Concepts of Fiscal policy

2 of 38 Fiscal policy Fiscal policy refers to the policy of the government regarding Taxation (Revenue collection through taxes) Public expenditure Public debt Governments all over the world have been using fiscal measures to regulate their economic activities in order to achieve objectives.

3 of 38 Objectives of fiscal policy Accelerating the rate of investment Achieving rapid economic development Achieving full employment Promoting foreign trade Fiscal policy operates through the budget and hence also called as budgetary policy.

4 of 38 The Budget Budget is derived from from the French word ‘Bougette’, which means a leather bag or wallet used to carry financial papers. Budget is a master financial plan of the Govt. It brings estimates of anticipated revenues and proposed expenditures It is a device for consolidating various interests, objectives and needs of people into a programme.

5 of 38 Budget is divided into 2 parts, revenue budget and capital budget. Revenue budget deals with revenue items receipts from taxes, interest, dividend administrative expenditure Capital budget is the statement of all capex and capital receipts like market loans, external aid, deposits.

6 of 38 Instruments of Fiscal policy Taxation Public Expenditure Government Borrowing Deficit Financing Budget

7 of 38 Taxation A non quid pro quo payment by the people to the government Sources of tax revenue Direct taxes - personal and corporate tax Indirect taxes - Customs, Excise and VAT Sound tax system, with moderate rates and a broad base, is an integral part of the prudent fiscal policy. The expansion in the tax base is sought to be achieved through expansion in the scope of taxes, specifically service tax, removal of exemptions and improvement in tax administration

8 of 38 Taxation reforms Domestic Co. 30% – 40% Foreign Co. 45% Special tax benefits to power sector, SEZ & shipping Ind. Widening of service tax base Introduction of state-level VAT for achieving a self-enforcing & harmonized commodity taxation regime

9 of 38 Public expenditure Plan expenditure - govt. plans to incur on a scheme to be implemented in a given year. Non-plan expenditure is generally an outcome of plan expenditure Return generated should be greater than the cost of capital, but cannot always work on profit motive Expected to release a summary of their monthly receipts and expenses to public.

10 of 38 Government Borrowing n Borrowing is the quickest Mode of raising funds to finance schemes of economic development. n Market loans – Govt. sells securities & treasury bills to institutions & public n Small savings – Postal accounts, PPF n To meet the uncovered gap between total expenditure and total receipts

Deficit Financing DEFICIT = Govt expenditure - Govt receipts from the public. Expenditure < Income = Surplus Expenditure > Income = Deficit 11 of 38

Need for deficit financing The resources required for development far exceeds the amount which can be raised by normal means of resource mobilization, viz., taxation, borrowing, surpluses from public enterprises, etc. The uncovered gap is made up by deficit financing. The developing countries keen to promote rapid economic growth 12 of 38

Budget at a Glance (Rs.Crore ) ClassificationYearly estimate 1.Revenue Receipts out of which a. Tax Revenue b. Non Tax Revenue Capital Receipts out of which a. Loans and Grants6655 b. Other receipts 3500 c. Borrowings of central govt Total Receipts ( 1+2)

Budget at a Glance (Rs.Crore ) ClassificationYearly estimate 3. Total Receipts ( 1+2) Revenue Expenditure Capital Expenditure Total Expenditure (4+5) Budgetary Deficit (6-3) Revenue Deficit (4-1) ( Rev Exp – Rev.receipts) Fiscal Deficit (7+2c) 36259

Revenue Receipts & Expenditure Receipts which don’t involve disposal of assets or incurring liabilities are Revenue Receipts. Direct Taxes – Income tax, corporate tax Indirect taxes – Excise duty, customs duty, Service tax Non-tax revenue like interest, dividend are also accounted in Revenue receipts Revenue Expenditure is that which don’t add to Govt. assets like salaries of Govt. employees, maint. Of public utilities

16 of 38 Capital receipts include Govt. market borrowings, small savings ( postal savings, PPF ) External assistance like Loans, grants received from international agencies Capital expenditure refers to items that involve purchase of assets – investment in railways, roads, power projects, irrigation works

Deficit Financing Greater part of budgetary gap is resorted through deficit financing Tools of deficit finance include Borrowing by central govt against Treasury Bills Withdrawal of accumulated cash balances of the govt from RBI Issuance of new currency by the govt. Deficit financing must be within manageable limit as excessive use of ‘created money’ may fuel inflationary tendencies. 17 of 38

Fiscal deficit Fiscal deficit is the sum of the amount the central govt borrows and the overall budget deficit in order to meet the excess expenditure over receipts during a financial year Fiscal deficit = Borrowings of central govt + Budgetary deficit 18 of 38

Fiscal Responsibility and Budget Management Act, 2003 The FRBMA This Act seeks to control fiscal deficit on the part of govt The Act came into force on July 5 th Revenue deficit is to be eliminated by March 09 Fiscal deficit should be reduced by an amount equivalent to 0.3% of the estimated GDP at the end of each financial year 19 of 38