BCom Fiscal Policy of India Notes Study Material
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BCom Fiscal Policy of India Notes Study Material
Fiscal policy plays an important role in the economic and social set-up of a country. Fiscal policy refers to the policy of the Government regarding taxation, public expenditures and public debt. It is defined as a set of principles and decisions of a Government in setting the level of public expenditure and the ways of financing it. An affecting fiscal policy consists of policy decisions relating to the entire financial structure of the Government including tax revenue, public expenditures, loans, transfers, debt management, budgetary deficit and so on.
According to Harvey and Johnson M., “Fiscal policy is defined as changes in Government expenditure and taxation designed to influence the pattern and level of activity.” G. K. Shaw defined fiscal policy as “to include any design to change the price level, composition or timing of Government expenditure or to very the burden, structure of frequency of the tax payment.”
Modern society acknowledges the positive and supportive role played by the Government. The Government not only imposes taxes but also incurs expenditure on public welfare. Government participation is not confined to just traditional activities of maintaining law and order but has expanded its reach to include the provision of social infrastructures, such as education, health, entertainment, social security and physical infrastructures, such as airports, roads, parks, water and sewage system.
Thus finally we can say that fiscal policy is the policy concerning the revenue expenditure and debt of the Government for achieving certain objectives like control of inflation, public expenditure etc. which aims to short-run goals of full employment, and stability in the price level.
Fiscal policy affects an economy both at micro and macro levels. At the microeconomic level, it is used for making the distribution of wealth and income more equitable, providing equitable access to social services, meeting the basic needs of the poor, and influencing relative prices and cost conditions in order to discourage some activities and encourage others, and enhancing the efficiency of production and competitiveness of domestically produced output. (BCom Fiscal Policy of India Notes Study Material)
At the macro-economic level, the balance of tax revenue and expenditure influences the aggregate demand, which, in turn, influences output, employment, overall price level, the inflation rate of interest and many other variables. (BCom Fiscal Policy of India Notes Study Material)
OBJECTIVES OF FISCAL POLICY
Fiscal policy has both macro and micro economic objectives. In developed countries, the focus of the fiscal policy is on maintaining full employment and establishing growth, whereas in developing countries it is used to create an environment for rapid economic growth. The various objective of fiscal policy is as follows:
- Mobilisation and Efficient Allocation of Resources: Developing countries like India, are characterised by a low per capita income and investment and followed by a vicious circle of poverty. Fiscal policy aims at breaking this circle by mobilizing and generating resources through taxes and borrowings and investing these resources in efficient ways. (BCom Fiscal Policy of India Notes Study Material)
- Minimizing of Inequalities of Income and Wealth: Fiscal tools are used with the objective of bringing about redistribution of income in favour of the poor by taxing the rich and spending it on various social welfare activities including education, health, water and sanitation. (BCom Fiscal Policy of India Notes Study Material)
- Increasing Employment Opportunities: The level of employment influences the aggregate output and income, and thus, the general standard of living will improve. Fiscal policy also enables policymakers to attain the objectives of full employment and control of business cycles. It is possible by making the desired public expenditure to boost the effective demand in the economy at the time of depression.
- Increasing Output and Accelerating Economic Growth: Fiscal policy aims at increasing growth and development in the economy. Rapid economic growth is the fundamental objective of fiscal policy in a developing economy. In this regard, the fiscal policy should be so designed to raise the production potential of the economy and generate resources to finance infrastructural activities in the economy which will give or big push to the process of growth and development in the country. (BCom Fiscal Policy of India Notes Study Material)
- Economic Stability: It is another prime objective of sound fiscal policy. This objective implies the maintenance of full employment with relative price stabilisation. During an upswing, taxes are hiked to curb the rising demand for goods and services, whereas these are lowered in a recessionary phase to boost the level of demand. (BCom Fiscal Policy of India Notes Study Material)
- Price Stability: Economic stability is largely dependent on overall price stability. A stable price level creates a conducive environment for production, output and employment. Fiscal policy aims at reducing price fluctuations and maintaining a stable price level. In an inflationary situation, government expenditure is curtailed and taxes are increased to reduce disposable income and expenditure of the private sector. Conversely, in a deflationary situation, the Government enhances its own expenditure and induces the expenditures of the private sector by reducing taxes. (BCom Fiscal Policy of India Notes Study Material)
ASPECTS OF FISCAL POLICY
The followings are the four important aspects of India’s fiscal policy:
- Taxation Policy,
- Public Expenditure Policy,
- Public Debt Policy,
- Deficit Financing Policy.
Tax revenue is one of the important sources of revenue for the Government of India. The Government levies both direct and indirect taxes. Direct taxes are progressive in nature while indirect taxes are regressive in nature. Direct taxes, include taxes on income and property whereas indirect taxes covers taxes on commodities and services. Important direct taxes are income tax, corporate tax and wealth tax. Important examples of indirect taxes are sales tax, excise duty, import or customs duties etc.
Traditionally, the basic objective behind imposing taxes is to raise revenue. However, in modern economies, these have become important instruments of fiscal policy to achieve other objectives, such as equity and growth. The objective of equity is achieved by the redistribution of income among individuals or different population groups. (BCom Fiscal Policy of India Notes Study Material)
For example, taxes are imposed on the working population to support the poor, the disabled and unattended social groups. Similarly, to attain higher growth, macroeconomic performance is influenced by diverting resources, such as capital and labour, in certain desired channels, such as investment in infrastructure and production and consumption of essential goods, by imposing lower rates of taxes or by providing various tax concessions. (BCom Fiscal Policy of India Notes Study Material)
The main objectives of the taxation policy in India include the followings:
(i) Mobilisation of resources for financing economic development.
(ii) Formulation of capital by promoting savings and investment through time deposits, investment in Government bonds, units, insurance and so on.
(iii) Attainment of quality in the distribution of income and wealth through the imposition of progressive direct taxes.
(iv) Attainment of price stability by adopting an anti-inflationary taxation policy.
Public Expenditure Policy
Public expenditure plays an important role in the economic development of a country like India. With the increase in the responsibilities of the government and with increasing participation of the Government in the economic activities of the country, the volume of public expenditure in a highly populated country like India is increasing at a galloping rate. “The budget estimate (BE) 2014-15 estimated plan and non-plan expenditure at 5.75 lakh crore and 12.20 lakh crore respectively, which amounted to 4.5% and 9.5% of budget GDP, reflecting a growth 20.9% and 9.4% respectively over RE 2013-14.” (BCom Fiscal Policy of India Notes Study Material)
Public expenditure is of two different types i.e. developmental expenditure and non-developmental expenditure. Developmental expenditure of the Government is mostly related to development activities viz. development of infrastructure, industry, health facilities, educational institutions and so on. The non-developmental expenditure is mostly a maintenance type of expenditure, related to the maintenance of law and order, defence administrative services, and so on. (BCom Fiscal Policy of India Notes Study Material)
The following are the important features of the policy of public expenditure formulated by the Government of India.
(i) Development of Infrastructure: Development of infrastructural facilities which include the development of power projects, railways, roads, transportation systems, bridges, dams, irrigation projects, hospitals, educational institutions and so on involves huge expenditure by the Government because private investors avoid investing in these areas considering their low rate of profitability and high risk.
(ii) Development of Public Enterprises: The development of heavy and basic industries is very important for the development of a developing country. But the establishment of these industries involves huge investment and a considerable proportion of risk. So, the private sector cannot take responsibility to develop these industries. Naturally, the development of these industries has become a responsibility of the Government. (BCom Fiscal Policy of India Notes Study Material)
(iii) Support to Private Sector: Another objective of the public expenditure policy of the Government of India is to provide the necessary support to the private sector for the establishment of industry and other projects. (BCom Fiscal Policy of India Notes Study Material)
(iv) Social Welfare and Employment Programmes: It is another important feature of the public expenditure policy persuaded by the Government of India to its growing involvement in attaining various social welfare programmes and stress on employment generation programmes.
Public Debt Policy
Under public debt policy, the Government takes resources to public debt for financing its development expenditure. In the post-independence period, the Central Government has been raising a good amount of public debt regularly in order to mobilise resources to meet its developmental expenditure. The total public debt consists of two types of debt i.e. internal debt and external debt.
(i) Internal Debt: This is the amount of loan raised, from within the country by the Government. The internal public debt was raised from the open market by issuing bonds and cash certificates and 15 years annuity certificates. The Government also borrows for a temporary period from the RBI (treasury bill issued by RBI) and from commercial banks. (BCom Fiscal Policy of India Notes Study Material)
(ii) External Debt: Since the internal debt is insufficient for its need, the Government also takes a loan from external sources like World Bank, IMF, IDA and IFC. The Government also uses inter-governmental loans from various developed countries of the world for financing its various infrastructure projects. (BCom Fiscal Policy of India Notes Study Material)
The total outstanding liabilities of the Central Government were 55.87 lakh crore, accounting for 49.2 per cent of GDP, comprising 39 per cent of public debt and 10.2 per cent other liabilities at the end of March 2014. Of total public debt, internal debt constituted 95.9 per cent and the remaining was external debt (at book value). Total outstanding liabilities were estimated at 62.22 lakh crore in BE 2014-15.1
Deficit Financing Policy
Deficit financing in India indicates the Government taking a loan from the Reserve Bank of India in the form of issuing fresh currency. Considering the low level of income, low rate of savings and capital formation, the Government is increasingly taking resources to deficit financing. (BCom Fiscal Policy of India Notes Study Material)
Accordingly, Dr V. K. R. V. Rao, “Deficit financing is the name of the volume of those forced savings which are the result of an increase in prices during the period of the Government investment. Thus, deficit financing helps the country by providing necessary funds for meeting the requirements of economic growth but at the same time, it also creates the problem of inflationary rise in prices. Thus the deficit financing must be kept within the manageable limit.” (BCom Fiscal Policy of India Notes Study Material)
Due to adverse consequences of deficit financing through an inflationary rise in the price level, the Government should lay less stress on deficit financing. (BCom Fiscal Policy of India Notes Study Material)
MERITS OF FISCAL POLICY OF INDIA
The following are some important merits of the fiscal policy of India:
(i) Capital Formation: The fiscal policy of the country has played an important role in raising the rate of capital formation in the public and private sectors. The gross domestic capital formation as a per cent of GDP in India has increased from 10.2 per cent in 1950-51 to 22.9 per cent in 1980-81 and then 36.5% in 2009-10. Therefore, it has created a favourable impact on public and private sector investment in the country. (BCom Fiscal Policy of India Notes Study Material)
(ii) Mobilisation of Resources: The fiscal policy of the country has been helping to mobilise a considerable amount of resources through taxation, public debt, and other sources for financing its various developmental projects. The extent of internal resource mobilisation for financing the various five-year plans has increased considerably from 406 crores in 1950-51 to 77,89,892 crore in 2011-12
(iii) Incentives to Saving: The fiscal policy of the country has been providing various incentives to raise savings and encouraging investment through various budget policy changes, viz. tax exemption, tax concession and so on. Accordingly, the saving rate increased from more than 10.4 per cent in 1950-51 and 23.1 per cent in 1997-98 to 33.7 per cent in 2009-10.
(iv) Inducement to Private Sector: The private sector of the country has been getting necessary inducements from the fiscal policy of the country to expand its activities. Tax concession, tax exemptions, subsidies, and so on incorporated in the budget have been providing adequate incentives to the private sector units engaged in industry, infrastructure, and export of the country.
(v) Reduction of Inequality: The basic objective of fiscal policy is to maintain an equitable distribution of wealth in society. Progressive taxes on income and wealth tax exemption, subsidies, grants and so on are making a concerted effort to reduce such inequalities. Moreover, the fiscal policy is also trying to reduce regional disparities through its various budgetary policies.
(vi) Export Promotion: Through Fiscal Policy Government of India has been trying to promote export activities through its various promotive policies like export subsidies, reduction in customs duties, concessions etc.
(vii) Alleviation of Poverty and Unemployment: Another important merit of the Indian fiscal policy is to make a constant effort to alleviate poverty and unemployment through its various poverty eradication and employment generation programmes, such as IRDP, JRY, PMRY, SGSY, SGRY etc. (BCom Fiscal Policy of India Notes Study Material)
SHORTCOMINGS OF FISCAL POLICY OF INDIA
The followings are the main shortcomings of the fiscal policy of the country:
(i) Instability: The fiscal policy of the country has failed to maintain stability in the economy. The increasing trends of deficit financing and adverse balance of payment both have affected the economical stability of the country.
(ii) Defective Tax Structure: Indian fiscal policy has also failed to provide a suitable tax structure for the country. The current tax structure has enabled to raise of adequate productivity of direct taxes. As a result, the country has been depending much on indirect taxes which has become a burden to the common man. (BCom Fiscal Policy of India Notes Study Material)
(iii) Inflation: The fiscal policy of the country has failed to control the inflationary rise in price levels. The increasing volume of public expenditure on non-developmental heads and deficit financing has resulted in demand-pull inflation. The higher rate of indirect taxation has also resulted in cost-push inflation. (BCom Fiscal Policy of India Notes Study Material)
(iv) Negative Return of Public Sector: The negative return on capital invested in PSUs has become a serious problem in front of Govt. of India. The return on investment has remained mostly negative in PSUs. In order to maintain the performance of PSUs, the Government has to keep huge budgetary provisions, thereby creating huge drainage of scarce resources in the country.
(v) Growing Inequality: The Indian fiscal policy has failed to reduce inequality in the distribution of income and wealth among different segments of society. The improper progressive tax structure has also failed to minimize tax invasion in the country.
SUGGESTIONS FOR NECESSARY REFORMS IN FISCAL POLICY
The followings are some important suggestions to bring necessary reforms in fiscal policy:
(i) More Progressive Taxation.
(ii) Agricultural Taxation.
(iii) Checking Tax Evasion.
(iv) Increasing Reliance on Direct Taxes.
(v) Simplified Tax Structure.
(vi) Checking Black Money.
(vii) Reduction of Non-Development Expenditure.
(viii) Raising the Profitability of PSUs.
(ix) Disinvestment of Loss Making PSUs.
(x) Reduction in Subsidies.
FISCAL POLICY FOR 2014-15
At the time of the presentation of the Budget for 2014-15, as per the available information, the macroeconomic outlook was mixed. Growth had been sub-par for two years 2012-13 and 2013-14 and inflation was moderating gradually, reflecting the compression in aggregate demand and a sound external sector outcome. The budget for 2014-15 had indicated that while containing the fiscal deficit at 4.1 per cent of GDP was a daunting challenge given the macro-economic conjecture, it outlined the importance of adherence to fiscal consolidation and it accepted the challenge. (BCom Fiscal Policy of India Notes Study Material)
The fiscal consolidation plan as enunciated in BE 2014-15 entailed an increase in the tax to GDP and non-debt receipt to GDP ratio to 10.6 per cent and 9.8 per cent respectively and a continuance of the low level of total expenditure to GDP ratio at 13.9 per cent. The envisaged growth in gross tax revenue (GTR) was 17.7 per cent over revised estimates (RE) 2013-14 and 19.8 per cent over provisional actual (PA) 2013-14. Total expenditure was estimated to increase by 12.9 per cent and 14.8 per cent in budget estimates (BE) 2014-15 over RE 2013-14 and PA 2013-14 respectively. (BCom Fiscal Policy of India Notes Study Material)
The expectation of the better performance of gross tax revenue vis-a-vis total expenditure resulted in a projection of a decline in fiscal deficit to 4.1 per cent of GDP in BE 2014-15. (BCom Fiscal Policy of India Notes Study Material)
About the evaluation of fiscal policy, it may be clearly said that fiscal policy has failed to produce enough savings for public investment. The fiscal deficit has become a standard excuse to avoid or postpone project implementation. With regard to the impact of public revenue and public expenditure on minimizing income inequalities, the less said the better, over the years, the difference between the rich and poor has widened. The tax system has obviously failed to establish equality in society and public expenditure has failed to pay attention to the development of the common man. (BCom Fiscal Policy of India Notes Study Material)
BCom Fiscal Policy of India Notes Study Material