CONCEPTS OF DEFICITS AND FRBM ACT, 2003.

Q1. Write a note on concepts of deficits and their trends.

Ans . CONCEPTS OF DEFICITS:

•INTRODUCTION :

A public budget is a systematic estimate of government’s revenue and expenditure for a period of one year. It shows the planned expenditure of the government and the expected revenue from taxes and other sources during a given year. A public budget can be balanced, surplus or deficit. A deficit in a budget indicates excess of expenditure over receipts.

•CONCEPTS:

In India, the budget has always shown deficit. A deficit in the budget has many implications for the economy and it influences the process of policy making. The followings are the various concepts of deficits and their changing trends in India.

1) REVENUE DEFICIT :

Revenue deficit takes place when revenue expenditure exceeds revenue receipts.

Revenue receipts comprises of direct and indirect taxes, fees, fines, and surpluses of public enterprises, etc.

Revenue expenditure is the expenditure incurred on administration, defence, interest payments and subsidies.

Trends :

The Government of India has shown the following trends in Revenue Deficit:

Yr .Rs . ( in crores)% of GDP

1990-9118,5623.3

2007-0852,5691.1

2009-102,82,7354.6

Revenue deficit has increased to a great extent since 1990-91. The major reason for this increase can be attributed to increase in INTEREST PAYMENTS and SUBSIDIES.

In 2007-08 the revenue deficit in terms of % of GDP declined.

However, in 2008-2009 and 2009-2010 revenue deficit rose significantly (both in absolute terms and in terms of % of GDP ) to overcome the problem of economic slow down.

2) BUDGET DEFICIT :

Budget deficit is the excess of total budget expenditure over total budget receipts.

Both, revenue and capital expenditure and receipts are taken into consideration.

However, the concept of budget deficit has lost its significance since 1997-98.

3) FISCAL DEFICIT :

Fiscal deficit (FD) occurs when total expenditure (TE) including net lending (NL) exceeds revenue receipts (RR)+ external grants (EG) + non debt capital receipts (NDCR). Thus fiscal deficit can be explained as :

FD = (TE + NL) – ( RR + EG + NDCR).

Where :

FD = Fiscal deficit, TE = total expenditure, NL = net lending ( loans – recovery ), RR = revenue receipts, EG = external grants, NDCR = non debt capital receipt (proceeds from disinvestment of public sector enterprises )

Also, fiscal deficit can be :

•Gross Fiscal deficit = (TE+NL) – ( RR + EG + NDCR)

•Net Fiscal deficit = GFD – NL.

Trends in Gross Fiscal Deficit :

Yr.Rs. ( in crores )% of GDP

1990-9137,6066.6

2007-20081,26,9122.6

2009-104,00,9966.5

Fiscal deficit reflects the indebtedness of the government more comprehensively has been

since 1991, the Government making attempts to reduce fiscal deficits. However , the fiscal deficit continued to rise till 2001-02.

Since 2001-02, GFD as q % of GDP began to decline as a result of the governments efforts.

Again in 2008-09, due to global economic slowdown , public expenditure increased significantly to boost growth rate.

4) Primary Deficit :

Primary Deficit is equal to fiscal deficit minus interest payments.

It can be divided into

•Gross Primary Deficit = GFD – interest payments.

•Net Primary Deficit = NFD – interest payments.

Trends:

Yr.Rs. ( in crore )% of GDP

1990-9116, 1082.8

2006-07-7,699-0.2

2009-101754852.8

This indicates that the Government has been making efforts to bring down the fiscal deficit .

However huge amount of interest payments and economic slowdown in 2008-09. Obstructed these efforts.

Q 2. Critically evaluate the FRBM Act, 2003.

Ans. FISCAL RESPONSIBILITY AND BUDGET MANAGEMENT ACT, 2003. ( FRBM ACT, 2003)

•INTRODUCTION :

The Fiscal responsibility and Budget management Bill was introduced in the parliament in December 2000, with the primary objective of reducing the debts and deficits of the central Government .

The FRBM bill became an Act on August 26, 2003 and it was brought into force on July 5, 2004.

•OBJECTIVES :

The following are the main objectives of the FRBM Act, 2003.

1) To set a limit on the governments borrowings.

2) To bring down fiscal deficits.

3) To adopt prudent debt management techniques to reduce the burden of debt payment on future generations.

4) To generate revenue surplus.

5) To ensure long term macro-economic stability.

6) To improve transparency in the fiscal operations of the Government.

•FEATURES :

The following are the main features of the FRBM Act, 2003 and the FRBM Rules, 2004:

1) FISCAL DEFICIT :

The FRBM Rules, 2004 stipulate that the central Government must take appropriate measures to reduce the fiscal deficit by 0.3% or more of GDP at the end of each financial year, beginning with 2004-2005, so that the fiscal deficit is less than 3% of the GDP by the end of 2008-2009.

1) REVENUE DEFICIT : The FRBM Rules, 2004 stipulate that the central Government must take appropriate measures to reduce the revenue deficit by an amount of 0.5% or more of the GDP at the end of each financial year, beginning with 2004-2005.

The FRBM Act, 2003, stipulates that the Central Government must take appropriate measures to eliminate the revenue deficit by 2008-2009, and there after build up adequate revenue surplus.

2) ADDITIONAL LIABILITIES

The FRBM Rules, 2004 stipulate that the Central Government should limit additional liabilities ( including external debt at current exchange rate) to 9% of GDP in 2004-2005 and progressively reduce this limit by at least one percentage point of the GDP in each subsequent year.

3) BORROWINGS FROM THE RBI :

The FRBM Act, 2003 stipulates that the Central Government is not to borrow directly from the RBI except by way of advances to meet temporary shortage of cash .

4) GOVERNMENT GUARANTEES :

The Government should not provide guarantees to loans borrowed by the state Government and public sector enterprises in excess of 0.5% of GDP in any financial year beginning with 2004-2005.

5) RELAXATION IN DEFICIT REDUCTION TARGETS :

The FRBM Act states that the revenue and fiscal deficit may be more than the target specified in the Rules, only on grounds of national security and national calamity or other exceptional grounds as may be specified by the Central Government .

6) FISCAL INDICATORS :

The FRBM Rules, 2004 states that the Central Government should specify four fiscal indicators to be projected in the medium term fiscal policy statement :

•Revenue deficit as a percentage of GDP

•Fiscal deficit as a percentage of GDP

•Tax revenue as a percentage of GDP

•Total outstanding liabilities as a percentage of GDP

7) QUATERLY REVIEWS:

The FRBM Act states that the finance Minister should conduct quarterly reviews of receipts and expenditure in relation to the budget and place the outcome of these reviews before the parliament . Moreover, he must make a statement in the Parliament explaining the reasons for deviations from the FRBM Act targets and also announce the corrective measures that are proposed to be taken inorder to overcome these deviations.

8) TRANSPARENCY :

The FRBM Act states that the Government should reform accounting system, improve fiscal transparency, disclose information on revenue arrears, guarantees and assets latest by 2006-07.

9) PLACING OF REPORTS :

The FRBM Act requires that three reports be placed before both the houses of the parliament every financial year :

•Macro-economic framework statement

•Fiscal Policy Strategy Statement

•Medium term Fiscal Policy Statement

•CRITICAL EVALUATION :

The FRBM Act has been criticized on the following grounds :

1) UNFULFILLED TARGETS :

The FRBM Act required the government to reduce revenue deficit to zero by March 2009

However, the revenue deficit increased to 4.4% of GDP in 2008-09 and to 4.6% in 2009-10

Thus, critics point out that target set for deficit reduction are unrealistic.

2) DEFECTIVE ASSUMPTIONS :

The FRBM Act is based on the following assumptions :

Lower fiscal deficit leads to higher economic growth in the long run.

Larger fiscal deficit leads to inflation

Larger fiscal deficit leads to balance of payment problems.

Economists like C.P. chandrashekhar and Jayati Ghosh object to such assumptions. They state that if fiscal deficit is large due to large capital expenditure on infrastructure, then it will generate employment and demand for goods and service will rise, resulting in economic growth.

Inflation occurs when demand is greater than supply, irrespective of fiscal deficit.

Moreover, if large fiscal deficit is backed by large foreign exchange, it may not cause external sector problems.

3) EFFECT ON ECONOMIC DEVELOPMENT :

At present, the amount of capital expenditure by the Government is very low. Capital Expenditure increase the efficiency and productivity of private investment and thus contribute to the development process in the country.

Since 1991, the capital expenditure GDP ratio has been declining. This will have a negative effect on economic development.

4) NEGLECT OF SOCIAL SECTOR :

If the government reduces social sector expenditure on education, health and family welfare, it will adversely affect human development.

This will have a negative impact on growth and development

5) IMPACT ON EQUITY :

Equity is the fair a just distribution of income among all the citizens of the nation.

Some critics believe that FRBM Act will harm equity they argue that the government will reduce expenditure on subsidies with a view to control fiscal deficit.

This will lead to social injustice.

6) SIGNIFICANCE OF REVENUE IGNOREO:

The FRBM Act over emphasizes reduction in public expenditure and ignores importance of revenues.

Deficits can be controlled if collection of tax and non –tax revenues is improved.

7) PRIVATE INVESTMENTS :

Economists argue that if capital expenditure on infrastructure is reduced, it will have a negative impact on private investment due to decline in productive efficiency.

This will adversely effect economic growth.

8) SUBSIDIES :

Subsidies form a very large part of the government’s revenue expenditure .

However, in reality, it is a wasteful expenditure because many times subsidies benefit those who do not need them leg rich farmers

This limits the effectiveness of FRBM Act

9) QUASI – DEFICITS IGNORED :

Fiscal deficit is not a complete indicator of the Government’s liabilities.

Some PSU receive hidden subsidies from the Government but they are not shown in the budget

These subsidies are indeed liabilities of the government and are known as quasi – deficits.

These liabilities are very large, but they are beyond the scope of FRBM Act.

•CONCLUSION :

In spite of all the above criticisms, the FRBM Act, 2003 is an important step taken by the Government for better management of its financial operations.

Also, the FRBM Act need not necessarily affect the economic and social development of the nation.

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