SEMESTER – V

Unit I Public finance

INTRODUCTION • The government of every country has to perform certain special functions which
can be classified under two heads 1. Obligatory Functions 2. Optional Functions • To perform all these
functions adequately and efficiently, the government needs funds from the public.

MEANING OF PUBLIC FINANCE :- The study of public finance is a branch of economics has come
to occupy a very important place in economic literature since last nine decades. Public finance is that
social science which deals with the income and expenditure of the public authorities. The word public
authorities include all sorts of governments. The term public finance is a combination of two words,
namely Public and Finance. The ‘public’ is represented by the government or state. The other word
‘finance’ means money resources. These money resources are in the form of income and expenditure.
Thus, public finance refers to the systematic study of the operations of public income and expenditures
of the public authorities.

DEFINITIONS • Adam Smith - “Public finance is an investigation into the nature and principles of the
state revenue and expenditure” • Prof. Dalton - “Public finance is concerned with income and
expenditure of public authorities and with the mutual adjustment of one another.”Another definition is
given by Findlay Shirras - “Public finance is the study of principles underlying the spending and raising
of funds by public authorities”. • H.L Lutz - “Public finance deals with the provision, custody and
disbursement of resources needed for conduct of public or government function.” Harold Groves -
“Public finance is a field of enquiry that treats on income and outgo of governments (i.e. federal, state
and local).” • Richard Musgrave - “The subject matter of public finance is logically, though not solely,
concerned with the financial aspects of the business of the government.”

COMPONENTS OF PUBLIC FINANCE :- 1. Public Revenue 2.Public Expenditure 3.Public Debt

4.Financial Administration 5.Economic Stabilization
1. PUBLIC REVENUE :- The income of the government through all sources is known as public
revenue. This component deals with the different sources and methods of raising the revenue to the
government. It also studies about the classification of taxes, burden of taxes, effects, taxable
capacity etc.
2. PUBLIC EXPENDITURE :-Public expenditure refers to the expenditure incurred by the public
authorities .This component deals with the principles and problems related to the allocation of
government spending. It also studies about the classification of public expenditure, its effect, public
expenditure policies of the government, and trends in public expenditure
3. PUBLIC DEBT:- Public debt refers to the loans raised by the government both internally and
externally. This component of public finance studies the need for and methods of raising public debt
and problems related to raising and repayment of public debt.

4. FINANCIAL ADMINISTRATION: - Financial administration refers to the study of different

aspects of public budget. It deals with the organizing and disbursing of the finances of the state. The
objective of framing budget, the methods of framing it, sanctioning and audit etc., are studied under
this.
5. ECONOMIC STABILIZATION: - this component of public finance studies the use of public
revenue and public expenditure to secure economic stability and growth. It includes various
 economic policies and measures of the government that are used to achieve full employment,
balanced growth and optimum use of resources

Public Finance components in detail:

PUBLIC REVENUE :- In Aggregate public income or the public revenue is the income of the
government through all the sources.
SOURCES OF PUBLIC REVENUE : The sources by which a government earns its income are
classified into two categories.
a. Tax Revenue b. Non Tax revenue
• Tax revenue is the income that is gained by governments through taxation. • Taxes are compulsory
contribution levied by the state for meeting expenses in the common interests of all citizens. • Tax
revenue can be classified into: (1) direct taxes and (2) indirect taxes.

• Direct Taxes: A tax is said to be direct, if the tax payer bears the burden of the tax. He cannot shift the
burden to any other person. Example – Income tax, wealth tax and gift tax.
• Indirect Taxes: Indirect tax is shifted by the payer to others. If sales tax is imposed on sugar, the
producer or dealer who pays it passes it on to the next buyer and ultimately the burden is borne by the
consumer. Example- Sales tax
NON – TAX REVENUE SOURCES • Non-Tax Revenue sources of public revenue which are raised by
the government from other than tax in the economy.

1. ADMINISTRATIVE REVENUES • Fees • Special Assessments • Fines and Penalties • Forfeitures •

Escheats

2. ADMINISTRATIVE REVENUE : A payment to defray the cost of each recurring service

undertaken by the government, primarily in the public interest, but conferring a measurable special
advantage on the fee payer. • Fees is a payment charged by the government to bear the cost of
administrative services rendered in public services. Fees is not a voluntary payment it is a
compulsory payment. • Special Assessment :- • Prof. Seligman – “A compulsory Contribution,
levied in proportion to the special benefit derived to defray the cost of special improvement to
property undertaken in the public interest.” • Example - by the construction of roads, schools etc. are
going to yield some common benefit to the society. Because of this the values or the rent of the
property may increase. • So that the government can impose some levy on these special assessments
to recover a part of expenses incurred. • Fines and Penalties These are not an important source of
public revenue. Fine - punishment imposed for infringement of law. • Forfeitures It refers to the
penalty imposed by courts for the failure of individuals to appear in the court. • Forfeitures are also
not important source of public revenue. • Escheats Escheats are the claims of the government to the
property of a person who dies without having any legal heirs or without keeping a will. • In such
situations all the property of the person including bank balance and other properties pass to the
government.
3. COMMERCIAL REVENUE • Public authorities own and manage commercial and industrial
enterprises • Example – Railways, Post, different modes of Transport and other public sector
industries • The income earned by these public sector enterprises by selling the goods to the citizens
is known as the commercial activity • In other words commercial revenue is the income earned by
the government by involving in commercial activities
4. OTHER REVENUES 1. Gifts, Grants and Donations 2. Government properties 3. Public borrowings
4. Tributes and Indemnities 5. Recovery of loans 6. Miscellaneous Sources
5. GIFTS, GRANTS & DONATIONS  Government earns income in the form of gifts, grants and
donations offered to it by the citizens, institutions and foreign governments and international
 institutions for different purposes  For example grants by the international monetary institutions for
rehabilitation work during the natural calamities
6. GOVERNMENT PROPERTIES • Government earns income from public property like land,
Buildings, mines, forests, fisheries etc.,

PUBLIC BORROWINNGS • Public authorities can borrow from various sources both internally and
externally • These sources include borrowings from its citizen, foreign government, commercial banks,
central bank of the nation, international Monetary institutions like IMF, IBRD, World Bank ADB etc., •
These borrowings to be repaid in the future.
TRIBUTES AND INDEMNITIES • Some governments gets extraordinary revenue in the form of
tributes and indemnities • Foreign countries pay tributes • Indemnities paid in case of any damage to a
country either by war or aggression
RECOVERY OF LOANS • Governments may get revenue by way of recovery of loans due from
debtors to it
MISCELLANEOUS SOURCES • Government may also get some revenue by auctioning Confiscated
goods, printing of currency notes, etc.

PUBLIC EXPENDITURE
MEANING • Public expenditure is that expenditure which is incurred by the public authorities (central,
State or Local Governments) either for protecting the citizens of for satisfying the collective needs of the
citizens or for promoting their economic and social welfare
HEADS OF PUBLIC EXPENDITURE • Different economists like, Adam Smith, Pigou, Dalton, J S
Mill and others have classified public expenditure according to their own basis of classification • Public
expenditure may be broadly grouped under two heads. They are A. Revenue Expenditure B. Capital
Expenditure
REVENUE EXPENDITURE • Revenue expenditure refers to the expenditure incurred by the
government for the day-to-day administration • Revenue expenditure classified into 1. Civil Expenditure
2. Defence expenditure 3. Grant in aid to other governments 4. Miscellaneous expenditure
CIVIL EXPENDITURE • Civil expenditure refers to the expenditure of the government pertaining to
the maintenance of justice, law and order. • Civil Expenditure Includes 1. Expenditure on General
Services 2. Expenditure on Civil Services 3. Expenditure on Economic Services 4. Expenditure on
Public Debt Service
1. Expenditure on General Services • It involves the expenditure on Parliament, Legislatures,
Maintenance of embassies, government departments, police force, Salaries of govt. Employees,
Ministers etc., 2. Expenditure on Social Services • It refers to the expenditure of the government on
social and Welfare activities • It includes the expenditure on drinking water facility, education, health,
housing and various other social security measures • This kind of expenditure improves the social
welfare and standard of living of the people
3. Expenditure on Economic Services It is the expenditure incurred on the development of economic
Activities It includes promotion of industries, agriculture, transport, trade communication, irrigation,
banking etc., It helps in improving the productive capacity of the economy 4. Expenditure on Public
Debt Services It includes the interest payments on the public debt and repayment of public debt

DEFENCE EXPENDITURE • It includes the expenditure on defence forces, production of arms and
ammunition, pension to retired defence personnel, etc.
Grants-in-Aid • It consists of the financial assistance given by government to other governments • For
example grant given by the central government to the states and union terroitories for financing their
economic projects
Miscellaneous Expenditure • It includes the expenditure of the government in providing subsidies to
industrialists, exporters, relief and rehabilitation of the people during the natural calamities, financial aid
to the economically vulnerable sections and regions
Capital Expenditure • It refers to the expenditure incurred on creating permanent revenue yielding
assets. It includes i. Developmental Expenditure ii. Non-Developmental Capital Expenditure iii.
Repayment of Public Debt iv. Loans and Advances to other Governments
• Since 1987-88 onwards central government of India adopted a new classification of Public
Expenditure • Under this public expenditure classified under two heads A. Plan Expenditure B. Non-
Plan Expenditure
Plan Expenditure • It refers to those expenditures which directly contribute for the economic
development of the country • It is divided into three subheads 1. Economic Services 2. Social and
Community Services 3. Grants-in-Aid to States and union Territories and Foreign Governments
1. Economic Services • It includes the expenditure on Agriculture and allied activities, industries and
minerals, Mining, manufacturing, transport and communication development, credit and financial
institutions etc.
2. Social and community Services • It help in building up of the productive capacity and efficiency of
the people • It includes the expenditure on education, training and skill information, research and
development, family planning, medical and health, Labor and employment generation etc.
3. Grants-in-Aid to States and union Territories and Foreign Governments • It includes the
developmental grants given by the central government to sates and union territories for the purpose of
undertaking various developmental projects
Non-Plan Expenditure • These expenditures do not contribute directly for the development of an
economy, but they are essential for carrying on day- to-day activities of the state
It include a. Interest Payments and debt servicing charges b. Defence expenditures c. General services
d. Subsidies e. No-governmental grants to states and union territories f. Tax collection charges g. Police
expenditure h. Loans to states and foreign governments i. Loans to public Enterprises.

Role of public Finance in a Developing Economy:

1. To increase the rate of Capital Formation

2. To increase the rate of economic growth
3. To Achieve optimum utilization of resources
4. To Achieve Full Employment
5. To Reduce Economic inequalities
6. To Counteract inflation.

2. What is a Balanced Budget?

A balanced budget is a budget (i.e., a financial plan) in which revenues are equal to expenditures, such
that there is no budget deficit or surplus. Although the concept of a balanced budget applies to any
organization that generates operating revenues and incurs operating expenses, it is most commonly
applied to government budgets.

Balanced Budget

Although the term balanced budget points towards a breakeven between surpluses and deficits, it can
also be a budget that posts a surplus but not a deficit. Therefore, revenues may be greater than expenses
in a balanced budget, but not vice versa.

Components of a Balanced Budget

1. Revenues
For corporations and non-governmental organizations, revenues come from the sale of goods and/or
services. For governments, the majority of revenues come from income taxes, corporate taxes, social
insurance taxes, and consumption taxes.
2. Expenses
For corporations and non-governmental organizations, expenses include the amount that is spent on
daily operations and factors of production, including rent and wages. For governments, expenses include
spending on infrastructure, defense, healthcare, pension, subsidies, and other factors that contribute to
the health of the overall economy.

Practical Examples
It is uncommon to come across balanced budgets where revenues and expenses are equal due to the
volatility of the factors that contribute to a surplus and/or a deficit. For example, Canada reported
revenues of $332.2 billion and expenses worth $346.2 billion, ending the year 2017 with a budget deficit
of $14 billion.

On the other hand, countries like Germany, Switzerland, and South Korea posted a budget surplus,
which could be considered a balanced budget.

It is also important to note that such a type of budget can be produced annually, biennially, and
cyclically.

An annual balanced budget balances the budget for the financial year that it covers.
A biennial balanced budget allows the budget to fluctuate over two years. A surplus in one and a deficit
in the other of the same amount will produce a biennially balanced budget.
Cyclically balanced budgets account for economic conditions. They are usually in deficit when the
economy is going through a downturn and in surplus during economic booms.

Importance
Planning a balanced budget helps governments to avoid excessive spending and allows them to focus
funds on areas and services that require them the most. Furthermore, achieving a budget surplus can
provide funds for emergencies, e.g., if the government wishes to increase spending during a recession
without having to borrow.

Balancing the budget also allows governments to save on the interest rate charges that accrue on large
loans from lenders (i.e., other countries and/or organizations like the International Monetary Fund (IMF)
and the World Bank) and to have control over policies during times of distress.

Applications: Budget Variance Analysis

A budget variance analysis compares the actual budget outcomes to the baseline figures that are
projected in the budget.

When actual figures are better (i.e., revenues higher and/or expenses lower) than what is planned, the
budget variance is called favorable variance.
When actual figures are worse (i.e., revenues lower and/or expenses higher) than what is planned, the
budget variance is called negative variance.
For corporations, a balanced budget often contributes to a favorable outcome from the budget variance
analysis.

3. Types of budget

According to the government, the budget is of three types:

1. Balanced budget.
2. Surplus budget.
3. Deficit budget.
1. Balance budget – A government budget is said to be balanced when it is estimated revenues and
anticipated expenditure are equal. i.e. government receipts and government expenditure.

Well, it implies that the government raises funds in the means of taxes and other means a balanced
budget was considered an effective check on extravagant expenditure of the government.

The government must exercise financial discipline and should keep its expenditure within the available
income.

The concept of a balanced budget has been evocated by classical economists like Adam smith . a
balanced budget was considered by them as neutral in its effects on the working of the economy and
hence they are regarded it as the best.

However , modern economists believe that the policy of balance budget may not always be suitable for
the economy for instance during the period of depression , when economic activities are at low level ,
resulting in unemployment.

The government may come to the rescue of the people . it can borrow money and spend it on public
works . this will increase employment and total demand for goods and services and encourage
investment.

2. Surplus budget – when estimated government receipts are more than the estimated government
expenditure it is termed as surplus budget. When the government spends less than the receipts the
budget becomes surplus that is.

Estimated government receipts > anticipated government expenditure .

A surplus budget is used either to reduce government public debt or increase its savings .

A surplus budget may prove useful during the period of inflation . in periods of inflation , although there
is greater employment there is also a tendency for prices to rise rapidly.

This has to be checked particularly in the interest of those who have more or less fixed income. This
inflationary gap can be corrected by lowering the level of effective demand in the economy . it can be
corrected by increasing taxes. This would increase the revenue of the government but reduce the
purchasing power of the people. As a result, the aggregate demand will fall. This inflation gap can be
corrected by lowering the level of public expenditure.

The surplus budget should not be used in a situation other than the inflationary gap as it may lead to
unemployment and low levels of output as an economy.

3. Deficit budget – when estimate government receipts are less than the government expenditure. In
modern economies, most of the budget are of this nature , that the estimate government receipts <
anticipated government expenditure.

A deficit budget increases the liability of the government or decreases its reserves.

A deficit budget may prove useful during the period of depression , economics activities are at a low
level . it results in unemployment , business loss and even bankruptcy and inflation etc. the government
can borrow money and increase the expenditure on public works through deficit financing . this will
increase employment and total effective demand for the goods and also the services which would then
encourage investment . thus, a deficit budget is useful for removing depression and unemployment.
 Any country in the world is aiming to avoid deficit budget although the surplus budget is difficult for a
country to achieve and that is the reason countries strive for a balanced budget in order to avoid
inflation, unemployment , loss or another consequence .

Union Budget – Introduction

The Union Budget is also known as the Annual Financial Statement. Article 112 of the Constitution of India
lays down that it is a statement of the estimated expenditure and receipts of the Government for a particular
year.

 The Budget keeps the account of the finances of the government for the fiscal year (from 1st April to
31st March).
 The Budget is presented on 1st February (until 2016, it was presented on the last working day of
February) so that it can materialise before the commencement of the new financial year which starts on
1st April.
 In 2017, a 92-year-old tradition was broken when the railway budget was merged with the Union Budget
and presented together.
 The Budget has to be passed by the Lok Sabha before it can come into effect.
 The Union Budget is divided into Revenue Budget and Capital Budget. For more on these terms,
check Union Budget – Important Economic Terms.
 In the Union Budget, the disbursements and receipts of the government comprise the various types of
government funds in India namely, the Consolidated Fund of India, the Contingency Fund and the
Public Account.
 The Economic Survey of India is released ahead of the presentation of the Budget.

Important Highlights of Budget 2022

The Union Budget 2022-23 seeks to complement macro-economic level growth with a focus on micro-
economic level all-inclusive welfare. The budget aims to lay a strong foundation to steer the Indian economy
towards Amrit Kaal for the next 25 years, from India at 75 years to India at 100.
Union Budget 2022 focusses on 4 pillars:

1. PM GatiShakti
2. Inclusive Development
3. Productivity Enhancement & Investment, Sunrise Opportunities, Energy Transition, and Climate Action
4. Financing of Investments
Union Budget 2022-23: Top Economic Indicators

Economic Analysis
Indicators

Growth  9.2 percent expansion in GDP in FY22

estimates  8−8.5 percent projected GDP growth for FY23

Deficit  The revised Fiscal Deficit in the current year is estimated at 6.9 percent of
GDP.
 The Fiscal Deficit in 2022-23 is estimated at 6.4 per cent of GDP.

Capital  The outlay for capital expenditure has been stepped up sharply by 35.4 per
expenditure cent from Rs 5.54 lakh crore in the current year to Rs 7.50 lakh crore in 2022-
23.

Repo rate  RBI kept the repo rate unchanged at 4 percent since May 2020; continues with
an accommodative monetary policy stance.

FDI  Net FDI inflows amounted to US$ 24.7 billion for April−November 2021,
29.5 percent lower than those for April−November 2020.

Inflation  CPI averaged at 5.2 percent in April−December 2021, driven primarily by

food inflation and high fuel prices.

Merchandise  Merchandise exports expanded by 49.7 percent to US$ 301.4 billion in

exports April−December 2021, exceeding the pre-pandemic levels.

Significant Announcements under Different Sectors

Sector Highlights

Infrastructure  PM Gati Shakti National Master Plan at a cost of ₹20,000 crore

 5G spectrum auctions to be conducted in 2022
 Scheme for design-led manufacturing for 5G will be part of the production-
linked scheme
 To award contracts to lay optical fibre in rural areas, completion in 2025
 To allocate additional 195 billion rupees for production-linked incentives
towards solar equipment manufacturing
Education  Digital University will be established based on a networked hub model.
 One Class, One TV channel will be expanded from 12 to 200 TV Channels to
provide supplementary education in all regional languages.

Health  National Digital Health Ecosystem to be rolled out.

 National Tele Mental Health program to be set up to focus on mental health.
 23 tele mental health centres of excellence.
 Integrated benefits to women and children through Mission Shakti, Mission
Vatsalya, Saksham Anganwadi and Poshan 2.0.

Agriculture  Domestic scheme introduced to reduce dependence on oilseed imports

 NABARD to facilitate funds with blended capital to finance startups for
agriculture & rural enterprise.
 Chemical-free, natural farming to be promoted across the country.
 2022 to be Year of Millet – support for post-harvest value addition for millet
products
 Using Kisan drones for crop assessment and spraying of pesticides

Defense  Budget 2022-23 would give a push to self-reliance in defence production as part
of the Atma Nirbhar Bharat initiative.
 The 68 per cent capital procurement budget in the sector was earmarked for
domestic procurement.
 encourage private industry to take up the design and development of military
platforms and equipment.

Finance  Long term capital gain surcharge to be capped at 15%

 Emergency credit line guarantee scheme for small and medium-sized businesses
to be extended to March 2023
 Public issue of Life Insurance Corporation expected shortly
 To amend bankruptcy code to speed up the resolution process

Railways  As part of the PM Gatishakti Masterplan, 2,000 kilometres of railway network

will be brought under Kavach.
 Also, 400 new-generation Vande Bharat Trains with better energy efficiency and
passenger riding experience will be developed and manufactured during the next
three years.

MSMEs  Raising and Accelerating MSME Performance (RAMP) programme will be

rolled out with a Rs 6,000 crore outlay spread over 5 years for MSMEs.
 The Emergency Credit Line Guarantee Scheme (ECLGS) that provided much
needed additional credit to over 1.3 crore MSMEs will be extended till March
2023 with its guarantee cover expanded by Rs 50,000 crore to Rs 5 lakh crore.

Union Budget 2022-23: Top Policy Highlights

Policy Analysis

Multimodal  Enhance multimodal connectivity through the expansion of roadways

Connectivity by 25,000 km
 Inclusion of 2,000 km of rail network under indigenous technology
 Develop eight ropeway projects and 100 cargo terminals

International  International Arbitration Centre to be set up; and foreign universities

Arbitration Centre permitted to operate in GIFT City.

Amendments to the  To enhance the resolution process, including for cross-border

Insolvency and insolvency.
Bankruptcy Code  To establish a centre to reduce the process of voluntary winding up of
companies to six months

Digital Rupee  Launch of digital rupee using blockchain and other technologies in
FY22-23
 Scheduled Commercial Banks to set up 75 digital banking units
 Extend the core banking system to post offices

Tax on Virtual Digital  All virtual digital assets will be taxed at 30 per cent rate, while digital
Assets gifting will also be charged per the same rates on the receiver’s end.

Committee to govern  A committee or task force to be set up for urban planning, augmenting
different processes the Animation, Visual Effects, Gaming, and Comic sector, and
reviewing the regulatory framework governing venture capital and
private equity investments

5G spectrum  5G spectrum auction proposed in FY22 along with the launch of a

design-led manufacturing scheme (as part of the PLI scheme);
 Contracts to be awarded for laying optical fibre in remote areas
through Public-Private Partnership

Data centres  Infrastructure status accorded to data centres and energy storage
systems to facilitate credit availability

Green Bonds  Issuance of sovereign green bonds which will help reduce carbon
intensity
 Set-up of government-backed funds for climate action, tech-based and
agricultural initiatives

Battery swapping  Battery swapping policy and interoperability standards to be

formulated
policy  Additional INR 195 billion to be allocated to PLI for manufacturing
solar PV modules

Emergency Credit Line  The Emergency Credit Line Guarantee Scheme for MSMEs extended
Guarantee Scheme for up to March 2023 with an additional guarantee cover of INR 500
MSMEs billion for hospitality and related enterprises

Special Economic Zone  Special Economic Zone Act to be replaced with new legislation to
Act enable the States’ partnership in the development of enterprise and
service hubs, optimally utilize the available infrastructure, and
enhance export competitiveness

PLI scheme  Production Linked Incentive (PLI) Scheme of the Centre has the
potential to create 60 lakh new jobs during the next five years.
 A scheme for design-led manufacturing will be launched to build a
strong ecosystem for 5G as part of the PLI scheme.
 For facilitating domestic manufacturing, an additional allocation of Rs
19,500 crore for PLI scheme for manufacturing of high efficiency
(solar) modules.

Empowerment of  Schemes such as Mission Shakti, Mission Vatsalya, Saksham

women Anganwadi and Poshan 2.0.
 Allocation of Rs 60,000 crore will be made under ‘Har Ghar Nal Se
Jal’ scheme to cover 3.8 crore households in 2022-23.

PM GatiShakti  PM GatiShakti National Master Plan will encompass the seven

engines for economic transformation, seamless multimodal
connectivity and logistics efficiency.
 The seven engines include roads, railways, airports, ports,
mass transport, waterways, and logistics infrastructure.
 To facilitate better movement of people and goods, The National
Highways Network will be expanded by 25,000 km in FY23
 400 new gen Vande Bharat trains to be manufactured in the next 3
years
 Railways will develop new products and logistic services for small
farmers and MSMEs
 ‘One Station- One Product’ concept will be promoted to help local
businesses and supply chains built on a hub and spoke model
 2,000 km of network to be brought under a new scheme, Kavach – for
safety and capacity augmentation
Union Budget 2022-23: Top Tax Highlights

Factor Analysis

Income tax  No change to corporate or personal income tax rates

Revised Income Tax  Taxpayers now have a two-year window to correct errors and file a
return policy revised income tax return for the relevant assessment year

Tax holiday  Tax holiday extended for start-ups incorporated up to 31 March

2023 and for new manufacturing companies commencing operations
by 31 March 2024

surcharge or cess  Retrospective amendment to deny the deduction of any surcharge or

cess paid on income and profits

Virtual digital assets  Gains taxed at 30 percent; deduction allowed only for the cost of
(VDA): acquisition;
 Benefit of set-off and carry forward of losses not available;
 Deemed gift tax provisions to apply; tax deduction at source (TDS)
at 1 percent introduced.

International Financial  Income-tax exemption expanded to, inter alia, specified income of
Services Centre (IFSC) non-resident from lease of a ship to IFSC units;
 Income of a nonresident from the transfer of specified derivative
instruments

Concessional tax regime  Concessional tax regime on foreign-sourced dividends to be

withdrawn from FY22

Alternate minimum tax  Cooperative societies pay 18.5% alternate minimum tax and
companies pay 15%. From now on the cooperatives too will have to
pay only 15%

Meaning of Government Budget

The government budget is an annual fiscal statement depicting the revenues and expenditures for a financial year
that is often moved by the legislature, sanctioned by the Chief Executive or President, and given by the Finance
Minister to the country. The budget is also known as the Annual Financial Statement of the nation.

Components of Government Budget

In terms of Article 112 (1) of the Constitution of India, a statement of estimated receipts and expenditure of the
Government of India is presented to the Parliament every year. Article 112(2) provides that the estimate of
expenditure embodied in this annual financial Budget, shall show separately. This Annual Financial Statement
comprises the main budget document of the government.
Whilst the budget document relates to the receipts and expenditures of the government for a particular fiscal year,
the effect of it will be there in the following years.

 There is an obligation to have two accounts that are associated with the current financial year and are
incorporated in the revenue account which is also known as revenue budget.
 Those that concern the assets and liabilities of the government into the capital account are known as the
capital budget.
 In order to comprehend the accounts, it is significant to understand the aims of the government budget.

Elements of Government Budget

There are two main elements of the Government Budget. They are as follows:
Budget receipts: It refers to the estimated receipts of the government from all the sources during a fiscal year. It is
of two types.

1. Capital receipts
2. Revenue receipts

Budget expenditure: It refers to the estimated expenditure of the government on various developmental as well as
non-developmental programs during a fiscal year. It is of two types.

1. Capital expenditure
2. Revenue expenditure

The above-mentioned is the concept that is explained in detail about Government Budget – Meaning and its
Components. To know more, stay tuned to our website.

Objectives of Government Budget

Reallocation of resources – It helps to distribute resources, keeping in view the social and economic advantages
of the country. The factors that influence the allocation of resources are:
Allowance or Tax concessions – The government gives allowance and tax concessions to manufacturers to
encourage investment.
Direct production of goods and services – The government can take the production process directly if the private
sector does not show interest.
Minimise inequalities in income and wealth – In an economic system, income and wealth inequality is an integral
part. So, the government aims to bring equality by imposing a tax on the elite class and spending extra on the well-
being of the poor.
Economic stability – The budget is also utilised to avoid business fluctuations to accomplish the aim of financial
stability. Policies such as deficit budget during deflation and excess budget during inflation assist in balancing the
prices in the economy.
Manage public enterprises – Many public sector industries are built for the social welfare of people. The budget is
planned to deliver different provisions for operating such business and imparting financial help.
Economic growth – A country’s economic growth is based on the rate of investments and savings. Therefore, the
budgetary plan focuses on preparing adequate resources for investing in the public sector and raising the overall
rate of investments and savings.
Decrease regional differences – It aims to diminish regional inequalities by implementing taxation and expenditure
policy and promoting the installation of production units in underdeveloped regions.
 Types of Budget in Brief:
The budget is divided into three types.
Balanced budget – A government budget is assumed to be balanced if the expected expenditure is similar to the
anticipated receipts for a fiscal year.
Surplus budget – A budget is said to be surplus when the expected revenues surpass the estimated expenditure
for a particular business year. Here, the budget becomes surplus when taxes imposed are higher than the expense.
Deficit budget- A budget is on deficit if the expenditure surpasses the revenue for a designated year.

Importance of Budget
Following are the importance of budget:
a. Though budgets do not assure 100% success in economic stability, they help to bypass failure.
b. A budget is a tool that transfers a general idea into a productive, action-oriented, and aspirational goal.
c. It acts as a device that identifies and focuses on the development of an underprivileged person.
d. It provides a benchmark to evaluate success or failure in achieving goals and provides suitable improving
measures.

Components of Government Budget

The budget is classified into two segments.
(i) Revenue budget – The revenue budget contains revenue expenditure and receipts. In these receipts, both tax
revenue (such as excise duty, income tax) and non-tax revenue (like profits, interest receipts) are recorded.
(ii) Capital budget – The capital budget includes the capital receipts (such as disinvestment, borrowing) and lengthy
capital expenditure (for instance, long-term investments, creation of assets). Capital receipts are government
liabilities or decreased financial assets, such as the recovery of loans, market borrowing, etc.

Budget: Its Components

Revenue Budget
The term Revenue budgets can be defined as forecasts of an entity’s revenues from sales and the expenditures
incurred, including budget-related to capital.

Revenue Receipt: Revenue receipts are receipts of the government from different recursive sources such as
taxes, interest, and dividend on government investment, cess and other receipts for services provided by the
government. Following are the different types of revenue receipts.
 Tax Revenue: The term Tax revenue can be defined as the all revenues collected from various taxes on income
and profits, social security contributions, different taxes levied on goods and services consumed, taxes on
ownership of wealth and transfer of the property, and different types of other taxes.
 Direct Tax: Direct Tax refers to the tax paid directly by an entity to the imposing authority. This is the tax that
cannot be transferred to the other entity.
 Indirect Tax: Indirect taxes refer to the taxes that are imposed by the government on goods and services
consumed. In contrast to direct taxes, it can be shifted to the other entity who consumes it finally.
 Non-Tax Revenue: Non-Tax Revenue refers to the income of the government which is earned from the
sources other than taxes. It is of recurring characteristics.
Revenue Expenditure: Revenue expenditure refers to the expenditure that is required for the normal running of
various departments and services provided by the government, interest charges on debt incurred by the
government, subsidies given to the various entity and so on.
Capital Budget
 Capital budgeting can be defined as the planning process by the government used to determine the worthiness
of long-term investments and projects funding of cash through the firm’s capitalization structure. This includes
investments in new machinery, new plants, new products, and research development

Capital Receipts: The term capital receipts refer to the receipts of the government which results in either
increase in liability or reduces the assets of the government.
Capital Expenditure: The term capital expenditure refers to the funds used by an entity to acquire, upgrade
and maintain physical assets such as property, buildings, an industrial plant, technology or equipment.

Types of Budget in Brief:

Outcome Budget: This was first established in 2005-06. This budget comprises of projects and schemes that
provide information on outlays of all central organisation and departments. This type of budget is a performance
budget of various ministries that handle the various development programs.
Zero-Based Budgeting: This type of budget practising was introduced by Peter Fiere. Each item in the budget
is allocated on the basis of merit rather than preference. It is prepared under the assumption that there was a
budget in the past.
Gender Budgeting: This was first introduced in 1984 in Australia. In India, gender budgeting was introduced
in 2005-06. Its main objective was to mainstream budget based on the gender perspective of all sectoral
programs and policies and also to empower women and gender justice.
Advantages of Budgetary Control
 Maximization of profits
 Co-ordination
 Specific aims
 Tool for measuring performance
 Introduction of incentive schemes

Classification of Expenditure

Expenditure definition
Expenditure is referred to as the act of spending time, energy or money on something. In economics, it means
money spent on purchasing any goods or services.
There are two categories of expenditures which are:

1. Revenue Expenditures
2. Capital Expenditures

Revenue Expenditures
Revenue expenditures are the expenditures incurred for the basis other than the creation of physical or financial
assets of the central government. These are associated with the expenses incurred for the normal operations of the
government divisions and various services, interest payments on debt sustained by the government, and grants
given to state governments and other parties.
Budget documents allocate total expenditure into plan and non-plan expenditures. These are shown in item 6 on the
table within revenue expenditure, a distinction is made between plan and non-plan. According to this categorisation,
a plan revenue expenditure is associated with central plans (the Five-Year Plans), and central aid for state and
union territory plans.
Non-plan expenditure, the more significant component of revenue expenditure, covers a broad degree of general,
economic, and social services of the government. The main objects of a non-plan expenditure are interest
payments, defence services, subsidies, salaries, and pensions.

Capital Expenditures
There are the expenditures of the government that result in the creation of physical or financial assets, or depletion
in financial liabilities. This incorporates expenditure on the investment of building, land, equipment, machinery,
investment in shares, and loans and advances by the central government to state and union territory governments,
Public Sector Undertakings (PSUs), and other parties.
Capital expenditure is also classified as plan and non-plan in the budget documents. A plan capital expenditure, like
its revenue equivalent, is associated with central plan and central assistance for state and union territory plans. A
non-plan capital expenditure covers different general, social, and economic services furnished by the government.
The Medium-term Fiscal Policy Statement sets a 3-year rolling target for specific fiscal indicators and examines
whether revenue expenditure can be financed through revenue receipts on a sustainable basis and how
productively capital receipts market borrowings are being consumed.
The Fiscal Policy Strategy Statement sets the preferences of the government in the fiscal sector, examining current
policies and justifying any deviation in important fiscal measures. The Macroeconomic Framework Statement
assesses the prospects of the economy for the GDP growth rate, the fiscal balance of the central government, and
external balance.

Distinguish between revenue expenditure and capital expenditure.

Answer:

Parameters Revenue Expenditure Capital Expenditure

Meaning Revenue expenditure refers to the expenditure Capital expenditure refers to the expenditure
that neither creates assets nor reduces the that either creates an asset or reduces the
liability of the government. liability of the government.
Nature They are regular and recurring. They are irregular and non-recurring.

Term Short-term Long-term

Example Payment of salaries, maintenance of roads, Repayment of loans, purchase of machinery,

street lights, etc. etc.

Example of Budget:
4
Difference between Contractionary and Expansionary Fiscal Policy

Fiscal policy is the financial tool that is used by the government to influence the aggregate demand of the
economy and also the total output of the economy.
Fiscal policy works by reducing or increasing the government spending and taxes as and when required
for controlling the economy.
There are two kinds of fiscal policy which is contractionary and expansionary fiscal policy.
Contractionary fiscal policy is said to be in action when the government reduces spending and increases
the taxes at the same time in the country.
The result of such a move is that there is very less money available in the market. It leads to reduction in
the purchasing power which results in declining consumption.
As less capital is available for business, the economy contracts and also causes unemployment.
Contractionary policy is used to control inflation.
Expansionary fiscal policy is said to be in action when the government increases the spending and lowers
tax rates for boosting economic growth. This increases consumption as there is a rise in purchasing
power. Businesses get easy access to credit and therefore invest in new projects and thus, GDP of the
nation is increased.

Contractionary Fiscal Policy Expansionary Fiscal Policy

Definition

Contractionary fiscal policy is defined as the type Expansionary fiscal policy is defined as the policy
of fiscal policy that works toward contracting the that works towards promoting the consumption in
economy the economy. It works for expansion of the
economy.

Impact on Aggregate Demand

It results in reduction of the aggregate demand It increase the aggregate demand

Impact on Consumption

Consumption decreases Consumption increases with expansionary fiscal

policy

Impact on Purchasing Power

Decline in purchasing power Increase in purchasing power

Impact on Inflation

It is implemented to keep inflation in check It is not used for any such purpose

Impact on fiscal deficit

Decrease in fiscal deficit is indicative of Increase in fiscal deficit is indicative of

contractionary fiscal policy expansionary fiscal policy

Definition, types and objectives of Fiscal policy

Fiscal policy, also known as Budgetary policy relates to two important issues. These are:

1. The items on which the government should spend

2. How the government should raise resources to finance its expenditure?

The answer to the first question will depend on the priorities of the government to solve
various economic, social and other problems that a country face. For example, if there is a constant threat
of attack from another country, the government has no choice but to spend more on defence. If there is a
threat of outbreak and spread of an epidemic, the government has to spend more on health services. If
the government had taken loan in the past, it has to spend more on interest payments.
On the second question the government has to consider various ways to raise resources. Should the
people be taxed more? Which section of the people to be taxed more? Which commodities are to be
taxed? How much the government should borrow? From whom should it borrow and in what form? The
answers to these questions are to be found in the policy objectives of the government.

The fiscal policy is concerned with the raising of government revenue and Government Budget increasing
expenditure. To generate revenue and to increase expenditures, the government finance or policy called
Budgeting policy or fiscal policy. The major fiscal measures are:

1. Public Expenditure – Government spends money on a wide variety of things, from the
military and police to services like education and health care, as well as transfer payments
such as welfare benefits.
2. Taxation – Government imposes new taxes and change the rate of current taxes. The
expenditure of government is funded by the imposition of taxes.
3. Public Borrowing – Government also raises money from the population or from abroad
through bonds, NSC, Kisan Vikas Patra, etc. 4. Other Measure – Other measures adopted by
the government are:

(a) Rationing and price control

(b) Regulation of wages
(c) Increase the production of goods and services.
Difference between fiscal and monetary policy

(Source: economicshelp.org)

Types of fiscal policy

(Source of infographic: freepik)

Objectives of Fiscal policy

1. To promote economic growth: Government promotes economic growth by setting up basic

and heavy industries like steel, chemical, fertilizers, machine tools, etc. It also builds
infrastructure like roads, canals, railways, airports, education and health services, water
and electricity supply, telecommunications, etc. that foster economic growth. Both basic
and heavy industries and infrastructure require huge amount of investment which
normally the private sector does not take up. Since these industries and infrastructure
 facilities are essential for economic growth in the country, the burden to set up and
develop them falls on the government.
2. To reduce income and wealth inequalities: Government reduces inequalities in income and
wealth by taxing the rich more and spending more on the poor. Further, it provides for the
employment opportunities to poor that help them to earn.
3. To provide employment opportunities: Employment opportunities are increased by the
government in various ways, One, jobs are created when it sets up public sector
enterprises. Two, it provides subsidies and other incentives like tax holidays, low rates of
taxes etc. to private sector that encourage production and employment. It also encourages
setting up of small scale, cottage and village industries by people which are employment
oriented. This it does by providing them tax concessions, subsidies, grants, loans at low
rates of interest, etc. Finally, it creates jobs for poor when it undertakes public works
programmes like construction of roads, bridges, canals, buildings, etc.
4. To ensure stability in prices: Government ensures stability of prices of essential goods and
services by regulating their supplies. Hence, it incurs expenditure on ration and fair price
shops that keep sufficient stock of food grains. If also subsidizes cooking gas, electricity,
water and essential services like transport and maintains their prices at low level
affordable to the common man.
5. To correct balance of payments deficit: The balance of payments account of a country
records its receipts and payment with foreign countries. When payments to foreigners are
more than receipts from foreigners, the balance of payments account i s said to be in deficit.
Quite often this deficit is caused when a country imports more than it exports.
Consequently, the payments on imports to foreigners are more than the receipts from
exports. In such a situation, to reduce the deficit in balance of p ayment account, the
government discourages imports by increasing taxes on them and encourages exports by
increasing subsidies and other export incentives. However, it should be noted that tax on
import is not a popular measure now as it is treated as an ob stacle to free flow of goods
and services between countries.
6. To provide for effective administration: Government incurs expenditures on police, defence,
legislatures, judiciary, etc. to provide effective administration.

Fiscal policy is a means to use government spending and taxation to influence the economic situation. It is
different from the monetary policy that is under the control of the central bank in that country. Together
these two policies can help a country to achieve its economic goals. The three main components of the
Fiscal Policy of any country are – government receipts (revenue and capital), government expenditure
(revenue and capital) and public debt.
MCQs on fiscal policy:

1. One of the most significant fiscal policy objectives in India is to bring the revenue
expenditures and receipts to the same level. Which of the following steps will help to
achieve that objective?
a. The efforts to raise the total profits for public sector units
b. The efforts to improve the revenues from tax collection
c. The efforts to slow the growth rate for expenditures in the country
d. All of the above

Answer: d

2. Which of the following agencies is responsible for formulating the Fiscal Policy in India?
a. Securities and Exchange Board of India (SEBI)
 b. Reserve Bank of India (RBI)
c. Ministry of Finance, Government of India
d. National Bank for Agricultural and Rural Development (NABARD)

Answer: c

3. Which of the following items is classified as a Capital Receipt in the budget for the
Government of India?
a. The receipts from the collection of income tax
b. The borrowings made by the government from the public
c. The dividends and profits received from the public sector units
d. The interest receipts for loans given by the government to its debtors

Answer: b

4. The importance of fiscal policy in a country like India is that ___________.

a. It plays a major role in increasing the rate of formation of capital both for public and private
sector units
b. It aims to reduce the imbalance in the distribution of income and wealth
c. It helps to generate sufficient resources, through direct and indirect taxes, to finance the
government projects
d. All of the above

Answer: d

5. Which of the following is not a part of the revenue receipts for the Government of India?
a. The receipts from the collection of interest amount from its debtors
b. The receipts from the collection of corporate taxes
c. The dividends and profits received from the public sector units
d. The receipts from disinvestment of public sector undertakings

Answer: d

6. Which of the following is the definition of a budget deficit?

a. Excess of the total expenditure over the total receipts minus interest payments and
borrowings
b. Excess of the total expenditure over the total receipts minus borrowings
c. Excess of the revenue expenditure over the revenue receipts
d. Excess of the total expenditure over the total receipts

Answer: d

7. Which of the following is a development that can occur as a result of deficit financing?
a. The rise in inflation within the Indian economy
b. The improvement in money supply in the Indian economy
c. The increase in government debt
d. All of the above

Answer: d
8. Which of the following steps under the fiscal policy is an example for stabilising the
economy?
a. Making payments towards unemployment insurance benefits
b. Making payments towards pensions for retired military personnel
c. Allocating more capital for spending on construction of national highways
d. Decreasing the supply of money within the economy

Answer: a

9. Which of the following steps under the fiscal policy is an example for stabilising the
economy?
a. Making payments towards unemployment insurance benefits
b. Making payments towards pensions for retired military personnel
c. Allocating more capital for spending on construction of national highways
d. Decreasing the supply of money within the economy

Answer: a

10. Which of the following is included as a part of the capital budget for the government of
India?
a. Loans provided to foreign governments
b. Financial assistance provided by institutions like the World Bank and International
Monetary Fund
c. Expenditure made towards acquiring of foreign aircrafts
d. All of the above

Answer: d

11. Which of the following is the best explanation for ‘Capital Gains Tax’ in India?
a. It is a tax levied on the profits from the selling of shares that were held for more than 12
months
b. It is a tax levied on the interest that was received from bank fixed deposits
c. It is a tax levied on the profits from the sale of a capital asset during the financial year
d. It is the tax levied on dividends received from corporate bonds

Answer: c

12. Which of the following is not a part of the development expenditure undertaken by the
Government of India?
a. The grants provided to state governments
b. The expenditure towards providing community and social services
c. The expenditure towards providing economic services
d. The expenditure as a part of the defence budget

Answer: d

13. Which of the following is true about the annual budget prepared by the Government of
India?
a. It is a part of the money-saving policy of the government
b. It is a part of the fiscal policy of the government
c. It is a part of the monetary policy of the government
 d. It is a part of the commercial policy of the government

Answer: b

14. Which of the following describes the correct scenario if the Government of India fails to pass
the budget?
a. The entire council of ministers have resigned and the government falls down
b. The Finance Minister requests the speaker of the house for extra time to pass the budget
c. The budget from the last year continues
d. None of the above

Answer: a

15. Which of the following is the correct meaning for the revenue budget?
a. It is the difference between revenue expenditure and revenue receipts
b. It is the total revenue deficit excluding grants in aid to create assets for states
c. It is the total revenue deficit including grants in aid for developing assets for states
d. It is the difference between total expenditure and total receipts

Answer: b

MARKET FAILURE

Introduction to Market Failure

Market failure happens when the price mechanism fails to allocate scarce resources efficiently or when
the operation of market forces lead to a net social welfare loss.

Market failure exists when the competitive outcome of markets is not satisfactory from the point of view
of society. What is satisfactory nearly always involves value judgments.

Complete and partial market failure

 Complete market failure occurs when the market simply does not supply products at all - we see
"missing markets"

 Partial market failure occurs when the market does actually function but it produces either the wrong
quantity of a product or at the wrong price.
 Reason Market Failure

1. Negative externalities (e.g. the effects of environmental pollution) causing the social cost of production to
exceed the private cost
2. Positive externalities (e.g. the provision of education and health care) causing the social benefit of
consumption to exceed the private benefit
3. Imperfect information or information failure means that merit goods are under-produced while demerit
goods are over-produced or over-consumed
4. The private sector in a free-markets cannot profitably supply to consumers pure public goods and quasi-
public goods that are needed to meet people's needs and wants
5. Market dominance by monopolies can lead to under-production and higher prices than would exist under
conditions of competition, causing consumer welfare to be damaged
6. Factor immobility causes unemployment and a loss of productive efficiency
7. Equity (fairness) issues. Markets can generate an 'unacceptable' distribution of income and consequent
social exclusion which the government may choose to change
Difference between Merit Goods and Pure Public Goods

What Is Market Failure?

Market failure, in economics, is a situation defined by an inefficient distribution of goods and services in
the free market. In market failure, the individual incentives for rational behavior do not lead to rational
outcomes for the group.

In other words, each individual makes the correct decision for themselves, but those prove to be the
wrong decisions for the group. In traditional microeconomics, this can sometimes be shown as a steady-
state disequilibrium in which the quantity supplied does not equal the quantity demanded.

KEY TAKEAWAYS
  Market failure occurs when individuals acting in rational self-interest produce a less than optimal
or economically inefficient outcome.
 Market failure can occur in explicit markets where goods and services are bought and sold
outright, which are thought of as typical markets.
 Market failure can also occur in implicit markets as favors and special treatment are exchanged,
such as elections or the legislative process.
 Market failures can be solved using private market solutions, government-imposed solutions, or
voluntary collective actions.

Market Failure
A market failure occurs whenever the individuals in a group end up worse off than if they had not acted
in perfectly rational self-interest. Such a group either incurs too many costs or receives too few benefits.
The economic outcomes under market failure deviate from what economists usually consider optimal
and are usually not economically efficient.1 Even though the concept seems simple, it can be misleading
and easy to misidentify.

Contrary to what the name implies, market failure does not describe inherent imperfections in the
market economy—there can be market failures in government activity, too. One noteworthy example
is rent-seeking by special interest groups.2 Special interest groups can gain a large benefit by lobbying for
small costs on everyone else, such as through a tariff. When each small group imposes its costs, the whole
group is worse off than if no lobbying had taken place.

Additionally, not every bad outcome from market activity counts as a market failure. Nor does a market
failure imply that private market actors cannot solve the problem. On the flip side, not all market failures
have a potential solution, even with prudent regulation or extra public awareness. 3

Common Types of Market Failure

Commonly cited market failures include externalities, monopoly, information asymmetries, and factor
immobility.1 One easy-to-illustrate market failure is the public goods problem. Public goods are goods or
services which, if produced, the producer cannot limit its consumption to paying customers and for which
the consumption by one individual does not limit consumption by others.4

Public goods create market failures if some consumers decide not to pay but use the good anyway.
National defense is one such public good because each citizen receives similar benefits regardless of how
much they pay. It is very difficult to privately produce the optimal amount of national defense. Since
governments cannot use a competitive price system to determine the correct level of national defense,
they also face major difficulty producing the optimal amount. This may be an example of a market failure
with no pure solution.

Solutions to Market Failures

There are many potential solutions for market failures. These can take the form of private market
solutions, government-imposed solutions, or voluntary collective action solutions.

Asymmetrical information is often solved by intermediaries or ratings agencies such as Moody’s and
Standard & Poor’s to inform about securities risk. Underwriters Laboratories LLC performs the same task
for electronics. Negative externalities, such as pollution, are solved with tort lawsuits that
increase opportunity costs for the polluter.5 Tech companies that receive positive externalities from tech-
educated graduates can subsidize computer education through scholarships.

Governments can enact legislation as a response to market failure. For example, if businesses hire too few
low-skilled workers after a minimum wage increase, the government can create exceptions for less-
skilled workers. Radio broadcasts elegantly solved the non-excludable problem by packaging periodic
paid advertisements with the free broadcast.

Governments can also impose taxes and subsidies as possible solutions. Subsidies can help encourage
behavior that can result in positive externalities. Meanwhile, taxation can help cut down negative
behavior. For example, placing a tax on tobacco can increase the cost of consumption, therefore making it
more expensive for people to smoke.6

Private collective action is often employed as a solution to market failure. Parties can privately agree to
limit consumption and enforce rules among themselves to overcome the market failure of the tragedy of
the commons.3 Consumers and producers can band together to form co-ops to provide services that
might otherwise be underprovided in a pure market, such as a utility co-op for electric service to rural
homes or a co-operatively held refrigerated storage facility for a group of dairy farmers to chill their milk
at an efficient scale.

What Are Common Types of Market Failures?

Types of market failures include negative externalities, monopolies, inefficiencies in production and
allocation, incomplete information, inequality, and public goods.

How Can Market Failure Be Corrected?

The primary means by which market failure can be corrected is through government intervention. This
requires the government to pass legislation, such as antitrust policies, and incorporate various price
mechanisms, such as taxes and subsidies.

Is Poverty a Market Failure?

Poverty is considered to be a result of market failure. When a recession hits, the poverty rate increases
because employees lose their jobs or lose working hours, which results in no income or less income,
respectively. Inequality, which is a component of market failure, can eventually lead to poverty when
wealth is not distributed equally throughout society. This can be remedied with government
intervention, such as by taxing the wealthy more or incorporating subsidies for those below the poverty
level.

PUBLIC GOODS VERSUS PRIVATE GOODS

Public goods, as the name suggests, are for the facility and welfare of the public in general for free of cost.
Whereas, private products are the ones which are sold by private companies to earn profits and fulfil the
needs of the buyers. This is a significant difference between these two types of goods.

However, both public goods and private goods are for the consumer’s benefit; they differ drastically from
each other. But, where public goods benefit the mass population, private products are only for those who
have affordability. To know these differences in detail, read below.

Content: Difference Between Public Goods and Private Goods

1. Difference and Comparison

2. Types of Goods
3. What are Public Goods?
4. What are Private Goods?
 5. Advantages
6. Disadvantages
7. Summary

Difference and Comparison

BASIS PUBLIC GOODS PRIVATE GOODS

Meaning Public goods are the ones which Private goods are the ones which are

are provided by the nature or manufactured and sold by the private

the government for free use by companies to satisfy the consumer

the public. needs and wants.

Provider Nature or government Manufacturers i.e. entrepreneurs

Consumer Rich and poor are treated Preference to rich consumers

equality equally

Availability Readily available to all Reduces with each consumption

Quality Remains constant Varies with ability to buy

Decision Social choice Consumer's decision

Objective Overall growth and Profit earning

development

Traded in Free No Yes

BASIS PUBLIC GOODS PRIVATE GOODS

Market

Opportunity No Yes

Cost

Free riders Yes No

problem

Rivalry Non-rival Rival

Excludability Non-excludable Excludable

Demand Curve Horizontal Vertical

Examples Police service, fire brigade, Clothes, cosmetics, footwear, cars,

national defense, public electronic products and food

transport, roads, dams and river

Types of Goods

Before we read about the different kinds of goods available, we must clearly understand the meaning of
the following two determinants of these types:

 Rivalry: Rivalry can be perceived as competition in consumption i./e. If one person consumes a
particular good, the other has to let go of the opportunity of using it simultaneously.
 Excludability: The term excludability refers to the restriction on the usage of a product limited to the
people who have paid for it.
Now, by the above two attributes, the goods are categorized into the following four types:

1. Private Goods: The products which are rival and excludable at the same time as clothes, cosmetics
and electronics are termed as private goods.
2. Common Goods: These goods are though rival but are non-excludable, including a public library and
playgrounds which can be used by anyone. Also, usage by one person or team restricts its usage by
the other person or group.
3. Club Goods: Such goods are though excludable but are not rival like the telephone and electricity
which are both chargeable, but many people can relish these services simultaneously.
4. Public Goods: The goods which are non-rival and non-excludable at the same time, for instance,
road, bridge and dams are called public goods.

What are Public Goods?

Public goods are the commodities or services provided by the nature of the government of a country, free
of cost or by taxing the few people to offer mass benefit to the public in general.
Characteristics of Public Goods

These commodities or services develop the infrastructure and living standard of a country. To know
more about public goods, let us go through its following features:

 Non-Rival: The public goods are non-competitive, i.e. it can serve many people at the same time
without hindering the usage of one another.
 Non-Excludable: These goods are usually free of cost and can be used by anyone without any
restriction.
 Non-Rejectable: The consumption of such goods cannot be dismissed or unaccepted by the public
since it is available collectively to all the people.
 Free-Riding: The goods categorized under public goods benefit even those who have not paid for it.
Such people are termed as free-riders.

What are Private Goods?

Private goods are the products or services which are manufactured or produced by the companies owned
by entrepreneurs who aim at meeting customer’s requirement to earn profits through the trading of such
goods in the free market.

Characteristics of Private Goods

Private goods serve the personal needs of consumers. Following are the various characteristics of these

goods:

 Rival: The private products involve rivalry or competition among the consumers for its usage since
the consumption by one person will restrict its use by another.
  Excludable: These goods involve cost, and therefore the non-payers are excluded from the
consumption.
 Rejectable: Private goods can be unaccepted or rejected by the consumers since they have multiple
alternatives and the right to select the product according to their preference.
 Traded in Free Market: Such goods can be freely bought and sold in the market at a given price.
 Opportunity Cost: These goods have an opportunity, i.e. the consumer has to let go of the benefit
from a similar product while selecting a particular private commodity.

Advantages of Public Goods

Public goods carry the mass benefit for the people. They have a broader perspective.

These goods can be used by many people or the public simultaneously. These are usually free of cost and
can be utilized by the rich and poor equally.
The primary objective of such goods is to provide essential amenities to the public in general, along with
promoting social welfare and development of the nation as a whole.
Advantages of Private Goods

These goods have a mutual benefit for the manufacturers and the consumers; both serve their purpose
through the selling and buying of such products respectively.

Private goods are essential to carry on trade activities for economic development. It is done with
the motive of earning a profit from the entrepreneurs.
Such goods restrict the consumption by the people who do not have buying capacity, thus limiting its
usage by the rich in other words it discourages the free-riders.

Disadvantages of Public Goods

Let us see some of the limitations of public goods, elaborated below:

For providing public goods to be used by all the people, government charges tax from a few consumers
while the others are free to use the services or commodities even without paying for it. They are
called free-riders. Some also find a way for tax evasion. This increase the cost of production of such
products for the government and leads to market failure.

Moreover, these facilities or benefits are taken for granted and misused or not maintained by some
people since they have not paid for it and did not realise its value.
Disadvantages of Private Goods

Now, to find out the drawbacks of private goods, read below:

Private goods are manufactured by the private sectors, and therefore they function on demand and
supply concept. These products or services goes on decreasing with each use since the goods bought by
one consumer cannot be purchased by the other.

These goods create discrimination among the rich and the poor or the payers and the non-payers since
they limit the access for those who don’t have purchasing power.

Summary

1. Public goods are produced by the government or by nature for the welfare of the people without
any cost. But private products are the ones manufactured and sold by private companies to earn a
profit.
2. When nature or the government provides public goods, private goods are produced by the
businessmen or the entrepreneurs.
3. In the case of public goods, rich or poor can equally benefit from such goods. Whereas, in fact of
private products, only rich people who have the purchasing power can relish its benefits.
4. The former is readily available and accessible by all the public. However, the latter diminishes with
the consumption of each unit by the consumers.
5. The quality of public goods remains constant for all consumers. But, the quality of private goods
vary as per the purchasing power, i.e. more purchasing power means a better quality of the
product.
6. Public goods are a social choice, i.e. it aims at benefiting society as a whole. Whereas, private
products is a consumer’s preference and decision-based on individual needs.
7. The primary objective of the former is the growth and development of the country; however, the
latter aims at profit earning by the entrepreneurs.
 8. Public goods cannot be traded in the free market, whereas private products are sold in the open
market only.
9. When public goods have no opportunity cost, private goods have an opportunity cost where the
person choose one product over the other.
10. Public goods are available to even those who did not pay any tax known as free-riders, whereas the
same is not the case in private products.
11. The former is non-rival, i.e. it is available and can be used equally by all the public at the same time.
However, the latter is rival and cannot be used by the two or more people simultaneously.
12. Public goods do not discriminate or restrict people by the buying capacity; these are freely
assessable by all. On the contrary, private goods are excludable and prevent its consumption by the
people who don’t have purchasing power.
13. The demand curve for public goods is horizontal, whereas the demand curve for private products is
vertical.
14. The various examples of public goods are police service, fire brigade, national defence, public
transport, roads, dams and river. On the contrary, clothes, cosmetics, footwear, cars, electronic
products and food are examples of private goods.

Both the goods, public and private are essential for the development of a country.

Public goods are a necessity to provide the essential amenities to the people for improving the quality of
life.

Private goods are equally essential to meet the consumer needs and requirements, enhance the trade
activities in a country and promote economic development.