Government Budget &

The Economy
 Budget: Meaning & Features
 Meaning
• It is a statement of the estimates of the government
receipts and government expenditure during the period
of the financial (fiscal) year.
• Budget is an important instrument to describe the
fiscal policy of the government.
• The budget unfolds:
(i) the financial performance of the government last
year, and
(ii) the financial programmes and policies of the
government for the next one year.
• It has two aspects: (i) revenue aspect, and
(ii) expenditure aspect.
 Features
▪ It is an estimate and not an actual statement.
▪ It is prepared annually.
▪ It is a constitutional requirement to present budget
before Parliament.
▪ Revenue and expenditure are planned according to
government budget.
▪ Budget impacts the economy through aggregate
fiscal discipline and resource allocation.
Pillars of Government Budget
 Objectives of Govt. Budget
(i) Redistribution of Income & Wealth
• The government uses fiscal instruments of taxation (govt.
revenue) & subsidies (govt. expenditure) to improve the
distribution of income & wealth in the economy.
• Higher taxes can be imposed by the government on
income earned by the rich and also on the goods
consumed by them in order to reduce their personal
disposable income.
• Equitable distribution of income is a way to social justice.
• It is also known as distribution function.
(ii) Reallocation of Resources
• It refers to the change in the direction of resources from
one use to the other.
• It is done with a view to balance the goals of profit
maximization & social welfare.
• Production of goods which are injurious to health (like
wine) is discouraged through heavy taxation.
• On the other hand, production of ‘socially useful goods’
(like khadi), is encouraged through subsidies.
• It is also known as allocation function.
(iii) Economic Stability
• Free interaction of market forces i.e., the forces
of supply and demand are bound to generate
trade cycles, also called business cycles.

• Budget is used as an important policy instrument to

combat the situations of deflation and inflation.
• Economic stability increases the rate of growth and
development.
• It is also known as stabilization function.
(iv) Managing Public Enterprises
• The government seeks to accelerate the pace of
growth by establishing public sector enterprises.
• The budgetary policy of the government targets to
increase the rate of growth through public enterprises.
• Often, public sector enterprises are encouraged in
areas where private monopolies occur.
(v) GDP Growth
• GDP growth is the central objective of government
budgetary policy.
• It is achieved in two ways:
(i) by making public investment on infrastructure, and
(ii) by inducing private investment through tax rebates and
subsidies.
 Structure of the Budget /
Components of Budget

(A) Budget Receipts (BR) – Budget receipts refer to

estimated money receipts of the government from
various sources during a given fiscal year. Budget
receipts are classified as:
(a) Revenue receipts (b) Capital receipts
(a) Revenue Receipts
• These receipts:
▪ do not create a corresponding liability for the govt.
e.g., tax receipts.
▪ do not lead to reduction in assets of the government
e.g., fees, fines, grants etc.
(i) Tax Revenue Receipts – Receipts from all types of
direct and indirect taxes e.g., income tax, corporation tax,
sales tax etc.
• A tax is a compulsory payment made by an
individual/firm to the government without anything
corresponding in return.
• It is spent for public welfare.
• Taxes are imposed legally i.e., according to the law of
land.
 Difference b/w Direct Tax &
Indirect Tax
Basis Direct Tax Indirect Tax
1. Meaning Incidence & impact is on the Incidence & impact is on
same person. different persons.
2. Scope Levied on income & Levied on production & sale of
property. goods & services.
3. Shifting Burden cannot be shifted. Burden can be shifted.
4. Nature Progressive Regressive
5. Effect on No effect on market price of Have a direct effect on market
Market Price
commodities. price of commodities.
 Progressive tax – Progressive tax implies that the rate of
tax increases with the increase in the income.
 Regressive tax – Regressive tax implies that the rate of
tax decreases with increase in income.
(ii) Non-tax Revenue Receipts - Non- tax receipts are those
receipts which are received from the sources other than the
taxes.
● Fees – It is a revenue which is paid to the government for the
special services rendered.
● Fines & Penalities - These are those payments which are made for
breaking a law. Its actual aim is to force the people to be law
abiding.
● License & Permit – It is payment made to government to seek
permission for something.
● Escheat – Under the right of escheat, the government may acquire
the property, bank balances etc. of the person who dies without
having any legal heirs.
● Income from public enterprises - Many enterprises are owned by
the government. Government earns profit from public sector
enterprises.
● Gifts and Grants - This is not a permanent source of revenue. This
is generally received during natural calamities.
(b) Capital Receipts
● These receipts:
• create a corresponding liability for the government, e.g.,
borrowings,
• lead to reduction in assets of government e.g.,
disinvestment, recovery of loans.
(i) Borrowings and Other Liabilities - Borrowing create
liability for the government. Accordingly, borrowings are
to be treated as capital receipts.
It is a debt creating capital receipt.
(ii) Recovery of Loans – The debtors are assets for the
government. Recovery of loans causes a reduction in
assets of the government. Hence, recovery of loans is a
capital receipt.
It is a non-debt capital receipt.
(iii) Other Receipts – It includes proceeds from
‘disinvestment’. Disinvestment occurs when the
government sells off its shares of public sector
enterprises to private sector. It is treated as capital
receipt because it causes reduction in assets of the
government.
It is a non-debt creating capital receipt.
 Basis Revenue Receipts Capital Receipts
1. Creation Do not create any Creates
of Liability corresponding corresponding
liabilities. liabilities.
2. Reduction Do not cause any Causes reduction in
in Assets reduction in assets. assets.

3. Effect on Assets and liabilities Assets and liabilities

assets and of the government are of the government
liabilities of not affected. are affected.
Govt. .
4. Examples Tax and non-tax Borrowings,
revenue receipts. recovery of loan
(B) Budget Expenditure
Budget expenditure or government expenditure refers
to the estimated expenditure of the government, on its
‘development and non development programmes’ or on
its ‘plan and non plan programmes’ during the fiscal
year.
(a) Revenue and Capital Expenditure

(i) Revenue Expenditure

● This expenditure:
• does not create assets of the government,
• does not cause a reduction in liabilities of the govt.
For example, old age pensions, salaries and scholarship
etc.

(ii) Capital Expenditure

● This expenditure:
• either create assets of the government or,
• causes a reduction in liabilities of the govt.
For example, purchase of shares of MNC’s, repayment of
loans etc.
(b) Plan Expenditure and Non-plan Expenditure
(i)Plan Expenditure
● It is incurred during the year in accordance with the central
plan of the country.
● It is incurred on financing the objectives of central plans of
different sectors of the economy.
For example, planned expenditure on health, education law and
order etc.

(ii)Non- Plan Expenditure

● It Non- plan refers to all such government expenditures
which are non-planned.
● It is incurred on financing those projects which are not
planned in the central plan.
For example, expenditure as a relief to the earthquake victims
etc.
(c) Development Expenditure and Non-
development Expenditure
(i)Development Expenditure
● It is incurred on economic and social development of
the country.
● It relates to growth and development projects of
the country.
For example, expenditure on development of agriculture,
industries, health, education etc.

(ii) Non- development Expenditure

● It is incurred on general services of the government
which do not usually promote economic
development.
● It relates to non-developmental activities of the
government.
For example, expenditure on administration, defence, justice etc.
Difference b/w Revenue Expenditure and
Capital Expenditure
Basis Revenue Expenditure Capital Expenditure
1. Creation of It does not create any It creates
Assets corresponding asset. corresponding asset.

It does not cause any

2. Reduction in reduction in the It causes a reduction in
Liabilities liabilities. the liabilities.

3. Effect on Assets and liabilities

assets & are not affected. Assets and liabilities
liabilities of are not affected.
Govt.
 Budget Deficit
Budgetary deficit is defined as the excess of total
estimated expenditure over total estimated revenue.
When the government expenditure exceeds its revenue it
incurs a budgetary deficit.
Budget Deficit = BE (RE +CE) ─ BR (RR + CR)
Types of Budgetary Deficit
I. Revenue Deficit (RD)
● This deficit occurs in revenue budget of the govt.
Revenue deficit is concerned with the revenue
expenditure and revenue receipts of the government.
Revenue deficit = RE - RR
● In other words, government’s revenue is insufficient
to meet the expenditure on normal functioning of
government departments and provisions for various
services.
Implications of Revenue Deficit
(i) It indicates the inability of the govt. to meet the expenditure on
routine functioning of the economy.
(ii) Includes current income & expenditure of the government.
(iii) It implies dis-savings on government account.
(iv) Govt. has to finance it from capital receipts.

Measures to reduce Revenue Deficit

• Govt. should reduce its wasteful expenditure.
• By curtailing non-plan expenditure.
• Increase in existing tax rate and impose new taxes.
• Tax evasion should be controlled.
(II) Fiscal Deficit (FD)
● Fiscal deficit refers to the excess of total
expenditure over total receipts (excluding
borrowings) during a given fiscal year.
Fiscal Deficit = TE - TR (Excluding Borrowings)
Implications of Fiscal Deficit
(a) Debt Trap – Fiscal deficit increases the future liability of
the Govt. in the form of payment of interest & repayment of
loans. This may increase the revenue deficit. Therefore, the
Govt. is required to borrow more to pay interest & repay old
loans. It is known as debt trap.
(b) Causes Inflation – Govt. generally borrows from RBI. RBI
prints more currency to meet the fiscal deficit. It increases
the circulation of money supply in the economy & causes
inflation. It is also known as deficit financing.
(c) Increase in Foreign Dependence

(d) Financial Burden for Future Generations

Measures to finance Fiscal Deficit
(a) Borrowings
(b) Deficit financing

Measures to reduce Revenue Deficit

• Govt. should reduce its wasteful expenditure.
• By curtailing non-plan expenditure.
• Increase in existing tax rate and impose new taxes.
• Tax evasion should be controlled.
(iii) Primary Deficit (PD)
● Primary deficit refers to the difference between
fiscal deficit of the current year and interest
payments on the previous borrowings.
Primary Deficit = FD - Interest Payments
● To calculate the amount of borrowings on account
of current expenditure exceeding revenue, we
need to calculate the amount of the primary deficit.
It is done by subtracting interest from fiscal deficit.
Implications of Primary Deficit
(i) It indicates how much govt. borrowings are required
to meet its existing expenses other than interest payments on
public debt.
(ii) A zero primary deficit means that the govt. has to resort to
borrowings only to meet its interest payments on public debt.

Measures to Reduce Primary Deficit

(a) Efforts should be made to reduce fiscal deficit.
(b) To reduce fiscal deficit, interest payments should be reduced
through repayment of loans as early as possible.
 An Extra Mile
I. Types of Budget
(A) Balanced Budget – A govt. Budget is said to be
balanced budget in which government estimated
receipts are equal to government estimated
expenditure. This budget has a neutral effect on the
level of economic activity.
(B) Unbalanced Budget - An unbalanced budget is\
that budget in which receipts and expenditure of the
government are not equal.
It may be:
(i) Surplus Budget - Surplus budget is a budget in
which the govt. Estimated receipts are greater than
govt. estimated expenditure.
Here the govt. soaks money supply.
(ii) Deficit Budget - Deficit budget is the budget in
which estimated govt. expenditure are greater than
govt. receipts.
Here the govt. injects more money supply.