian Oil, etc. Profit of these enterprises are source of revenue for the
government.
INCOME FROM THE SALE OF SPECTRUM: Income from the sale of spectrum like 3G, 4G, etc.,
has emerged as a significant source of non-tax receipts of the government.
GRANTS/DONATIONS: It is very common for the people to offer donations to the government
when there are natural calamities like earthquake, floods, famines etc.

CAPITAL RECEIPTS: These are those money receipts of the government which shows:
a. Either creates any corresponding liability for the government.
b. Or leads to any reduction in assets of the government.
RECOVERY OF LOANS: The central government offers loans to the state governments to cope
with financial crises, which are the assets of central government. When these loans are
recovered, assets of the government are reduced. Accordingly, these are classified as capital
receipts.
BORROWINGS AND OTHER LIABILITIES: Borrowings creates liabilities. The government borrows
money from:
a. The general public (Market borrowings).
b. The Reserve Bank of India.
c. The rest of the world.
OTHER RECEIPTS: It includes items like ‘disinvestment’. Disinvestment refers to withdrawal of
existing investment. 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 as it causes reduction in assets of the government.

DIFFERENCE BETWEEN REVENUE RECEIPTS AND CAPITAL RECEIPTS

REVENUE RECEIPTS
It does not have any impact on
assets and liabilities of the
government.
It does not leave any burden on
future generation.
High revenue receipts point to
sound financial health of the
economy.
CAPITAL RECEIPTS
It has an impact on assets and
liabilities of the government.
It often leave burden on future
generation.
High capital receipts point to poor
financial health of the economy.

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BUDGET EXPENDITURE: It refers to estimated expenditure of the government during the fiscal
year. It is classified as Revenue and Capital expenditure.
REVENUE EXPENDITURE: These are that expenditure which:
a. Neither creates any assets for the government.
b. Nor reduces any liabilities of the government.
Important items of revenue expenditure in the Indian government budget:
 Wage bill of the government
 Interest payment
 Expenditure on subsidies
 Defence purchases.
CAPITAL EXPENDITURE: These are those expenditure which:
a. Either creates assets for the government.
b. Or reduces liabilities of the government.
Important items of Capital expenditure in the Indian government budget:
 Expenditure on land and building.
 Expenditure on machinery and equipment.
 Purchase of shares.
 Loans by the central government to the state governments or state corporations.

BUDGET EXPENDITURE IS ALSO CLASSIFIED AS:

PLAN EXPENDITURE: It 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 and capital expenditure.
NON-PLAN EXPENDITURE: All expenditures other than plan expenditure is classified as Non-
plan expenditure. It relates to expenditure on routine functioning of the government, like
expenditure on law and order, defence and subsidies.

DIFFERENCE BETWEEN REVENUE EXPENDITURE AN CAPITAL EXPENDITURE

REVENUE EXPENDITURE
It does not have any impact on assets
and liabilities of the government.
It focuses on welfare of the people.it
does not directly contribute to GDP
High revenue expenditure points to
poverty of the people or backwardness
of the economy.
CAPITAL EXPENDITURE
It has an impact on assets and liabilities
of the government.
It focuses on GDP growth. It directly
contributes s to GDP growth.
High capital expenditure points to the
lack of private investment in the
economy. Generally capital expenditure
is increased during the period of
deflationary gap.

DIFFERENCE BETWEEN REVENUE BUDGET AND CAPITAL BUDGET

REVENUE BUDGET CAPITAL BUDGET
It includes revenue receipts and revenue It includes capital receipts and capital

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 expenditures of the government.
It does not have impact assets and liabilities
of the government.
It focuses on welfare of the people by way of
Direct Benefit Transfers (DBT). It does not
directly contribute to GDP growth.
High revenue receipts in the revenue budget
lead to low capital receipts (borrowings and
disinvestments) in the capital budget. It is a
sign of growing economy.
expenditures of the government.
It has impact on assets and liabilities of the
government.
It focuses on GDP growth. It directly
contributes to GDP growth.
High capital receipts in the capital budget are
related to borrowings. It is a sign of a
backward economy.

TYPES OF BUDGET
BALANCED BUDGET: It is that budget in which government receipts are equal to government
expenditure.
Balanced Budget :Government Receipts=Governemnt expenditure .
MERITS OF BALANCED BUDGET
 The government does not indulge in wasteful expenditure.
 It ensures financial stability and shows the fiscal discipline in the economy.
 It is expected to increase AD. It can prove to be a good policy instrument to increase AD
when the economy is close to achieving full employment.
DEMERITS OF BALANCED BUDGET
 It does not offer any solution to the problem of unemployment, when particularly linked
with lack of AD.
 It is not conducive to growth in less developed countries.
UNBALANCED BUDGET: It is that budget in which receipts and expenditures of government are
not equal. It can be a situation of Surplus Budget or a Deficit budget.
SURPLUS BUDGET: This is a budget in which government receipts are greater than government
expenditures.
Surplus Budget =Estimated Govern ment Receipts> Estimated Government Expenditures
MERITS OF SURPLUS BUDGET: Surplus desired is suitable during inflation time as it plugs the
inflationary gap by lowering the level of AD through increasing government receipts and
decreasing government expenditures.
DEMERITS OF SURPLUS BUDGET: As it tends to lower the level of AD in the economy it is not
advisable during deflation period. It may drive the economy into a low level equilibrium trap.
DEFICIT BUDGET: This is a budget in which government receipts are less than government
expenditures.
Deficit Budget=Estimated Government Receipts< Estimated Government Expenditures
MERITS OF DEFICIT BUDGET: It is a key instrument to correct depression by raising the level of
AD in the economy by way of high government expenditure directly and by inducing greater
investment and consumption expenditure indirectly.
DEMERITS OF DEFICIT BUDGET: It is not advisable during the period of inflation as it would
further increase the gulf between AD and AS.

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BUDGET DEFICIT: It is also called government deficit and it refers to a situation when the
government expenditures are greater than the government receipts.
BD=BE−BR ,When BE> BR
Where: BD = Budget Deficit
BE = Budget Expenditure (Revenue + Capital expenditure)
BR = Budget Receipts (Revenue + Capital Receipts)
TYPES AND MEASUREMENT OF BUDGET DEFICITS
REVENUE DEFICIT: It is the excess of revenue expenditure over revenue receipts.
RD=ℜ−RR ,When ℜ> RR
RD = Revenue Deficit
RE = Revenue Expenditure
RR = Revenue Receipts
IMPLICATIONS
 The government has to either reduce its expenditure, which may lead to loss of social
welfare.
 The government may increase its receipts through borrowings which will increase the
liability and lower its credit-worthiness.
 The government may go for disinvestment which may result in foreign ownership. So,
economic control of foreign companies may increase.
FISCAL DEFICIT: It is the excess of total expenditure over total receipts(other than borrowings)
of the government.
FD=BE−BR ( other than borrowings ) ,
when BE> BR other than borrowings .
Where, FD = Fiscal Deficit
BE = Budget Expenditure
BR = Budget Receipts
Fiscal deficit is the estimation of total borrowings by the government. It is often called ‘Gross
Fiscal Deficit’. Gross Fiscal Deficit = Borrowings from RBI + Borrowings from abroad + Net
borrowings at home. Generally it is expressed a percentage of GDP.
IMPLICATIONS
INFLATIONARY SPIRAL: Borrowings from RBI increases money supply in the economy which
leads to increase in general price level. A continuous rise in price leads to inflationary spiral.
NATIONAL DEBT: Fiscal deficit leads to national debt i.e. borrowings from the public. It hinders
the GDP growth.

VISCIOUS CIRCLE OF HIGH FISCAL DEFICIT AND LOW GDP GROWTH: High fiscal deficit leads to
a situation where (i) GDP growth remains low because of high fiscal deficit and (ii) fiscal deficit
remains high because of low GDP growth.
CROWDING OUT: High fiscal deficit leads to ‘Crowding-out Effect’. This is a situation when a
high borrowing of the government reduces the availability of fund for the private investors.
Accordingly, overall investment reduces in the economy.
EROSION OF GOVERNMENT CREDIBILITY: Mounting national debt due to high fiscal deficit
erodes the credibility of our country in the domestic as well as international money market.
Credit rating of the government and economy is lowered. Hence, global investors start
withdrawing their investment resulting in reduction of GDP growth.

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PRIMARY DEFICIT: It is the difference between fiscal deficit and interest payment.
PD=FD−IP where , PD = Primary Deficit
FD = Fiscal Deficit
IP = Interest Payment
Primary deficit indicates government borrowings on account of current year expenditure over
current year receipts of the government.
Zero Primary Deficit means the borrowings of the government for clearing the backlog of
interest payments and not for expenditure of the current year over and above the receipts. It
shows that current year expenditure is equal to current year receipts. It implies financial
discipline in the economy.
IMPLICATIONS: Similar to those of fiscal deficit. It does not have the burden of interest
payment it indicates borrowings when current year expenditure is greater than current year
receipts.

DIFFERENCE BETWEEN REVENUE, FISCAL AND PRIMARY DEFICIT

REVENUE DEFICIT
It is the excess of revenue
expenditure over revenue
receipts.
RD = RE - RR
It reflects the need for
borrowings by the
government to manage its
budgetary expenditure.
High revenue deficit arises
largely because of low tax
receipts and high
expenditure on subsidies.
It points to overall poverty
in the country.
FISCAL DEFICIT
It is the excess of total
expenditure over total
receipts other than
borrowings.
FD = BE-BR(Other than
borrowings)
It reflects the extent of
borrowings by the
government when
interest payment is
accounted for.
High fiscal deficit shows
the financial indiscipline in
the economy. It is a
hindrance in the process
of GDP growth.
PRIMARY DEFICIT
It is the difference
between fiscal deficit and
interest payment.
PD= FD – IP
It reflects the extent of
borrowings by the
government when
interest payment is not
accounted for.
It reflects continuous lack
of fiscal discipline in the
economy.

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