X

Sign up for Equitymaster's free daily newsletter, The 5 Minute WrapUp and get access to our latest Multibagger guide (2017 Edition) on picking money-making stocks.

This is an entirely free service. No payments are to be made.


Download Now Subscribe to our free daily e-letter, The 5 Minute WrapUp and get this complimentary report.
We hate spam as much as you do. Check out our Privacy Policy and Terms Of Use.
Fiscal deficit: Grim consequences... - Views on News from Equitymaster
 

 
  • PRINT
  • E-MAIL
  • FEEDBACK
  • A  A  A
  • Dec 12, 2006

    Fiscal deficit: Grim consequences...

    While India's GDP has been growing at a strong 8% per annum rate, there are several factors that can derail this growth process in the long run. Bad governance, poor physical and social infrastructure, fiscal deficit, you name it! Out of these, while a lot has been discussed and debated on poor governance and sorry state of infrastructure, the consequences with respect to the high fiscal deficit of central and state governments and the burden that these impose on the overall financial and monetary system, can be really grim.

    While it is not necessary that fiscal deficit should always be a matter of concern especially for developing economies like India, if unchecked, the same can lead to grim consequences. In this write-up, we shall examine the problems associated with a high level of fiscal deficit and the likely impact of the same on the economy.

    What is fiscal deficit?
    In simple terms, fiscal deficit is defined as the difference between government's expenditure and its total receipts. In other words, because the government fails to match its expenses with what it earns, it has to resort to 'deficit financing' by borrowing in various ways.

    One important argument against fiscal deficit is that it results in the crowding out effect i.e., the government 'crowds out' private investment leading to a possible hike in interest rates. To put things in perspective, if the government garners a higher share of the borrowings from the market, the private sector will consequently have a lesser share. This will lead to a rise in interest rates and a higher cost of capital for private investors. On the inflation front, a high fiscal deficit enhances the inflation of an economy. The reason is that government's borrowings to meet its expenditure lead to a rise in the money stock in the economy without a consequent growth in capital productivity. This is said to have an inflationary effect as few goods are chased by more money. This is especially so, if the borrowings of the government are utilised for the financing of the deficit rather than for accelerating the output.

    Therefore, the crux of the matter really is the composition of the government expenditure. Are the government borrowings utilised more for productive purposes? The answer is 'no'. As can be evinced from the table below, a larger chunk of the government expenditure is being diverted towards non-plan expenditure such as interest payments and subsidies. This means that the government is effectively borrowing to pay off debts and the interest on the existing debt, further compounding the fiscal deficit problem.

    Expenditure: Is it productive?
      FY01 FY02 FY03 FY04 FY05 FY06
    Total expenditure (Rs bn) 3,256 3,623 4,132 4,712 4,977 5,087
    (% of GDP) 15.4% 15.9% 16.9% 17.1% 15.9% 14.4%
    Plan expenditure (% of GDP) 3.9% 4.4% 4.6% 4.4% 4.2% 4.1%
    Non-plan exp (% of GDP) 11.5% 11.4% 12.3% 12.6% 11.7% 10.3%
    Source: CMIE

    To conclude...
    As mentioned earlier, a fiscal deficit is not a bad sign, if the government is utilizing the borrowings for productive purposes. Given the fact that India faces huge constraints on the infrastructure side, the focus has to be on development of roads, airports, highways, and curbing power shortages. This is more so if the current level of GDP growth has to be sustained. While the strong forex reserves position and GDP growth rate has ensured that India does not re-visit the 1991 crisis again, the government needs to understand that prudent utilisation of resources will go a long way in charting and sustaining India's economic health in the future.

     

     

    Equitymaster requests your view! Post a comment on "Fiscal deficit: Grim consequences...". Click here!

      
     

    More Views on News

    How to Ride Alongside India's Best Fund Managers (The 5 Minute Wrapup)

    Jun 10, 2017

    Forty Indian investing gurus, as worthy of imitation as the legendary Peter Lynch, can help you get rich in the stock market.

    Will They Haul Off Trump's Statue, Too? (Vivek Kaul's Diary)

    Aug 16, 2017

    All across the country, the old gods become devils. New, gluten-free gods take their places...

    This Company Beat the Business World's 'Three Killer Cs' (The 5 Minute Wrapup)

    Aug 16, 2017

    And what it has in common with beating the stock market too.

    5 Steps To Become Financially Independent (Outside View)

    Aug 16, 2017

    Ensure your financial Independence, and pledge to start the journey towards financial freedom today!

    Let's Hope This Correction Continues (The 5 Minute Wrapup)

    Aug 14, 2017

    Last week's correction is making a number of Super Investor stocks look a lot more attractive...

    More Views on News

    Most Popular

    Demonetisation Barely Made Any Difference to Tax Collections(Vivek Kaul's Diary)

    Aug 7, 2017

    The data tells us quite a different story from the one the government is trying to project.

    Proxy Plays: A Smart Way to Bet on 'Off Limits' Companies(The 5 Minute Wrapup)

    Aug 4, 2017

    The small-cap space is full of small players that are clear proxies to great growth stories and Indian megatrends.

    Should You Invest In Bharat-22 ETF? Know Here...(Outside View)

    Aug 8, 2017

    Bharat-22 is one of the most diverse ETFs offered so far by the Government. Know here if you should invest...

    Signs of Life in the India VIX(Daily Profit Hunter)

    Aug 12, 2017

    The India VIX is up 36% in the last week. Fear has gone up but is still low by historical standards.

    7 Financial Gifts For Your Sister This Raksha Bandhan(Outside View)

    Aug 7, 2017

    Raksha Bandhan signifies the brother-sister bond. Here are 7 thoughtful financial gifts for sisters...

    More
    Copyright © Equitymaster Agora Research Private Limited. All rights reserved.
    Any act of copying, reproducing or distributing this newsletter whether wholly or in part, for any purpose without the permission of Equitymaster is strictly prohibited and shall be deemed to be copyright infringement.

    LEGAL DISCLAIMER: Equitymaster Agora Research Private Limited (hereinafter referred as 'Equitymaster') is an independent equity research Company. Equitymaster is not an Investment Adviser. Information herein should be regarded as a resource only and should be used at one's own risk. This is not an offer to sell or solicitation to buy any securities and Equitymaster will not be liable for any losses incurred or investment(s) made or decisions taken/or not taken based on the information provided herein. Information contained herein does not constitute investment advice or a personal recommendation or take into account the particular investment objectives, financial situations, or needs of individual subscribers. Before acting on any recommendation, subscribers should consider whether it is suitable for their particular circumstances and, if necessary, seek an independent professional advice. This is not directed for access or use by anyone in a country, especially, USA or Canada, where such use or access is unlawful or which may subject Equitymaster or its affiliates to any registration or licensing requirement. All content and information is provided on an 'As Is' basis by Equitymaster. Information herein is believed to be reliable but Equitymaster does not warrant its completeness or accuracy and expressly disclaims all warranties and conditions of any kind, whether express or implied. Equitymaster may hold shares in the company/ies discussed herein. As a condition to accessing Equitymaster content and website, you agree to our Terms and Conditions of Use, available here. The performance data quoted represents past performance and does not guarantee future results.

    SEBI (Research Analysts) Regulations 2014, Registration No. INH000000537.

    Equitymaster Agora Research Private Limited. 103, Regent Chambers, Above Status Restaurant, Nariman Point, Mumbai - 400 021. India.
    Telephone: +91-22-61434055. Fax: +91-22-22028550. Email: info@equitymaster.com. Website: www.equitymaster.com. CIN:U74999MH2007PTC175407
     

    Become A Smarter Investor In
    Just 5 Minutes

    Multibagger Stocks Guide 2017
    Get our special report, Multibagger Stocks Guide (2017 Edition) Now!
    We will never sell or rent your email id.
    Please read our Terms

    S&P BSE SENSEX


    Aug 16, 2017 (Close)

    MARKET STATS