12th Aug, 2021

Inflation

• Inflation is a quantitative measure of the rate at which the average price level of a basket of selected goods and services in an economy increases over a period of time.
• It refers to the rise in the prices of most goods and services of daily or common use, such as food, clothing, housing, recreation, transport, consumer staples, etc.
• Inflation is indicative of the decrease in the purchasing power of a unit of a country’s currency. This is measured in percentage.
• Inflation can be viewed positively or negatively depending on the individual viewpoint. Those with tangible assets, like property or stocked commodities, may like to see some inflation as that raises the value of their assets. People holding cash may not like inflation, as it erodes the value of their cash holdings.
• Ideally, an optimum level of inflation is required to promote spending to a certain extent instead of saving, thereby nurturing economic growth.
• Inflation and economy is related in the following way:

• RBI takes the necessary measures to keep inflation within permissible limits and keep the economy running smoothly.

• Deflation is a general decline in prices for goods and services, typically associated with a contraction in the supply of money and credit in the economy. During deflation, the purchasing power of currency rises over time.
• Deflation benefits consumers because they can purchase more goods and services with the same nominal income over time.
• Disinflation is a temporary slowing of the pace of price inflation. It is used to describe instances when the inflation rate has reduced marginally over the short term.
• Stagflation is the combination of high unemployment with high inflation. This happened in industrialized countries during the 1970s, when a bad economy was combined with OPEC raising oil prices led to low growth.

Who measures Inflation in India?

• Inflation is measured by a central government authority, which is in charge of adopting measures to ensure the smooth running of the economy.
• In India, the Ministry of Statistics and Programme Implementation measures inflation.

Types of Inflation

Depending upon the rate of growth of prices, inflation can be of the following types:

1. Creeping Inflation

Creeping or mild inflation is when prices rise 3% a year or less. This kind of mild inflation makes consumers expect that prices will keep going up. That boosts demand. Consumers buy now to beat higher future prices. That’s how mild inflation drives economic expansion.

2. Walking Inflation

This type of strong, or pernicious, inflation is between 3-10% a year. It is harmful to the economy because it heats up economic growth too fast. People start to buy more than they need, just to avoid tomorrow’s much higher prices. This drives demand even further so that suppliers can’t keep up. More important, neither can wages. As a result, common goods and services are priced out of the reach of most people.

3. Galloping Inflation

When inflation rises to 10% or more, it wreaks absolute havoc on the economy. Money loses value so fast that business and employee income can’t keep up with costs and prices. Foreign investors avoid the country, depriving it of needed capital. The economy becomes unstable, and government leaders lose credibility. Galloping inflation must be prevented at all costs.

4. Hyperinflation

Hyperinflation is when prices skyrocket more than 50% a month. It is very rare. In fact, most examples of hyperinflation have occurred only when governments printed money to pay for wars. Examples of hyperinflation include Germany in the 1920s, Zimbabwe in the 2000s, and Venezuela in the 2010s. The last time America experienced hyperinflation was during its civil war.

5. Core Inflation

The core inflation rate measures rising prices in everything except food and energy. That’s because gas prices tend to escalate now and then. Higher gas costs increase the price of food and anything else that has large transportation costs.

Causes of Inflation

• In any economy, generally two sets of factors result in inflation — Demand-pull factors and Cost-push factors.

• Demand-pull factors may be those due to which there is an increase in the demand for goods and services in general leading to rising prices.
• On the other hand, cost-push factors are those due to which there may be shortfall in supply of goods/services and/or rise in the cost of production of goods/services.
• At any given point of time, inflation is attributed to both sets of factors. Sometimes one may be more potent than the other.

Measures to Contain Inflation

RBI takes monetary measures while the Government takes fiscal measures to contain inflation.

Monetary Measures

• As part of the monetary policy review, the RBI takes suitable measures to moderate demand to levels consistent with the capacity of the economy to maintain its growth without provoking price rise.
• It is generally agreed that high rates of inflation is caused by an excessive growth of the money supply.
• The RBI controls the money supply by its monetary policy via which it alters the interest rates and alters the banking reserve requirements to bring the inflation in its comfort zone.
• The key policy rates are Repo Rate, Reverse Repo Rate, Marginal Standing Facility and the key banking reserve requirements are SLR and CRR.
• When these rates are altered, the movements are passed on other prevailing interest rates in the economy which ultimately influences the borrowing costs for firms and households.

For example, when the interest rates go down, it becomes cheaper to borrow, so households are more willing to buy goods and services and firms are in a better position to purchase items to expand their businesses, such as property and equipment.

Fiscal Measures

• The government can take the following Fiscal Measures to contain inflation:

1. Reducing Import Duties
2. Allowing imports of the commodities which are scarce in market.
3. Removing levy obligations in case of sugar
4. Banning exports of commodities such rice and oils.
5. Imposing minimum export prices.
6. Suspending or banning the futures trading is come commodities.
7. Raising the stock limit of some commodities.
8. Making available the commodities via various organizations such as NAFED and NCCF.

Measurement of Inflation

• There are several ways to measure inflation.
• On the basis of population coverage, the inflation indices are developed to understand the levels of inflation for certain sets of population such as consumers, producers, retailers, wholesalers etc. Such indices are called Consumer Price Index (CPI), Producer Price Index (PPI), and Wholesale Price Index (WPI) etc.
• On the basis of items, the inflation indices are developed to understand the levels of inflation for certain sets/baskets of items. Since the prices of some items are more volatile than others like food and fuel, it might give conflicting signals to policymakers as the overall inflation could change because of a selected few goods. Hence, separate indices can be developed separating the volatile items from the main index.  This gives rise to concepts of Headline inflation and core inflation whereby, the Headline inflation includes all the items and core inflation usually excludes food and fuel items.

Inflation Indices

In India, Consumer Price Index (CPI) and the Wholesale Price Index (WPI) are two major indices for measuring inflation. In the United States, CPI and PPI (Producer Price Index) are two major indices.

The Wholesale Price Index (WPI) was the main index for measurement of inflation in India till April 2014 when RBI adopted the new Consumer Price Index (CPI) (combined) as the key measure of inflation.

Wholesale Price Index

The wholesale Price Index (WPI) is computed by the Office of the Economic Adviser in the Ministry of Commerce & Industry, Government of India. It was earlier released on weekly basis for Primary Articles and Fuel Group. However, since 2012, this practice has been discontinued. Currently, WPI is released monthly.

Salient notes on WPI are as follows:

Base Year

The current WPI Base year is 2004-05=100. It’s worth note that the base year for CPI is 2012 currently. This is one reason for the increasing difference between CPI and WPI in recent times.

Consumer Price Index

Consumer Price Indices (CPI) released at the national level are:

1. CPI for Industrial Workers (IW)
2. CPI for Agricultural Laborers (AL)/ Rural Laborers (RL)
3. CPI (Rural/Urban/Combined)

While the first two are compiled and released by the Labor Bureau in the Ministry of Labor and Employment, the third is by the Central Statistics Office (CSO) in the Ministry of Statistics and Programme Implementation.

In India, RBI uses CPI (combined) released by CSO for inflation purposes. Important notes on this index are as follows:

Base Year

The base year for CPI (Rural, Urban, and Combined) is 2012=100.

Key differences between WPI & CPI

• Primary use of WPI is to have inflationary trend in the economy as a whole. However, CPI is used for adjusting income and expenditure streams for changes in the cost of living.
• WPI is based on wholesale prices for primary articles, administered prices for fuel items and ex-factory prices for manufactured products. On the other hand, CPI is based on retail prices, which include all distribution costs and taxes.
• Prices for WPI are collected on voluntary basis while price data for CPI are collected by investigators by visiting markets.
• CPI covers only consumer goods and consumer services while WPI covers all goods including intermediate goods transacted in the economy.
• WPI weights primarily based on national accounts and enterprise survey data and CPI weights are derived from consumer expenditure survey data.

Index of Industrial Production (IIP)

• Index of Industrial Production data or IIP as it is commonly called is an index that tracks manufacturing activity in different sectors of an economy.
• The IIP number measures the industrial production for the period under review, usually a month, as against the reference period.
• IIP is a key economic indicator of the manufacturing sector of the economy.
• There is a lag of six weeks in the publication of the IIP index data after the reference month ends.
• IIP index is currently calculated using 2011-2012 as the base year.

IIP Index Components:

• Mining, manufacturing, and electricity are the three broad sectors in which IIP constituents fall.
• The relative weights of these three sectors are 77.6% (manufacturing), 14.4% (mining) and 8% (electricity).
• Electricity, crude oil, coal, cement, steel, refinery products, natural gas, and fertilizers are the eight core industries that comprise about 40 per cent of the weight of items included in the IIP.

Basket of products

There are 6 sub-categories:

1. Primary Goods (consisting of mining, electricity, fuels and fertilizers)
2. Capital Goods (e.g. machinery items)
3. Intermediate Goods (e.g. yarns, chemicals, semi-finished steel items, etc)
4. Infrastructure Goods (e.g. paints, cement, cables, bricks and tiles, rail materials, etc)
5. Consumer Durables (e.g. garments, telephones, passenger vehicles, etc)
6. Consumer Non-durables (e.g. food items, medicines, toiletries, etc)

Who releases IIP data?

• The IIP data is compiled and published by CSO every month.
• CSO or Central Statistical Organization operates under the Ministry of Statistics and Programme Implementation (MoSPI).
• The IIP index data, once released, is also available on the PIB website.

GDP Deflator

The most comprehensive measure is GDP deflator which is measured as the ratio of GDP (Gross Domestic Product) at current prices to GDP at constant prices. Since it encompasses the entire spectrum of economic activities including services, the scope and coverage of the national income deflator is wider than any other measure. This data is released by the Central Statistical Organization (CSO) but is not used as it comes quarterly and with a 2-month lag.

What is Inflation targeting?

• Inflation targeting involves using monetary policy to keep inflation close to the agreed target.
• RBI and Government of India signed a Monetary Policy Framework Agreement in February 2015.
• As per terms of the agreement, the objective of monetary policy framework would be primarily to maintain price stability (inflation targeting), while keeping in mind the objective of growth.
• According to the agreement, RBI would aim to contain consumer price inflation within 4% with a band of (+/-) 2% for all subsequent years.

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Topics for Today’s questions:

GS-1   Salient features of Indian Society, Diversity of India

GS-2  Bilateral, Regional and Global Groupings and Agreements involving India and/or affecting India’s interests.

GS-3  Infrastructure: Energy, Ports, Roads, Airports, Railways etc.

GS-4  Contributions of moral thinkers and philosophers from India and world.

Questions:

Question 1)

Q.1 “Caste system is assuming new identities and associational forms. Hence, caste system cannot be eradicated in India”. Comment. (10 Marks)

Question 2)

Q.2 Quad has come a long way since its formation and over the years, the Quad’s diplomacy has waxed and waned. However, in the present context, China is deeply worried about the re-emergence and strengthening of the Quad. In light of this, examine the implications of Quad for India-China relations. (10 Marks)

Question 3)

Q.3 Despite many central government schemes, the financial position of discoms has not improved. What are the reasons for this? Suggest the way forward. (15 Marks)

Question 4)  

Q.4 “Where there is righteousness in the heart, there is beauty in the character. When there is beauty in the character, there is harmony in the home. When there is harmony in the home, there is order in the nation. When there is order in the nation, there is peace in the world.” — A. P. J. Abdul Kalam. Analyse the quote from the ethical perspectives relevant to today’s contemporary world. (10 Marks)

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In the earlier edition about North East Region, we studied about:

[Yojana Archive] Governance in North-East Region

The North-Eastern Region (NER) has several unique and unparalleled features; fertile land, abundant water resources, evergreen dense forests, high and dependable rainfall, flora and fauna and a mixture of socio-economic, political, ethnic and cultural diversity.

Agriculture in NER

• The NER comprising of eight States has a total geographical area which is nearly 9.12% of the total area of the country.

• Rural population in the region is around 80%. In the absence of major industries except in the state of Assam, the society is agrarian and depends on agriculture and allied sector for livelihood and other support.
• The agricultural production system is characterized by low cropping intensity (114%), subsistence level and mono-cropping.
• Mixed farming system is the order as most of the farmers want to produce their household food and nutritional need without having to depend on outside sources.
• The system, therefore, supports horticulture and animal husbandry partly due to a preference for non-vegetarian food.

Cropping patterns

• The net sown area is highest in Assam (34.12%), followed by Tripura (23.48%). Arunachal Pradesh has the lowest net sown area in the region.
• Cropping intensity is highest in Tripura (156.5%), followed by Manipur (152.1%), Mizoram (136.36%), and Assam (123.59%).
• About 1.6-million-hectares of area are under shifting cultivation in North East region.
• The region receives an annual rainfall of 2000 mm accounting for around 10% of the country’s total precipitation.
• The soil of the region is acidic to strongly acidic in reaction. The soils are however rich in organic matter.

Key features

• Topographical limitations: Although the landholding in the region appears to be higher, the entire holding cannot be used for agricultural purposes due to topographical disadvantages.
• Rice as staple: Rice dominates agriculture, but the productivity is low and production risky. Farming is predominantly rice-based with a little exception in the state of Sikkim where maize is a dominating crop.
• Unevenness: The NER is extremely diverse: uneven land, high and variable rainfall pattern and ethnicity.
• Animal husbandry: Various combinations of crop-livestock-fish-silk are followed in the region but such diversification contributes negligibly.
• Landholding: The preponderance of small and marginal (S&M) farmers is an important feature of the region.

Combating poverty

On account of complete dependence on agriculture, its vulnerability to natural calamities such as floods, submergence as well as droughts has deteriorated rural life and rural poverty has become rampant.

The deficit in food grains especially rice in the NER is increasing over the years. The approaches and strategies to increase rice production are given below:

1. Increasing seed replacement rate.
2. Enhancing varietal replacement rate.
3. Increasing cropping intensity through assured irrigation.
4. Expansion of effective irrigation facilities.
5. Adoption of more intensive cultivation practices.
6. Maintaining soil health and providing judicious soil nutrients.
7. Revisiting the extension mechanism.
8. Facilitation of credit, finance and crop insurance.
9. Marketing and creation of rural storage infrastructure, and
10.  Farm mechanization

Livestock Sector in NER

• Assam which has the largest cattle production in the region has slow growth in milk production which may be because it has a maximum of indigenous breeds in the total cattle population.
• Manipur and Mizoram witnessed decline in per capita availability of milk while it has increased in other states.
• Productivity of milk in case of buffaloes shows that the buffaloes in the region are very low yielding compared to other parts of India.

Policy Perspectives

• Despite the abundant natural resources, congenial climate and rich human capital, the NER has failed to reap the benefits of huge opportunities for societal welfare.
• In effect, the agricultural economies are falling back into the vicious cycle of low productivity, unemployment, low income and poverty and continue to limp, and this has increased the social threat perceptions.
• Hence a synergy is needed among the inter-disciplinary research community, policy planners and implementers, along with civil society to deal with the multifaceted situation.

It is felt that the region needs appropriate policy and investment to boost the development process.

• Flood management: NER is typically a rain-fed system. Here flood escaping production system is required, in flood-prone areas, where Boro rice is a promising crop enterprise.
• Modernization: Numerous aromatic and medicinal plants can be practiced with low-cost and resource conserving practices (Zero-tillage, System of Rice Intensification, etc.) to meet the growing domestic as well as international demand. Agriculture plus is required. That is, crop production should coexist with livestock, plantation, floriculture, medicinal crops and sericulture systems.
• Diversification: The hilly terrains suit crop diversification with high value horticulture crops accompanied by livestock and sericulture. The shifting cultivation requires an innovative strategy for improving productivity of rice and other crops, flowers like orchids and livestock.
• Agro-processing: Agro-processing sector hitherto is a neglected area but it has high potential to add value and reduce post-harvest losses. By encouraging fresh initiatives in ogre-processing, packaging and exploring of newer marketing avenues, the region can take advantages of high potential cross-border trade with surrounding countries.
• R&D: R&D support systems for generating small and marginal farmers’ friendly new agricultural technology should be given. Therefore, there is a need for boosting R&D investment in agriculture, which already is a low key area in the region.
• Regional Database: It is a serious constraint to effective policy analysis in the agricultural economy in the region. Basic tool of e-governance is necessary in this regard.

11th Aug, 2021

What is the economy?

• An economy is an area of the production, distribution and trade, as well as consumption of goods and services by different agents.
• It encompasses all activity related to production, consumption, and trade of goods and services in an area. It is the large set of inter-related production and consumption activities that aid in determining how scarce resources are allocated.
• The production and consumption of goods and services are used to fulfill the needs of those living and operating within the economy, which is also referred to as an economic system.
• The economy of a particular region or country is governed by its culture, laws, history, and geography, among other factors, and it evolves due to necessity.

Sectors in an economy

Generally, there are four sectors

1. Household/Individual/Consumer
2. Producer/Firms
3. Government
4. Rest of the world

Factors of production

Factors of production are the inputs needed for the creation of a good or service. There are four main factors of production:

1. Land
2. Labor: Labor refers to the effort expended by an individual to bring a product or service to the market. It covers both mental and physical efforts by an individual.
3. Capital: Capital refers to all human-made productive assets used to further production. For example, a tractor purchased for farming is capital. Along the same lines, desks and chairs used in an office are also capital.
4. Entrepreneurship: Entrepreneurship refers to the organization of all factors of production to profit. An entrepreneur take risks, conceive new ideas, new products and processes.

National Income Accounting

• National income of a country means the sum total of incomes earned by the citizens of that country during a given period, say a year.
• It refers to the practice of calculating the output of an economy. It helps in assessing how the economy is doing. 
• The most basic measure of the size of economy is its volume of production. From this, the value of total goods and services produced in an economy is calculated.
• There are four players in the economy, namely, Individuals or Households, Business Firms or investor, Government, and Foreign Nationals.
• To understand the flow of goods and services, let’s consider only two players- Household and Business firm.

Gross Domestic Product (GDP)

• GDP is the total value of goods and services produced within the country during a year.
• This is calculated at market prices and is known as GDP at market prices (GDP_MP). 
• It is the market value of the output of final goods and services produced in the domestic territory of a country during an accounting year.
• There are three different ways to measure GDP:

• These three methods of calculating GDP yield the same result because;

National Product = National Income = National Expenditure

Gross National Product (GNP)

• Gross National Product is defined as the total market value of all final goods and services produced in a year.
• It is the market value of everything that is produced by Nationals of a country both inside and outside the country’s territory.

Net National Product (NNP) or National Income at Market Price

• There is wear and tear during all these stages of production of goods. This wear and tear must be reduced from the Gross National products to know what net national product is.
• NNP is also called National Income at Market price:

NNP or NI (market price) = GNP-depreciation

NNP_FC= NNP_MP  – taxes + subsidies

GDP Deflector

• The GDP price deflator, also known as the GDP deflator or the implicit price deflator, measures the changes in prices for all of the goods and services produced in an economy.
• The GDP price deflator measures the changes in prices for all of the goods and services produced in an economy.
• Using the GDP price deflator helps economists compare the levels of real economic activity from one year to another.
• The GDP price deflator is a more comprehensive inflation measure than the CPI index because it isn’t based on a fixed basket of goods.
• We use the following formula to calculate the GDP price deflator:

GDP Deflator=(Nominal GDP ÷ Real GDP)×100

Difference between Economic Growth and Development

ECONOMIC GROWTH	ECONOMIC DEVELOPMENT
Single dimension Concept- merely a quantitative concept	Double / Multi dimension Concept- both quantitative and qualitative in nature
It is concerned with the rate of increase in national income.	It is concerned with the welfare of people (a qualitative aspect) along with an increase in per capita income (a quantitative concept).
The distribution of income is ignored in the case of economic growth.	The distribution of income is given due consideration. Reduction in inequality (of the income distribution) is one of the principal targets of economic development.
Economic growth may occur independently of any structural, institutional, and technical changes in the economy.	Economic development is invariably associated with significant structural, institutional, and technical changes in the economy.

Human Development Index (HDI)

• The human development index (HDI) report released by the United Nations Development Programme.
• The HDI is the composite measure of every country’s attainment in three basic dimensions:

1. Standard of living measured by the gross national income (GNI) per capita.
2. Health measured by the life expectancy at birth.
3. Education levels calculated by mean years of education among the adult population and the expected years of schooling for children.

Inclusive Development Index

• The IDI has been developed by the World Economic Forum (WEF) as a new metric of national economic performance.
• It is seen as an alternative to GDP.
• The Index on inclusiveness reflects more closely the criteria by which the people evaluate their countries’ economic progress.
• The index has three pillars of growth for global economies namely:

1. growth and development
2. inclusion
3. intergenerational equity and sustainability

Fiscal Policy

• Fiscal policy is the use of government spending and taxation to influence the economy.
• Fiscal measures are frequently used in tandem with monetary policy to achieve certain goals.
• The usual goals of both fiscal and monetary policy are to achieve or maintain full employment, to achieve or maintain a high rate of economic growth, and to stabilize prices and wages.
• When the government decides on the goods and services it purchases, the transfer payments it distributes, or the taxes it collects, it is engaging in fiscal policy.
• Fiscal policy is based on the theories of British economist John Maynard Keynes, also known as Keynesian economics. This theory basically states that governments can influence macroeconomic productivity levels by increasing or decreasing tax levels and public spending.
• Article 112 of the constitution mandates that expenditure to be shown in revenue and other categories.

Types of Fiscal Policy

1. Neutral Fiscal Policy: This implies a balanced budget where (Government spending = Tax revenue). It further means that government spending is fully funded by tax revenue and overall the budget outcome has a neutral effect on the level of economic activity.
2. Expansionary Fiscal Policy: It is designed to stimulate the economy, is most often used during a recession, times of high unemployment or other low periods of the business cycle. It entails the government spending more money, lowering taxes or both. The goal is to put more money in the hands of consumers so they spend more and stimulate the economy.
3. Contractionary fiscal policy: It is used to slow economic growth, such as when inflation is growing too rapidly. Too the opposite of expansionary fiscal policy, contractionary fiscal policy raises taxes and cuts spending.

A break up of the finances into revenue and capital streams, in general, is as follows:

1. Revenue receipts are recurrent receipts. Revenue account includes the following receipts:
   • Taxes- income tax, corporation tax, excise duty, customs duty etc;
   • Non-tax resources- user charges; interest receipts; dividends; profits etc
2. Revenue account expenditure are essentially the non-plan expenditure that does not create assets i.e. interest payments, defense, subsidies and public administration. It is synonymous with maintenance and consumption expenditure as also welfare expenditure.
3. Capital account receipts are recoveries of loans advances made by the Union Government to States, UTs and PSUs); fresh borrowings from inside the country and from abroad; disinvestment, proceeds etc. As is clear from above, some of them are debt and some are non-debt.
4. Capital account expenditure is loans made to States, UTs and PSUs; expenditure for asset creation in infrastructure and social areas

REVENUE DEFICIT AND FISCAL DEFICIT

• Revenue deficit is the difference between the revenue receipts on tax and non-tax sides and the revenue expenditure.
• RD= Revenue Expenditure – Revenue Receipts
•  It is targeted at 4% of GDP for 2010-11 which is rendered necessary because of the global recession and slowdown in Indian economy (FRBM Act says that RD should be zero by the end of 2008-09). The objective is to fund for consumption from government’s own resources and not borrowing.
• The fiscal deficit is the difference between the government’s total expenditure and its total receipts (excluding borrowing). Fiscal deficit in layman’s terms corresponds to the borrowings and liabilities of the government.
• In other words, it is the difference what is received by the government on revenue account and all the non-debt creating capital like recovered loans and disinvestment proceeds; and the total expenditure. It amounts to all borrowings of the government in a given period. It is targeted at 5.5% of GDP in 2010-11.
• FD = (Total expenditure of the Government in a budget) – (Revenue receipts + non-debt creating capital receipts)
• Fiscal Deficit mirrors the health of government finances most accurately unlike the budget deficit concept.
• Primary deficit is the difference between the fiscal deficit and the interest payments. The concept helps in assessing the progress of the government in its fiscal control efforts.

DEFICIT FINANCING

• Deficit Financing is the phrase used to describe the financing of gap between Government receipts and expenditure. It is financed by printing fresh money by the RBI and market borrowing.
• The gap can be deliberate as the Government wants to spend on welfare and infrastructure for which it has no money and so borrows from the RBI; or due to bad finances of the government.
•  But uncontrolled borrowing is not good for the economy, as a greater portion of the governments revenue will in future be used to pay back the interest of loans and the money available for social sector initiatives will reduce.
• When the Government has to spend more than what it can raise through tax, non-tax, and other sources, it borrows from the market. It can’t borrow above a certain amount from the market, as it may be inflationary; drives up wasteful government expenditure; push up interest rates; increase government’s debt burden and thus divert resources from plan to non-plan; burden future generations with unduly high taxation and thus disrupt inter generational parity; and crowd out private investment.

• The above point can be understood from following flowchart:

• In other words, when the resources from taxes, user charges, public sector enterprises, public borrowings, small scale borrowings and others are not enough, RBI prints and gives to the Government. It is called deficit financing.
• In fact, FRBM disallows RBI printing money to finance government deficit in normal conditions. But the economic conditions having become adverse since 2008-09, Government is forced to abandon the FRBM rules and is spending g well beyond the limits set by the Act.
• On balance, it may be said that, if deficit financing is done prudently and the borrowed money is used well, it is healthy. However, if the borrowed money is wasted for consumption, is against good economics as it can negatively affect money supply and inflation; and also dampen growth. The desirability of deficit financing, in short, depends on-
  • Extent of borrowing
  • End use of the money borrowed.

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