Fiscal policy Glossary of budget BUDGET DEFICIT: A situation that arises when expenses exceed revenues.

. Here the entire budgetary exercise falls short of allocating enough funds to a certain area. CAPITAL BUDGET: Consists of capital receipts and payments, loans and advances granted by the Union Government to State and Union Territory governments, government companies, corporations and other parties. This also accounts for market loans, borrowings from the Reserve Bank of India and other institutions through the sale of Treasury Bills and loans acquired from foreign governments. CAPITAL EXPENDITURE: Is the expenditure on acquisition of assets such as land, building and machinery, and also investments in shares, etc. Other items that also fall under this category include, loans and advances sanctioned by the Centre to State governments, union territories and public sector undertakings. CAPITAL RECEIPT: Are loans raised by the Government from the public (often referred to as market loans); borrowings by the Government from the Reserve Bank of India (RBI) and other parties through sale of Treasury Bills; loans received from foreign governments and bodies; and recoveries of loans granted by the Union Government to State governments, Union Territories and other parties. It can also include the proceeds from divestment of government equity in public enterprises. CURRENT ACCOUNT DEFICIT: Is the difference between the nation's exports and imports DIRECT TAXES: Taxes directly imposed on the customers such as Income Tax and Corporate Tax. EXCISE DUTIES: Duties imposed on goods manufactured within the country. FISCAL DEFICIT: Difference between the Receipts and Total Expenditure. INDIRECT TAXES: Taxes imposed on goods that are manufactured, imported or exported. Eg. Excise Duties, Custom Duties etc. MONETISED DEFICIT: Level of support provided by RBI to Center's borrowing programme PRIMARY DEFICIT: Fiscal Deficit minus Interest payments. PROGRESSIVE TAX: Is a tax where the rich pay a larger percentage of income than the poor. REGRESSIVE TAX: Is a tax in which the poor pay a larger percentage of income than the rich. Progressive Tax is the exact opposite of regressive tax REVENUE DEFICIT: Is the difference between Revenue Expenditure and Revenue Receipts REVENUE EXPENDITURE: Expenditure that does not result in the creation of assets. This refers to the money spent on the normal functioning of the government departments and various other services such as interest charges on debt incurred by the government.

 REVENUE RECEIPT: consist of tax collected by the government and other receipts consisting of interest and dividend on investments made by government, fees and other receipts for services rendered by government. The principle objectives of fiscal policies in developing economies: To mobilize resources for economic growth specially for public sector. To promote economic growth in the private sector providing incentives to save and invest. To restrain inflationary forces in the economy in order to ensure price stability To ensure equitable distribution of income and wealth. Government Budget Govt. budget is annual financial statement giving the estimates of revenue and expenditure of the government for a year. Govt. budget has two part: Revenue account Capital account Major sources of central govt. Revenue in India Taxes Direct Taxes Income tax Corporation tax Wealth tax Expenditure tax Indirect Taxes Union excise duties Customs Duties Service tax Non tax revenue Interest receipt from the loans given to the states and public enterprises Dividends and profit from public sector enterprise External grants Capital receipt Major capital receipts in the capital accounts are: Recoveries of loans Market borrowing by the central government Borrowing by the govt. from RBI. External assistance received from foreign countries, IMF and WB. Disinvestment of govt. equity holding in public sector undertakings. Small savings such as NSC etc. State provident funds. Income tax Income tax is very important direct tax levied by the central government but the proceeds obtained from it are shared between the central and state according to the recommendations of the finance commission which decides about the sharing after every 5 year period.

Corporation tax It is the tax on the income of public limited companies. Wealth tax It is the tax levied on the wealth held by individual. Expenditure tax Expenditure tax has been levied on expenditure incurred by the people on expenses on luxury items. Indirect taxes Union excise duties: Levied by the central govt. on the production of the commodities and they are the most important source of income for govt. Customs Duties Another important indirect tax which yields a good amount of revenue for the central govt. customs duties refer to the duties imposed on the commodities imported in India. Service tax It is an indirect tax levied on services provided to the people. Non tax revenue Interest receipt from loans is an important non tax revenue of govt. Dividend and profit are another important non tax revenue. External grants: which are foreign aid received from other countries. Capital receipts Recoveries of loans given by the central govt. to states and UT. They are capital receipt because they reduce the asset of the central govt. Government market borrowings: when the expenditure of govt. exceeds its revenue receipts and capital receipt it has a fiscal deficit. There are two ways of financing fiscal deficit. Market borrowing: Govt. sells securities of various terms and duration in the market. The banks, insurance companies and other financial institutions, corporate companies and public buy these govt. securities. Small savings: the govt. also borrow small savings of the people. Small savings are non negotiable and are therefore not bought or sold in the capital market. Revenue receipt as a % of GDP 2006-07 Tax Revenue 8.5 Non tax revenue 2 Total revenue receipt 10.5

2007-08 8.6 1.8 10.4

Revenue expenditure as a % of GDP as a % of GDP

Capital expenditure as a % of GDP

Revenue expenditure interest payments Major subsidies Defense expenditure Total revenue exp. Capital receipt as a % of GDP Recovery of loans Other (disinvestment) Capital expenditure as a % of Borrowing & other GDP Total capital receipt Plan expenditure Non plan expenditure total expenditure

2006-07 3.6 1.3 1.2 12.4 06-07 0.1 0.1 3.406-07 3.6 4.1 10 14.1

2007-08 3.4 1.1 1.2 11.9 07-08 0 0.9 07-08 3.2 4.1 4.4 10.1 14.5

Particulars Revenue deficit as a % of GDP Fiscal deficit as a % of GDP

As a % of GDP 2006-07 1.9 3.4

As a % of GDP 2007-08 1.5 3.2

How does fiscal policy work? Instruments of fiscal policy Taxation Direct Indirect Government expenditure Public debt Internal debt External debt Deficit financing -Also known as monetization. Objectives of taxation policy Mobilization of resources Formation of capital by promoting saving and investment Equitable distribution of wealth

 Attainment of price stability by adopting anti- inflationary policy. Taxation as an instrument can involve any one of the following: Change in tax rate Change in tax base Changes in taxation mix How taxation as one of instruments will have effect on economy? Revenue effect Growth effect Price effect Trade effect Taxation as a contra cyclical device Government expenditure Development of infrastructure. Development of public enterprise Social welfare and employment programme Support to private sector How public expenditure as one of instruments will have effect on economy? Revenue effect Growth effect Price effect Trade effect Taxation as a contra cyclical device Public debt How public debt as one of instruments will have effect on economy? Revenue effect Growth effect Price effect Trade effect Taxation as a contra cyclical device Deficit financing: -- Also known as monetization of fiscal deficit. The fiscal deficit is financed by borrowing from the RBI which issues new money or currency against government securities, which leads to the expansion in money supply. In old terminology it was known as Deficit financing, nowadays it is known as Monetization of fiscal deficit. Merits of fiscal policy in India Capital formation Resource mobilization Optimum utilization of resources Incentives of saving Export promotion Alleviation of poverty and unemployment Shortcomings of fiscal policy of India

Instability Defective tax structure Inflation Negative return of public sector Growing inequality

Suggestions for necessary reforms in fiscal policy Measures to reduce public expenditure 1. A drastic reduction in expenditure on major subsidies such as food, fertilizers, exports electricity to curtail public expenditure. 2. The huge sum of money is spent by the govt. on LTC, bonus, leave encashment etc. A reduction 3. Another useful measure to cut public expenditure is to reduce interest payments on past debt. In India interest payments account for about 40 % of expenditure on revenue account of the central govt. funds raised through disinvestment in the public sector should be used to retire a part of old public debt rather than financing current expenditure. Retirement of public debt quickly will reduce burden of interest payments in future. 4. Budgetary support to public sector enterprises other than infrastructure projects should be substantially reduced. Further public sector enterprise should be asked to raise funds from the market and banks. 5. Non planned expenditure should be reduced. Increasing Revenue from taxation 1. Policy of moderate taxes with simplified taxation structure should be followed. This will help to increase public revenue rather than reduce it. High marginal rates of taxes should be avoided as they serve as disincentives to work more save more and invest more. 2. In India the tax base is narrow for both direct and indirect taxes. Only 2.7 percent of total Indian population is paying income tax. To increase revenue from taxation, tax base should also be widened by taxing agricultural incomes and incomes derived from unorganized industrial and service sectors. 3. The various deductions and exemptions provided in the income and wealth taxes should be withdrawn to broaden the tax base and collect more tax revenue. 4. As is well known, there is a huge amount of black money in the Indian economy which has come into existence as a result of tax evasion. Thus black money has to be mopped up but also tax evasion that occurs every year has to be prevented by strict enforcement of tax laws. 5. There should be restructuring of public sector enterprises so that they should made some surpluses at least for their own development so that their dependence on govt. budgetary resources should be dispensed with