Components of Government Budget

What is Government Budget?

The government budget is a forecast or annual financial statement of expenditures or revenues that the government tends to have in the coming fiscal year. The fiscal year may or may not be the same as a general calendar year. The government usually presents the budget at the onset of each fiscal year. It is prepared and presented in the parliament by the finance minister and approved by the president before permitting the revenues and expenditures mentioned in it.

The government budget is divided mainly into two parts, namely −

• The Capital Budget
• The Revenue Budget.

Capital Budget

The capital budget refers to a set of payments that create long-term assets and receipts that are raised by the government without or with liabilities. The capital budget contains capital receipts and expenditures, and transactions from the public accounts. In other words, the capital budget includes non-recurring capital expenditures and transactions from the ledger.

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Image 1: Capital Budget of Central Government

Revenue Budget

The revenue budget is made up of revenue receipts from the government and expenditures that are made with this revenue. The revenue budget contains the details of sources of revenue that are collected by the government. Essentially, the sources of revenue are taxes that are collected from citizens and corporations. The government also invests money in various resources and earns interest from it. The non-tax revenue includes the disinvestment that the government makes in companies where it holds a stake.

Measurement of Government Deficit

When expenditures of the government are more than the revenue collected, a deficit in the budget is meant to occur.

There are the following measures of the government deficit −

Revenue deficit

When the said net income is less than the estimated net income, a revenue deficit takes place. It occurs when the legal and said amount of revenue does not comply with the actual revenue collected by the government. So, it can be stated that the revenue deficit is the excess of estimated government expenditure over the receipts in a financial year.

Effective revenue deficit

The difference between the revenue deficit and the grant for the creation of capital assets is known as the effective revenue deficit. Grants are offered to states and government territories and they are used to create capital assets. These assets, however, are not added to the capital expenditure of the central government. So, we can get an effective revenue deficit by subtracting the grants from the revenue deficit.

Fiscal deficit

The deficit between expenditure and revenue is the fiscal deficit. The fiscal deficit shows the total borrowings needed by the government to meet its objectives. However, borrowings are not taken into consideration when total revenue is calculated. Therefore, the fiscal deficit can be defined as the total government expenditure of the government over tax and non-tax receipts.

Primary deficit

The difference between the present year’s fiscal deficit and interest payments of previous borrowings is known as the primary deficit. The primary deficit shows the total borrowing needed by the government excluding the interest component.

Fiscal Policy

Fiscal policy refers to the policy of the government to collect and spend collected taxes and how these acts influence the economy. Common examples of fiscal policy include policies to create jobs, increase taxes, and fund social programs.

The economies are found to follow a cycle where they expand, peak, contract, and rough in a series of events. When the economy expands, new jobs are created, there is a higher potential for income, and demands for luxury and non-essential items rise in the markets. While the economy contracts, the opposite of expansion happens.

The aim of fiscal policy is to control the economic cycle. During recessions, governments infuse money into the system. This increases the amount of money in the accounts of individuals and businesses while the central bank works to enhance lending and spending.

Governments usually depend on two tools to control and apply fiscal policy. The first tool is taxation where the government may tend to collect revenues from individuals and corporate organizations. The other tool that the governments use to control the fiscal policy is spending. Governments may spend money on increasing subsidies, welfare programs, public works, infrastructure projects, and increasing employment. Government spending infuses more money into the economy which increases the demand for goods and services.

Expansionary Fiscal Policy

A fiscal policy aimed to expand the economy is known as expansionary fiscal policy. Here the government may cut taxes, spend more or use both to avoid a recessionary phase. The intention behind all such actions is to put more money in the hands of consumers so that they spend more and keep the economy running smoothly.

Contractionary Fiscal Policy

Contractionary policies are used to limit economic booms when such booms are considered detrimental and may affect the economy negatively. Since too much expansion can also be dangerous, governments try to contract the booming economy governments may increase the taxes and reduce spending or use both.

Impact of Government Spending

When we consider taxes, there is a high probability that increasing taxes will dilute the effects of increasing government spending. This will result in keeping the aggregate demand unchanged. However, this could increase the GDP.

• The rise in taxation may not reduce spending as usual during times of recession. The increase in spending may cause a multiplier effect too.
• If spending is used to create more jobs, the reduction of unemployment and increasing income will lead to more demand in the markets. In such conditions when spare capacity in the economy would exist, government spending may cause an increase in GDP more than usual.
• However, when the economy is at its full capacity, an increase in spending would separate the private sector, leading to no net enhancement in aggregate demand. This aggregate demand would be present while switching from private sector spending to government spending if the economy is not at its full capacity though.
• There is a belief among some economists that increasing government spending that is achieved via the implementation of higher taxes may lead to a more inefficient allocation of resources as governments are not experts in spending.

Conclusion

It is obvious that the government has an important role to control and operate the economy for the betterment of individuals and society. All the functions and scope of the government are focused on the improvement of the economy and therefore, it acts as the guardian of the economy to save it from dangers.

However, as is known to all, economic dangers are not always foreseeable or controllable which is why we see collapses in the economy for various reasons from time to time.

FAQs

Q1. What are the types of government budgets?

Ans. The two types of government budgets are capital budgets and revenue budgets.

Q2. What is meant by the expansionary fiscal policy?

Ans. The expansionary fiscal policy is used to expand the economy when the economy is in a recessionary phase. In this fiscal policy, the government infuses money into the economy, cuts taxes, and/or uses both to create more demand.

Q3. Why is fiscal policy important for the economy?

Ans. Fiscal policy is important for the economy because it keeps the economy in good shape. Fiscal policies help economies avoid recession and booms both of which may result in negative economic situations.