Fiscal Deficit is the difference between the total income of the government (total taxes and non-debt capital receipts) and its total expenditure. A fiscal deficit situation occurs when the government’s expenditure exceeds its income. The Fiscal Responsibility and Budget Management (FRBM) Act was enacted in 2003 which set targets for the government to reduce fiscal deficits. The Budget 2019-20 has pegged the fiscal deficit for the year 2019-20 at 3.3% of GDP.
There are lot of expenditure commitments for the government in a growing economy. It has to create infrastructure, provide social expenditure and has to accelerate the process of industrialization.
1. The government need to initiate poverty eradication and employment generation measures to facilitate equality (government as an active economic agent and a facilitator).
2. For all these, high level of government expenditure is needed in the context of lack of money to finance such expenditure.
3. Similarly, when the economic growth is low due to inadequate private expenditure, the government has to spend more. This is possible only by increasing public expenditure using borrowing.
4. Similarly, it has to promote private expenditure by reducing taxes. The last global financial crisis has made resurgence in the use of fiscal policy to escape from a macroeconomic crisis.
Some countries like Greece and Spain faced crisis because of depending on high level of public debt (fiscal deficit). Fiscal policy should be cautiously and judiciously applied. Otherwise, it will create bad outcomes like a debt crisis. Though fiscal deficit is desirable, the cost for adopting it as a budget practice is also significant in the Indian context:
1. The fiscal deficit in India has low degree of monetisation because of the absence of both budget deficit and monetisation of fiscal deficit. But still it creates inflation because of the demand impact of high level of expenditure by the government.
2. Fiscal deficit is met through borrowing by the government from the open market at competitive rate of interest, which increases the overall interest rate in the economy.
3. Crowding out effect: high level of public borrowings reduces the opportunity of the private sector to borrow and finance their investments.
4. Future interest payment burden for the government increases. Hence it adds to the burden on the future generation. Here, the expenditure is made for the current generation but debt is paid back by the future generation. Hence Fiscal Deficit violates the principle of inter-generational equity.
5. The widening of state fiscal deficit now has more direct implications for interest rates in the economy.
Following are the recommendations of NK Singh committee for fiscal discipline-
1. Committee recommended that the combined debt-to-GDP ratio of Centre and States should be brought down to 60% by 2023(40% Centre and 20 % States) as against existing 49.4% of centre and 21% of states.
2. For fiscal consolidation, the centre should reduce its fiscal deficit from the current 3.5% (2017) to 2.5% by 2023.
3. The central government should reduce its revenue deficit steadily by 0.25 percentage (of GDP) points each year, to reach 0.8% by 2023.
4. The committee has recommended an Escape Clause to accommodate counter cyclical fluctuations such as Boom or Recession or in case of any natural calamities.
5. The Committee proposed to create an autonomous Fiscal Council with a role of preparing multi-year fiscal forecasts, recommending changes to the fiscal strategy, improving quality of fiscal data, advising the government if conditions exist to deviate from the fiscal target, and advising the government to take corrective action for non-compliance with the Bill.
It’s time to align the monetary and fiscal economies. If bank credit growth falls, fiscal deficit may need to go up. If bank credit growth rises, fiscal deficit should reduce. This is particularly true for a growing economy like India. Even though government finances should improve with the stabilization of the goods and services tax, India needs better fiscal management at both the state and Central levels to avoid crowding out the private sector. This will enable higher investment and help attain higher sustainable growth.