Many of us think that why their income is always less than their expenses.

Actually, this
is applicable not only to people but to billion dollar economies as well. That is the
reason that government of almost every country in the world rely on the deficit financing
system.

Meaning of Deficit Financing

Former Planning Commission of India has defined deficit financing as;

"The direct addition to gross national expenditure through budget deficits, whether the
deficits are on capital or on revenue account.”

So whenever the expenditure of the government exceeds its revenue then government
envisage the process of deficit financing. So the temporary arrangement of the funds
through various methods is known as deficit financing.

Sources of Deficit Financing

The deficit financing is done in three ways;

1. Printing new currency notes

2.  Borrowing from internal sources (RBI, General Public, Ad-hoc Treasury Bills &
government bonds etc.)

3. Borrowing from External Sources (like borrowing from developed countries and
International institutions like World Bank, IMF, etc.)

Deficit Financing in India

In India, when the total income of the government (revenue account + capital account)
falls below its total expenditure, then;

1.  Government withdraws money from its cash deposited in the Reserve Bank or
2. Borrows loan from the central bank and commercial banks and even state
governments through Ad-hoc Treasury Bills.
3. Borrows from the general public in the form of Bonds and other securities or
4. Orders the RBI to print new currency notes
Keep in mind that the above 4 measures increase the supply of money in the market
which leads to increase the rate of inflation in the country. That is the reason that deficit
financing is known as “Idea of Money Supply. also”

It is worth to mention that deficit financing is equal to fiscal deficit of the country.
Purposes of Deficit Financing;
1. To overcome the problem of lack of funds for speeding up the country's
development.
2. Promote additional investment in the country to side away the adverse impacts of
depression period of the country.
3. To arrange fund for ensuring the holistic development of the country.
4. To arrange fund for the unforeseen events and arrange resources for wartime
expenditure.
5. To upgrade the infrastructure of the country so that the taxpayers of the country are
convinced that the tax paid by them is spent on the right things.
Impacts of the Deficit Financing on the country
1. Increase in inflation due to the increase in the supply of money in the economy.
2. Decrease in average consumption level due to higher inflation.
3. Increase in income disparities, because rich get more opportunities due to higher
supply of money in the economy.
4. Adverse Impact on Saving:- Deficit financing leads to inflation and inflation affects
the habit of voluntary saving adversely.
In fact it is not possible for the people to maintain the previous rate of saving due to
rising prices.

5. Adverse Impact on Investment: - Deficit financing effects investment adversely.

When there is inflation in the economy trade unions/employees demand higher wages
to survive.
If their demands are accepted it increases the cost of production which de-motivates
the investors.

Famous economist Keynes was the strong supporter of the deficit financing in the
developing countries so that these countries can be pulled out from the vicious circle of
poverty, unemployment and under production.