Public finance 

Introduction

It is the approach to managing the public funds in the country's economy that plays the most important role in the development and growth of the country.

Public goods-

• Goods that are provided by the government for public welfare.

• Ex-defense, roads, government administration etc.

Private goods

• Goods that are provided by market mechanism.

• Ex-clothes, cars, food items etc.

Public provision

• It means that they are financed through the budget and made available free of any direct payment.

Budget and its components

• An annual financial statement of income and expenditure is generally used for a government.

• The constitution of India has a provision (Art. 112) for such a document called Annual Financial Statement to be presented in the Parliament before the commencement of every new fiscal year —popular as the Union Budget.

It consists of following data

• The actual figures for the previous year.

• Tentative figures for the current year.

• The budget estimates of receipts and expenditure for the year ahead.

Components of Budget   

A.Revenue account

1.Revenue receipts

• Tax revenue
• Non tax revenue

2.Revenue expenditure

B.Capital account

1.Capital receipts

• Loan Recovery.

• Borrowings by the Government.

• Disinvestment.

• Other Receipts by the Government.

B.Capital expenditure

• Loan Disbursement by the Government.

• Loan Repayments by the Government.

• Plan Expenditure of the Government.

• Capital Expenditures on Defense by the Government and other.

A.Revenue account

1.Revenue receipts

• Revenue receipts are an important component of a government's income and can come from various sources such as taxes, profits of public enterprises, and grants. These receipts are considered as current income and play a significant role in a country's overall fiscal health.

• Revenue receipts do not result in any liability or decrease in the assets of the government.

Revenue receipts of a government are of two kinds—Tax Revenue Receipts and Non-tax Revenue Receipts.

Tax Revenue Receipts-

• A tax is a legal compulsory payment by the people and firms to the government of a country without reference to any direct benefit in return.

• It is imposed on the people by the government.

• For many years, taxes have been the primary source of government income

• It includes all money earned by the government via the different taxes the government collects, i.e., all direct and indirect tax collections.

• The liability of payment and the burden of direct taxes rest on the same individual.

• In case of Indirect taxes, the liability of payment and the burden of the tax does not fall on the same person.

Difference between Direct and Indirect tax

Non-tax Revenue Receipts-

Non-tax revenue of the central government consists of –

• Interest receipts on account of loans by the central government which constitutes the single largest item of non-tax revenue.

• Cash grants-in-aid from foreign countries and international organisations

• Fees and other receipts for services rendered by the government.

• Dividends and profits on investments made by the government..

• Penalties and fines received by the government.

• Fiscal services also generate incomes for the government, i.e., currency printing, stamp printing, coinage and medals minting, etc.

2.Revenue expenditure-

• Revenue expenditure consists of all those expenditures of the government which do not result in creation of physical or financial assets

 It consists of-

• Interest payments on debt incurred by the government

• Grants given to state governments and other parties(like foreign countries etc.) (even though some of the grants may be meant for creation of assets)

• Subsidies forwarded to all sectors by the government

• Defense expenditures & Postal Deficits by the government

• Expenditures on social services

B.Capital account

• The Capital Budget is a financial statement that outlines the central government's assets and liabilities, taking into account changes in capital.

It consists of capital receipts and capital expenditure of the government

1.Capital Receipts

Capital receipts are those receipts of the government which either create liability or cause any reduction in the assets of the government

Loan Recovery

• The money the government had lent out in the past in India and abroad their capital comes back to the government when the borrowers repay them as capital receipts.

• The interests which come to the government on such loans are part of the revenue receipts.

Borrowings

It consists of –

   -Domestic Borrowings-

• One of the ways in which the government obtains funds is by borrowing from the domestic financial market through the issuance of securities and treasury bills.

• The government obtains domestic borrowings by utilizing different deposit schemes such as the Public Provident Fund, Small Savings Schemes, and National Savings Scheme, among others. These types of borrowings are sourced within the country.

  -External Borrowings-

• External borrowing is a practice where the government borrows money from foreign governments or international institutions like the International Monetary Fund (IMF) or the World Bank.

• When a government borrows money from foreign sources, it can inject foreign currency into the domestic economy.

 Disinvestment-

• This selling of shares of public sector undertakings by the government is known as disinvestment of public sector undertakings

Other Receipts

• There are various ways through which the government receives long-term capital accruals, including the Provident Fund (PF), Postal Deposits, various Small Saving Schemes (SSSs), and government bonds such as Indira Vikas Patra, Kisan Vikas Patra, and Market Stabilisation Bond, among others.

B.Capital Expenditure-

Capital expenditure is a term used to describe government spending that is focused on the creation of assets such as buildings for schools and hospitals, roads, bridges, canals, railway lines, and other infrastructure, or on reducing liabilities such as repaying loans.

It has following types-

• Loan Disbursals by the Government to state government or foreign institute or government like IMF, WORLD BANK etc.

• Loan Repayments by the Government- PRINCIPAL AMOUNT of the loan received by the government which was discussed in point 1 ( it does not include interest on that amount).

• Plan Expenditure of the Government it includes financial support to state government and money invested for assets creation.

• Capital Expenditures on Defence by the Government and other- expenditure to purchase defence machinery etc.(salary or other revenue expenditure of defence is not included in this expenditure) + capital expenditure on railways, postal department, water supply etc.+ Repayment liabilities of the government.

Different Deficits of the Government

1.Revenue Deficit-

• The revenue deficit refers to the excess of government’s revenue expenditure over revenue receipts

Revenue deficit = Revenue expenditure – Revenue receipts

• The revenue deficit refers to transactions that impact the current income and expenditure of the government.

• If a government experiences a revenue deficit, it means that the government is spending more than it is earning and is relying on the savings of other sectors within the economy to finance its consumption expenditures.

• This situation means that the government will have to borrow not only to finance its investment but also its consumption requirements.

2. Fiscal Deficit

• It was used since the fiscal 1997–98 in India
• Fiscal deficit refers to the variance between a government's total spending and its total receipts, excluding any borrowing.

Gross fiscal deficit = Total expenditure – (Revenue receipts + non-debt creating capital receipts (means Capital receipts excluding borrowings)

OR

From the financing side

Gross fiscal deficit = Net borrowing at home + Borrowing from RBI + Borrowing from abroad

• Net borrowing within a country includes both direct borrowing from the public through debt instruments (such as small savings schemes) and indirect borrowing from commercial banks through Statutory Liquidity Ratio (SLR).

OR

Fiscal deficit = Total budget expenditure – Total budget receipts excluding borrowings

• Non-debt creating capital receipts are a type of receipts that are not considered as borrowings and therefore do not contribute to the accumulation of debt.

• Examples are recovery of loans and the proceeds from the sale of PSUs.

• To finance the fiscal deficit, the government will need to borrow funds from various sources, indicating the total amount of borrowing required.

3.Primary Deficit

• The term primary deficit refers to the difference between a government's fiscal deficit and its interest payments on previous borrowings.
• This measure indicates how much borrowing the government needs to finance its expenses, excluding interest payments.

Types of Primary Deficits-

• Gross Primary deficit = Fiscal deficit – Interest payments
• Net Primary deficit = Fiscal deficit + Interest received – Interest payments

4.Effective Revenue Deficit

• The Effective Revenue Deficit is the discrepancy between revenue deficit and capital asset creation grants.
• The Rangarajan Committee on Public Expenditure proposed the concept of effective revenue deficit.
• The goal is to subtract the funds utilized from borrowing to support capital expenditure.

5.MonetizedDeficit

• The part of the fiscal deficit which was provided by the RBI to the government in a particular year is Monetized Deficit, this is a new term adopted since 1997–98 in India

Important one liner question and answers on Budget.

What is public finance?

Public finance is the management of public funds in a country's economy that plays a significant role in its development and growth.

What are public goods?

Public goods are goods provided by the government for public welfare, such as defense, roads, and government administration.

What are private goods?

Private goods are goods provided by the market mechanism, such as clothes, cars, and food items.

What is public provision?

Public provision refers to goods and services that are financed through the budget and made available free of any direct payment.

What is the budget?

The budget is an annual financial statement of income and expenditure used by a government to plan its spending.

What does the Union Budget consist of?

The Union Budget consists of the actual figures for the previous year, tentative figures for the current year, and budget estimates of receipts and expenditure for the year ahead.

What are revenue receipts?

Revenue receipts are an important component of a government's income and can come from various sources such as taxes, profits of public enterprises, and grants.

What are tax revenue receipts?

Tax revenue receipts are all money earned by the government through the different taxes it collects, i.e., all direct and indirect tax collections.

What is the primary source of government income?

For many years, taxes have been the primary source of government income.

What is the difference between direct and indirect taxes?

Direct taxes are levied on individuals and firms, while indirect taxes are levied on goods and services.

Can the burden of direct taxes be shifted?

No, the burden of a direct tax cannot be shifted, i.e. impact and incidence are on the same person.

Can the burden of indirect taxes be shifted?

Yes, the burden of an indirect tax can be shifted, i.e., impact and incidence are on different persons.

What is non-tax revenue?

Non-tax revenue consists of interest receipts on loans, cash grants-in-aid from foreign countries and international organizations, fees and other receipts for services rendered by the government, dividends and profits on investments made by the government, and penalties and fines received by the government.

What is revenue expenditure?

Revenue expenditure consists of all those expenditures of the government that do not result in the creation of physical or financial assets.

What are capital receipts?

Capital receipts are those receipts of the government that either create liability or cause any reduction in the assets of the government.

What are domestic borrowings?

Domestic borrowings are funds obtained by the government by borrowing from the domestic financial market through the issuance of securities and treasury bills.

What are external borrowings?

External borrowings are funds obtained by the government by borrowing money from foreign governments or international institutions like the International Monetary Fund (IMF) or the World Bank.

What is disinvestment?

Disinvestment is selling shares of government-owned companies to the public or private sector.

What is the capital budget?

The capital budget is a financial statement that outlines the central government's assets and liabilities, taking into account changes in capital.