The low per capita income of India paired with the country’s developmental goals results in a heavy government expenditure. The tax revenue generated is often insufficient to meet these expenses resulting in a fiscal deficit.

Empowering investors with a solid understanding of the budget imbalance might provide an understanding of the state of the economy in which markets function.

What is a Fiscal deficit?

The term “deficit” suggests a lack of resources. When the expenditure of the government is more than its revenue, a fiscal deficit arises. It shows that the government has a propensity to spend a sum higher than its earnings. 

The formula can enhance the understanding of the meaning of fiscal deficit.

Fiscal Deficit = Total Expenditure – Total Income

Based on the type of deficit, the fiscal deficit formula might be further explained.

  • Types of Fiscal deficit

There are two different types of fiscal deficits: gross and net. Their formulations are the primary source of distinction between the two.

ParameterGross fiscal deficitNet fiscal deficit
MeaningIt is the gap between all of the government’s spending and all of its receipts.NFD adjusts the gross fiscal deficit with the funds lent by the government to other sectors.
FormulaTotal expenditure – (Revenue receipts + Non-debt Capital receipts)Gross fiscal deficit- Net lending(where net lending= Loans given – Loans paid back)
  • Illustration

The example below can enhance the understanding of how fiscal deficit is calculated.

Total revenue receipt₹800 crore
Non-debt capital receipt₹100 crore
Total expenditure ₹1,500 crore
Government lending₹200 crores
Loans recovered₹50 crores
  • Gross fiscal deficit = Total expenditure – (Revenue receipts + Non-debt Capital receipts)

= ₹ 1,500 crores – (₹ 800 crores + ₹ 100 crores)= ₹ 600 crores

  • Net fiscal deficit = Gross fiscal deficit- Net lending

Where,

Net lending = Loans given – Loans paid back

= ₹200 crores – ₹50 crores= ₹150 crores.

Now,

Net fiscal deficit = ₹ 600 crores – ₹ 150 crores= ₹450 crores.

Components

The component of fiscal deficit refers to the metrics and figures that make up the total income and total expenses of the government.

  • Total Revenue

The components that come under the computation of the total income generated by the government are listed below.

  1. Tax revenue: The government collects direct and indirect taxes from the public. These taxes create the primary source of revenue for the government.
  1. Non-tax revenue: Sources other than taxes that result in an inflow of funds are called non-tax revenue. This revenue can either be recurring, like interest and dividends or non-recurring, like income generated through disinvestment.
  • Total Expense

The primary motive of a government is not to earn profit but to facilitate the economic well-being of the nation and its citizens. Broadly, there are two types of government expenditures.

  1. Capital expenditure: It refers to non-recurring expenses that the government incurs. For example: The purchase of fixed assets.
  1. Revenue expenditure: It refers to recurring expenditures incurred by the government in the form of salary or interest payments.

Causes of Fiscal deficit

There are various reasons for the occurrence or rise of fiscal deficits. Some of them are listed below.

  1. An increase in government expenditure can lead to the rise of fiscal deficit. In most developing countries, fiscal deficit occurs primarily due to the various social and infrastructural projects that the government undertakes. 
  2. A decline in tax revenue can also cause a rising fiscal deficit. Multiple factors can contribute to the fall in tax revenue. For instance, if a huge chunk of the population earns below the minimum taxable income, the tax revenue will fall.
  3. During unforeseen situations like natural calamities, pandemics etc, the government has to incur more expenses.
  4. In situations of economic downturns, the government might have to incur additional expenses to feed liquidity into the economy. 

Is a Fiscal Deficit in India bad?

It is important to note that a government is not a profit-making enterprise. Unlike businesses, the primary aim of the government is economic welfare, sustainability and improvement. Due to the reasons listed below, the fiscal deficit won’t be an unprecedented phenomenon in India.

  • In a developing country like India, the government has to undertake a variety of social and economic developmental projects to enable economic growth and development. 
  • A significant proportion lives below the poverty line. 
  • The per capita income is low.

Ideal Fiscal Deficit

Financial Responsibility and Budget Management was incorporated in 2003. The FRBM Act of 2003 has established an ideal fiscal deficit rate in India. As per this Act, 3% of GDP is the optimum rate of fiscal deficit in the Indian context.

Current Fiscal Deficit of India

A fiscal deficit is generally interpreted as a percentage of Gross Domestic Product. GDP refers to the value of commodities produced in a country within a given period. As per the 2024 budget, the fiscal deficit in India is at 4.9% of the GDP. 

How to Reduce Fiscal Deficit

The different methods of reducing fiscal deficit are listed below. 

  1. The government can reduce its expenditure by cutting down on unnecessary projects and provisions.
  2. The government can borrow funds through bonds and treasury bills.
  3. Privatisation of government enterprises can reduce government deficit.
  4. The government tends to increase taxes to compensate for the deficit. 

Conclusion

The negative margin between government expense and government revenue is known as a fiscal deficit. Governments facing fiscal deficit might be a common phenomenon. However, countries like India strive to maintain an optimum level of fiscal deficit. The government usually increases borrowing at times of deficit to meet its expenses. Investment instruments like bonds and treasury bills become available at attractive rates.