Fiscal Deficit, Definition, Causes, Calculation, Components

Fiscal deficit shows the gap when a government spends more than it earns in a year. It helps us understand how much the government needs to borrow to meet its expenses. Fiscal deficit includes different parts like revenue deficit, capital spending, interest payments, and primary deficit. Knowing the main causes, such as high spending or low revenue, and the ways it is financed, like borrowing, loans, or selling government assets, is important to see its effect on the economy.

What is Fiscal Deficit?

A Fiscal Deficit occurs when a government’s total spending on expenses like infrastructure and salaries exceeds its total revenue from taxes and fees in a financial year. This shortfall is financed through borrowing, adding to national debt, and is expressed as a percentage of GDP, with a higher deficit indicating greater reliance on borrowed funds.

Fiscal Deficit Calculation

Fiscal Deficit is calculated using the formula:

Fiscal Deficit = Total Expenditure – (Revenue Receipts + Non-Tax Revenue + Recoveries of Loans + Other Capital Receipts)

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Fiscal Deficit Components

Fiscal deficit is made up of several components that together explain the government’s borrowing requirements.

• Revenue Deficit: Occurs when revenue expenditure exceeds revenue receipts, indicating borrowing for regular government operations.
• Capital Expenditure: Spending on long-term assets like infrastructure, machinery, and development projects.
• Interest Payments: Obligations on past borrowings, which form a significant part of expenditure.
• Primary Deficit: Fiscal deficit minus interest payments, showing borrowing required for current operations excluding interest.
• Grants-in-Aid: Transfers to state governments or institutions to support development projects, often funded through borrowings.
• Subsidy Payments: Spending on fuel, food, fertilizers, and other subsidies that can increase the deficit if not matched by revenue.
• Public Sector Undertaking Losses: Financial losses of government-owned enterprises that require budgetary support.
• Extraordinary or Contingent Expenditures: Unplanned spending for emergencies, natural disasters, or economic stimulus packages.

Fiscal Deficit Financing

Fiscal deficit financing is how the government meets the gap between expenditure and revenue, mainly through borrowing, but also via money creation, using reserves, or taking loans. It funds development, subsidies, and stimulus, but excessive reliance can lead to inflation and higher debt.

Methods of Fiscal Deficit Financing:

• Market Borrowings: Raising funds by issuing government securities and bonds to the public and financial institutions.
• Borrowing from the Reserve Bank of India (RBI): The central bank can finance the deficit through ways like ways and ways.
• Printing Money (Monetization): The central bank creates new money, often risky as it fuels inflation.
• External Borrowings: Loans and credits from foreign governments, multilateral institutions, and international markets.
• Small Savings Schemes: Mobilizing funds from postal deposits, National Savings Certificates, and other small savings instruments.
• Disinvestment Proceeds: Revenue raised by selling government stakes in public sector undertakings (PSUs).
• Other Receipts: Includes deposits, provident funds, and miscellaneous receipts that supplement financing.

FRBM Act, 2006 and Fiscal Deficit Targets

Deficit Targets for Union and States under the FRBM Act

• Fiscal deficit should be limited to 3% of GDP.
• General government debt to be limited to 60% of GDP by FY2024-25.
• Central government debt to remain below 40% of GDP.
• Additional guarantees on loans against the Consolidated Fund of India should not exceed 0.5% of GDP in any fiscal year.

Borrowing Restrictions: Except in certain circumstances, the Central Government is not allowed to borrow from the RBI.

Review and Reporting: The Finance Minister must review receipts and expenditure trends every six months and present the findings to both Houses of Parliament.

Difference between Fiscal Deficit and Revenue Deficit

Fiscal deficit and revenue deficit are two key indicators of government finances, but they differ in scope. Fiscal deficit measures the total borrowing requirement of the government, while revenue deficit shows the shortfall in revenue receipts to meet regular expenditure. The difference between the two has been highlighted below:

Causes of Fiscal Deficit in India

• High Government Spending: Large expenditures on welfare, subsidies, defense, and infrastructure increase borrowing needs.
• Lower Revenue Collection: Insufficient tax and non-tax revenue compared to government spending.
• Economic Stimulus Measures: Extra spending during crises, such as pandemics or natural disasters, widens the deficit.
• Rising Interest Payments: Payments on past borrowings add to government expenditure.
• Capital Expenditure Requirements: Spending on long-term projects like roads, railways, and infrastructure increases fiscal pressure.
• Tax Policy Decisions: Reductions or exemptions in taxes can lower revenue and contribute to the deficit.
• Revenue Transfers to States: Higher transfers to state governments increase the Centre’s borrowing needs.

Implications of Fiscal Deficit

• Crowding Out Private Investment: Large government borrowing can raise interest rates, reducing funds available for private sector investment.
  Inflationary Pressure: Financing deficits by borrowing from the central bank can increase money supply, leading to inflation.
• Higher Public Debt: Persistent deficits add to government debt, increasing future interest payment obligations.
• Impact on Economic Growth: Borrowing for productive capital expenditure can boost growth, but borrowing mainly for consumption may not support long-term development.
• Exchange Rate Pressure: High fiscal deficits may affect investor confidence and put pressure on the national currency.
• Fiscal Vulnerability: Excessive deficit limits the government’s flexibility to respond to economic shocks or emergencies.

Recent Budget Measures to Control Fiscal Deficit

• Gradual Reduction of Deficit: Fiscal deficit target set to decline from 6.4% of GDP in 2022‑23 to 5.9% in 2023‑24, and further to 4.5% by 2025‑26.
• Increased Capital Expenditure: Planned to rise to 3.3% of GDP in 2023‑24 to boost infrastructure and long-term growth.
• Interest-Free Loans to States: Provided ₹1.3 lakh crore for 50 years to states to support development without immediate fiscal burden.
• Revenue Mobilization: Strengthening GST and income tax compliance, rationalizing exemptions, and widening the tax base.
• Expenditure Rationalization: Prioritizing productive capital spending and reducing non-essential or unproductive expenditure.
• Structured Borrowing: Efficient market borrowing strategy to maintain investor confidence and manage debt sustainability.
• Disinvestment and Asset Monetization: Raising funds by selling stakes in public sector undertakings (PSUs) and monetizing government assets.
• FRBM Compliance: Continuing adherence to Fiscal Responsibility and Budget Management Act targets to ensure fiscal discipline.