Meaning of Government Budget

Government budget is
an annual statement,
showing item wise
estimates of receipts
and expenditures
during a fiscal year.
 Objectives of Government Budget
1. Reallocation of Resources:
Through the budgetary policy, Government aims to reallocate resources in accordance with the
economic (profit maximization) and social (public welfare) priorities of the country.

Government can influence allocation of resources through:

(i) Tax concessions or subsidies: To encourage investment, government can give
tax concession, subsidies etc. to the producers. For example, Government
discourages the production of harmful consumption goods (like liquor,
cigarettes etc.) through heavy taxes and encourages the use of 'Khadi
products' by providing subsidies.
(ii) Directly producing goods and services: There are many non-profitable
economic activities, which are not undertaken by the private sector like, water
supply, sanitation, law and order, national Defence, etc. These are called
'Public Goods'. Such activities are necessarily undertaken by the government in
public interest & to raise social welfare.
 2. Reducing inequalities in income and wealth:
Economic inequality is an inherent part of every economic system. Government aims to reduce
such inequalities of income and wealth, through its budgetary policy. Government aims to
influence distribution of income by imposing taxes on the rich and spending more on the welfare
of the poor. It will reduce income of the rich and raise standard of living of the poor, thus
reducing inequalities in the distribution of income.

3. Economic Stability:
Economic Stability means absence of large-scale fluctuation in prices. Such fluctuations create
uncertainties in the economy. Government can exercise control over these fluctuations through
taxes and expenditure.

(i) Inflationary tendencies emerge when aggregate demand is higher than

the aggregate supply. Government can bring down aggregate demand by
reducing its own expenditure.
(ii) During deflation, government can increase its expenditure and give tax
concessions and subsidies.
 4. Management of Public Enterprises:
There are large numbers of public sector industries (especially natural monopolies), which are
established and managed for social welfare of the public. Budget is prepared with the objective of
making various provisions for managing such enterprises and providing them financial help.

5. Economic Growth:
Economic Growth implies a sustainable increase in the real GDP of an economy, i.e. an increase in
volume of goods and services produced in an economy Budget can be an effective tool to ensure
the economic growth in a country.

(i) If the government provides tax rebates and other incentives for productive
ventures and projects, it can stimulate savings and investments in an economy.
(ii) Spending on infrastructure of an economy enhances the production activity
in different sectors of an economy. Government Expenditure is a major factor
that generates demand for different types of goods and services in an economy
which induces growth in private sector too.
 6. Reducing regional disparities:
The government budget aims to reduce regional disparities
through its taxation and expenditure policy for encouraging
setting up of production units in economically backward regions.
For example, establishment of Special Economic Zones (SEZs) in the
backward regions for promoting their economic development.

7. Employment Generation:
Government Budget is used as an effective tool in the process of
employment generation in various ways. Investment in
infrastructural projects like construction of flyovers, bridges,
expansion of roads, etc. creates jobs for different sections of the
workforce. In rural / urban areas, government aims to provide jobs
through various employment generation schemes like MGNREGA,
SJSRY, PMRY, etc.
 Components of Budget
1. Revenue Budget:
It deals with the revenue aspect of the government budget. It explain show revenue
is generated or collected by the government and how it is allocated among various
expenditure heads.
Revenue budget has two parts:
(i) Revenue Receipts;
(ii) Revenue Expenditures. In short, Revenue Budget is the statement of estimated
revenue receipts and estimated revenue expenditure during a fiscal year.

2. Capital Budget:
It deals with the capital aspect of the government budget and it consists of:
(i) Capital Receipts;
(ii) Capital Expenditures. In other words, Capital Budget is the statement of
estimated capital receipts and estimated capital expenditure during a fiscal year.
 Budget Receipt
Budget receipts refers to the estimated money receipts of the government from all sources during
a given fiscal year.
Budget receipts may be future classifies as:
(i) Revenue receipts;
(ii) Capital receipts.
 Revenue receipt
Revenue receipts refer to those receipts which neither create any liability nor cause any reduction in
the assets of the government. They are regular and recurring in nature and government receives them
in its normal course of activities

(i) The receipt must not create a liability for the

government. For example, taxes levied by the
government are revenue receipts as they do not
create any liability. However, any amount,
borrowed by the government, is not a revenue
receipt as it causes an increase in the liability in
terms of repayment of borrowings.
(ii)The receipt must not cause decrease in the assets.
For example, receipts from sale of shares of a
public enterprise is not a revenue receipt as it
leads to a reduction in assets of the government.
 Two sources of Revenue Receipts

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Revenue receipts of the government are
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generally classified under two heads:

Tax- Non-Tax
Revenue Revenue
Tax Revenue
Tax revenue refers to the sum total of
receipts from taxes and other duties
imposed by the government. Tax is a
unilateral (one-sided) compulsory
payment made by people and companies
to the government without reference to
any direct benefit in return.
Tax revenue can be further classified as:
(i) Direct Taxes
(ii) Indirect Taxes
 Direct taxes refer to the taxes that are imposed on
Direct property and income of individuals and companies
and their burden cannot be shifted to the other
Taxes: person/entity.

Indirect taxes are those taxes which can be shifted to

another person/entity. Their monetary burden is
Indirect ultimately borne by final users of goods and services,
rather than the person on whom the tax is levied
Taxes: Example: Goods and Services Tax (GST), Basic Customs
Duty, Central Excise and VAT on Petroleum Products,
Excise on Liquor, Electricity Duties.
Indirect taxes are compulsory payments. But, they can
Indirect be avoided by not entering into those transactions,
Taxes can be which call for such taxes. For example, consumers may
save taxes by purchasing Khadi Gram Udyog items as
avoided: there is no indirect tax on khadi items.
(i) A tax is a direct tax, if its burden cannot be shifted. For example, income
tax is a direct tax as its impact and incidence is on the same person.

(ii) A tax is an indirect tax, if its burden can be shifted. For example, Goods
and Services Tax (GST) is an indirect tax as its impact and incidence is on
different persons.

Comparison between Direct taxes and Indirect Taxes

Basis Direct Taxes Indirect Taxes
Direct Taxes are levied on individuals and Indirect Taxes are levied on goods and
Impact
companies. services.

The burden of an indirect tax can be

The burden of a direct tax cannot be shifted, i.e.,
Shift of Burden shifted, i.e. impact and incidence is on
impact & incidence on the same person.
different persons.

Nature They are generally progressive in nature. They are generally proportional in nature.

They have limited reach as they do not reach all the They have a wide coverage as they reach all
Coverage
sections of the economy. the sections of the society.
1. Non-Tax Revenue
Non-tax revenue refers to receipts of the government from all sources other
than those of tax receipts.

The main Sources of Non - Tax Revenue are:

1. Interest : Government receives interest on loans given by it to the state
governments, union territories, and the general public.
 Interest receipts from these loans are an important source of non-tax revenue.

2. Profits and Dividends : The government earns profit through public sector
undertakings like Indian railways, LIC, BHEL, etc.
 It earns profit from the sale proceeds of the product of public enterprises.
 The government also gets dividends from its investments in other companies.
3. Fees: It refers to charges imposed by the government to cover the cost of
recurring services provided by it.
 Such services are generally in the public interest and fees are
paid by those who receive such services.
 E.g. Court Fees, Registration Fees, Import Fees, etc.
4. License Fee: it is a payment charged by the government to grant permission for
something. For example: license fee paid for permission of keeping a gun or to
obtain National Permit for commercial vehicles.

5. Fines and Penalties: They refer to those payments which are imposed on law
breakers. For example, fine for jumping red light or penalty for non-payment of
tax. Fines are different from taxes as the former is levied to maintain law and
order, whereas, the latter is imposed to generate revenue.

6. Escheats: It refers to claim of the government on the property of a person who

dies without leaving behind any legal heir or a will.

7. Gifts and Grants: Government receives gifts and grants from foreign
governments and international organizations.

8. Forfeitures: These are in the form of penalties which are imposed by the courts
for non- compliance of orders or non-fulfilment of contracts etc.

9. Special Assessment: It refers to the payment made by owners of those properties

whose value has appreciated due to developmental activities of the government.
 Comparison between Tax-Revenue and Non-Tax Revenue
Basis Tax Revenue Non-Tax Revenue
Non-Tax revenue refers to
Tax revenue refers to sum total of
receipts of the government
Meaning receipts from taxes and other duties
from all sources other than
imposed by the government.
those of tax receipts.
It is not a compulsory payment.
It is a compulsory payment imposed It becomes payable only when
Nature
by the government. services offered by the
government are availed.
No direct benefit is received from the It is paid in exchange of
Benefit
government in exchange of tax paid. services received.
Income Tax, Corporate Tax, Goods Interest, Profits and Dividends,
Examples
and Services Tax (GST), etc. Fees, etc.
 Capital Receipt
Capital receipts refer to those receipts which either create a liability or cause a reduction in the
assets of the government. They are non-recurring and non-routine.

A receipt is a capital receipt, if it satisfies any one of the two conditions given below :

Capital Receipts (i) The receipts must create a liability for the
government. For example, Borrowings are
capital receipts as they lead to an increase in
the liability of the government. However,
Either creates a On reduce an tax received is not a capital receipt as it does
Liability asset not result in creation of any liability.

(ii) The receipts must cause a decrease in the

assets. For example, receipts from sale of
Satisfies any shares of public enterprise is a capital receipt
as it leads to reduction in assets of the
one Condition government
 Sources of Capital Receipts
Capital receipts are broadly classified into three groups:
1. Borrowings: Borrowings are the funds raised by government
to meet excess expenditure.
2. Recovery of Loans: Government grants various loans to state
governments or union territories. Recovery of such loans is a
capital receipt as it reduces the assets of the government.
3. Other Receipts: These include:
(a) Disinvestment: Disinvestment refers to the act of selling a part or the whole of shares of selected
public sector undertakings (PSU) held by the government. They are termed as capital receipts as
they reduce the assets of the government. Government holds ownership in various PSU's in the form
of equity shares. When the government sells a part or whole of its shares, it leads to transfer of
ownership of PSU's to the private enterprises.
(b) Small Savings: Small savings refer to funds raised from the public in the form of Post Office
deposits, National Saving Certificates, Kisan Vikas Patras etc. They are treated as capital receipts as
they lead to an increase in liability
 Comparison between Revenue receipt and Capital receipt
Basis Revenue Receipt Capital Receipt

They neither create a liability nor reduce They either create any liability or
Meaning
any asset of the government. reduce any asset of the government.

They are irregular and non-

Nature They are regular and recurring in nature.
recurring in nature.

In the case of certain capital receipts

There is no future obligation to return the (like borrowings), there is future
Future obligation
amount. obligation to return the amount
along with interest.

Tax revenue (like income tax, goods and

Examples services tax, etc.) and non-tax revenue (like Borrowings, disinvestment, etc
interest, fees, etc.)
 Budget expenditure
Budget expenditure refers to the
estimated expenditure of the
government during a given fiscal
year
The Budget Expenditure can be
broadly categorized as :
(i) Revenue Expenditure
(ii) Capital Expenditure
 1. Revenue Expenditure:
Revenue expenditure refers to the expenditure which neither creates any
asset nor causes reduction in any liability of the government.
(i) It is recurring in nature.
(ii)It is incurred on normal functioning of the government and the
provisions for various services.
Examples: Payment of salaries, pensions, interests, expenditure on
administrative services, Defence services, health services, grants to state, etc.

 The expenditure must not create an asset of the government. For

example, payment of salaries or pension is revenue expenditure as it does
not create any asset. However, the amount spent on construction of
Metro is not a revenue expenditure as it leads to creation of an asset.
 The expenditure must not cause decrease in any liability. For example,
repayment of borrowings is not revenue expenditure as it leads to
reduction in liability of the government.
 2. Capital Expenditure:
Capital expenditure refers to the expenditure which either
creates an asset or causes a reduction in the liabilities of the
government.

An expenditure is a capital expenditure, if it satisfies any one of

the following two conditions:
(i) The expenditure must create an asset for the government. For
example, Construction of Metro is a capital expenditure as it
leads to creation of an asset. However, any amount paid as
salaries is not a capital expenditure as there is no increase in
the assets.
(ii)The expenditure must cause a decrease in the liabilities. For
example, repayment of borrowings is a capital expenditure
as it leads to a reduction in the liabilities of the government.
 Revenue Expenditure
Revenue Expenditure

neither
neither creates
creates Nor
Nor reduce
reduce any
any
aa asset
asset liability
liability

Satisfies both
Conditions
 Capital Expenditure
Capital Expenditure

either creates
neither creates or reduce
Nor reduce aany
aaasset
asset liability
liability

Satisfies any one

Condition
 Comparison between Revenue receipt and Capital receipt
Basis Revenue Expenditure Capital Expenditure
Revenue expenditure neither creates any Capital expenditure either creates
Meaning asset nor reduces any liability of the an asset or reduces the liability of
government. the government.

It is incurred for the normal running of It is incurred mainly for the

Purpose government departments and the acquisition of assets and granting
provision of various services. of loans and advances.

It is recurring in nature as such

Nature expenditure is spent by the government It is non-recurring.
on day-to-day activities.

Repayment of borrowings,
Examples Salary, pension, interest, etc. expenditure on acquisition of
capital assets, etc.
 Balanced, Surplus and Deficit Budget

Balanced A government budget is said to be a balanced budget

if estimated government receipts are equal to the
Budget: estimated government expenditure.

Surplus If estimated government receipts are more than the

estimated government expenditure, then the budget
Budget: is termed as ‘surplus budget’.

Deficit If estimated government receipts are less than the

estimated government expenditure, then the budget
Budget: is termed a ‘deficit budget’.
 Deficit Budget: Estimated Government
Receipts < Estimated Government Expenditure
i. Developing countries generally have deficit
budget because they need to incur more
expenditure than the amount of resources the
economy can mobilize.
ii. It Helps to increase the level of aggregate demand
in the economy, which is required during deficient
demand to control deflation.
iii.However, during excess demand, deficit budget
would further increase the difference between AD
and AS which would lead to inflationary gap.
 Measures Of Government Deficit
Budgetary deficit is defined as the excess of total estimated
expenditure over total estimated revenue. When the government
spends more than it collects, then it incurs a budgetary deficit.
Budgetary Deficit = Total Expenditure - Total Receipts

With reference to
budget of Indian Measures of Budgetary Deficit
government,
budgetary deficit can
Revenue Deficit Fiscal Deficit Primary Deficit
be of 3 types:

Revenue Total expenditure – Fiscal deficit –

expenditure – total receipts (excluding Interest
revenue receipt borrowing) payments
 Revenue deficit:
Revenue deficit: Revenue deficit is concerned with the revenue expenditures &
revenue receipts of the government. It refers to excess of revenue expenditure
over revenue receipts during the given fiscal year.
Revenue Deficit = Revenue Expenditure - Revenue Receipts
(Revenue deficit signifies that government's own revenue is insufficient to meet
the expenditures on normal functioning of government departments and
provisions for various services.)

Implications of Revenue Deficit

(i) It indicates the inability of the government to meet its regular

and recurring expenditure in the proposed budget.
(ii) Implies that government is dissaving, i.e. government is using
up savings of other sectors of the economy to finance its
consumption expenditure.
(iii) It also implies that the government has to make up this deficit from capital
receipts, i.e. through borrowings or disinvestments. It means, revenue deficit
either leads to an increase in liability in the form of borrowings or reduces the
assets through disinvestment.

(iv) Use of capital receipts for meeting the extra consumption expenditure leads
to an inflationary situation in the economy. Higher borrowings increase the
future burden in terms of loan amount and interest payments and increase in
such interest burden will lead to increase in revenue expenditure in future.

(v) A high revenue deficit gives a warning signal to the government to either
curtail its expenditure or increase its revenue.

Implications of Revenue Deficit

(i) Reduce Expenditure: Government should take serious steps to reduce
its expenditure and avoid unproductive or unnecessary expenditure
(ii) Increase Revenue: Government should increase its receipts from
various sources of tax and non-tax revenue.)
 Fiscal Deficit
Fiscal deficit presents a more comprehensive view of
budgetary imbalances. It is widely used as a budgetary
tool for explaining and understanding the budgetary
developments in India.
Fiscal deficit refers to the excess of total expenditure
over total receipts (excluding borrowings) during the
given fiscal year.

Fiscal Deficit = Total Expenditure - Total Receipts

excluding borrowings**

The extent of fiscal deficit is an indication of how far

the government is spending beyond means.
 IMPLICATIONS OF FISCAL DEFICIT
Fiscal deficit indicates the total borrowing requirements of the government. Borrowings
not only involve repayment of principal amount, but also require payment of interest.
Debt Trap: Interest payments increase the revenue expenditure, which leads to revenue deficit. It
creates a vicious circle of fiscal deficit and revenue deficit, wherein government takes
more loans to repay the earlier loans. As a result, country is caught in a debt trap.

Government mainly borrows from Reserve Bank of India (RBI) to meet its
fiscal deficit. RBI prints new currency to meet the deficit requirements. It
Inflation: increases the money supply in the economy, which leads to increase in general
price level and creates inflationary pressure.

Foreign Government also borrows from rest of the world, which raises its
Dependence: dependence on other countries.

Borrowings increase the financial burden for future generations. It

Hampers the
adversely affects the future growth and development prospects of the
future growth: country
 Comparison between Fiscal Deficit and Revenue Deficit

Basis Fiscal Deficit Revenue Deficit

It shows the excess of

It shows the excess of
total expenditure over
Meaning revenue expenditure over
total receipts excluding
the revenue receipts.
borrowings.

It measures the total It indicates inability of the

borrowing government to meet its
Indicator
requirements of the regular and recurring
government. expenditure.
 Sources of Financing Fiscal Deficit
1. Borrowings:
1. Fiscal deficit can be met by borrowings from the internal
sources (public, commercial banks etc.) or the external
sources (foreign governments, international organisations
etc.).

2. Deficit Financing (Printing of new currency):

Government may borrow from RBI against its securities to
meet the fiscal deficit. RBI issues new currency for this
purpose. This process is known as deficit financing.
 Primary Deficit:
Primary deficit refers to difference between fiscal
deficit of the current year and interest payments
on the previous borrowings.
Primary Deficit = Fiscal Deficit - Interest Payments

Implications of Primary Deficit:

It indicates, how much of the government borrowings are going to meet
expenses other than the interest payments. The difference between fiscal
deficit and primary deficit shows the amount of interest payments on the
borrowings made in past. So, a low or zero primary deficit indicates that
interest commitments (on earlier loans) have forced the government to
borrow.
Primary Deficit is the root Cause of Fiscal Deficit
In India, interest payments have considerably increased in the recent years. (High interest payments on past
borrowings have greatly increased the fiscal deficit. To reduce the fiscal deficit, interest payments should be
reduced through repayment of loans as early as possible.

Comparison Between Primary deficit and Fiscal Deficit

Basis Primary Deficit Fiscal Deficit
It shows the excess of total expenditure
It shows the difference between fiscal
Meaning over total receipts excluding
deficit and interest payment.
borrowings.

It indicates the total borrowing It indicates the total borrowing

Indicator requirements of the government, requirements of the government,
excluding interest. including interest.

Primary deficit = Fiscal deficit – Fiscal deficit = Total expenditure – Total

Formula
interest payment. receipts excluding borrowings.