Deficit Financing is Bad Economics But Good Politics

Col Dinesh Kumar (11214) & Lt. Col I.K. Lal (11219)

 Deficit financing is resorted to during three different situations : During War

During Depression
During Economic Development
2

Deficit Financing
Deficit financing occurs when there are budgetary deficits. Budgetary Deficit is excess of total expenditure both revenue and capital over total receipts.

 Besides taxation, the governments other major revenue source is borrowing. Deficit Financing refers to financing the difference of expenditure over revenue through borrowings. Higher deficit implies higher borrowings and thus higher interest payments.
4

05/07/12

 Deficits have generally been the rule (although there was a surplus from 1999 to 2000). Deficit (as fraction of GDP) was highest in mid-1980s.

Deficit Financing And Inflation

Deficit financing creates monetary incomes and demand for goods and services increases. Though there is increased demand, availability of consumer goods takes time & prices rise. Also increase in money supply lead to credit creation which aggravates 7 inflationary conditions.

Price Rise
There is a close relationship between rate of increase in prices & growth in money supply. Prices have tendency to rise at every successive increase in money supply.

Limitation of Deficit Financing

Deficit financing is inevitable under planned economic development to activate unutilized resources or step up tempo of economic process.

It is necessary to the extent it can promote capital formation and economic development.
9

PATTERN OF DEFICIT FINANCING

Gross Fiscal Deficit comprises of revenue & capital deficit.

Revenue deficit has shown continuous increasing trend. Almost 60% of deficit is due to non plan expenditure.

(i) Interest payment

(ii) Defence

(iii)Subsidies & inefficient PSUs

05/07/12

HEAVY INTREST BURDEN

Continuous increase in revenue deficit depicts continuous deterioration in the fiscal situation.
Considerable part of net borrowings is utilized simply for payment of interest. Public borrowings not being used for productive investment but only for consumption expenditure. It further widens the gap between net revenue & net expenditure.
05/07/12

WAY OUT OF FINANCIAL CRISIS

Prudent fiscal management is need of the hour. Reduce growth of revenue expenditure by cutting down subsidies, introducing agriculture income tax, etc.

05/07/12

GOOD POLITICS MEANS BAD ECONOMICS

Hence, we have
Fiscal profligacy in place of prudence. Policy paralyses Food security act instead of subsidies

Concern of political India maintain fuel subsidy, announce populist schemes

Concern of productive India steep decline of rupee, fiscal deficit BoP crunch, retrospective tax steady decline in GDP growth.

Thank you