Everything about Fiscal Deficit
What is it?
- Fiscal deficit is the gap between total expenditure and total income of the government.
- Unlike households, governments usually possess the ability to live beyond their means by either borrowing or printing money.
- The fiscal deficit can arise either due to revenue expenses overshooting income or increase in capital expenditure.
- The fiscal deficit matters because it indicates the extent by which government spending exceeds its income and the total borrowings needed by it to fill this gap.
- The government experiences a fiscal deficit when it spends more money than it takes in from taxes and other revenues.
- This gap between income and spending is then closed by government borrowings, which increase the national debt.
- A fiscal deficit is usually calculated and expressed as a percentage of a country’s Gross Domestic Product (GDP).
Why is it important?
- Countries run deficits to give a boost to a sluggish economy by putting more money in the hands of people who can then buy and invest more.
- However, long-term deficits can be detrimental to economic growth and stability.
- There are differing views on the use of fiscal deficits.
- Some economists and policy analysts pitch for higher fiscal deficits to boost aggregate demand.
- A counter cyclical fiscal policy, as advocated by John Maynard Keynes, could be useful during periods of economic strife.
- Here, the government undertakes deficit spending to make up for the decline in investment and boost consumer spending to stabilise aggregate demand.
- When economic conditions improve, the spending is retracted shrinking the deficit.
- But some argue that when the government goes on a borrowing binge, this crowds out private borrowers like companies, manipulates interest rates and reduces net exports.
- This could then lead to either higher taxes, higher inflation or both.
- Politicians like to rely on fiscal deficits to expand popular initiatives such as welfare programs or public works, without having to raise taxes or cut spending elsewhere in the Budget.
- In this context, fiscal deficits encourage rent seeking and politically motivated appropriations.
- Many businesses support fiscal deficits if it means receiving public benefits. Ultimately, voters too seem to think fiscal deficit is a good idea.
Why should I care?
- Untrammelled deficits can lead to runaway inflation which hurts our quality of life.
- Money printing to fund deficits can devalue paper money.
- A significantly high fiscal deficit could also derail macro stability leading to delays in investment decisions by businesses, which affects hiring.
- In the long term, a high level of debt is associated with slower growth.
- Huge deficits are seen in a largely negative light by international rating agencies and economy watchers.
- High borrowings could distort interest rates in the economy and prop up non-competitive firms.
- Persistent deficits increase government debt and take away a large portion of its revenues towards interest payouts, leaving a large burden of dues for future generations to service.
- The high borrowings that Indian government is now resorting to, to fund its Atmanirbhar Bharat package should be cause for worry as it will raise the deficit and national debt.