Government Budget and the Economy notes | Class 12 economics notes

Chapter – 3: Government Budget and the Economy (6 to 10 Marks)

Short and Long Answer Type Questions

1. What is Government budget? Mention its objectives. 2013, 2016

Ans: A government budget is a detailed statement of the Govt. receipts and Govt. expenditure during a financial year. The objectives of the govt. budget are as follows:

• Promoting economic growth: The govt. can help economic growth by setting up basic and heavy industries like steel, furniture, machines, buildings.
• Reducing inequalities of income: The govt. can reduce inequalities of income by taxing the rich people more in the budget and spending more on the poor.
• Economic stability: The govt. budget is used as an important policy instrument to reduce economic instability that is inflation and deflation in the economy.
• Providing infrastructural facilities: To fulfill these objectives, the govt. spends on education, health, sanitation, water and electricity, supply transport and communication services etc.
• Besides these, removal of poverty providing employment opportunity, formation of human capital etc. are the objectives of govt. budget.

2. What are various components of Government Budget?

Ans: Government budget comprises of two parts: Revenue Budget (2014) and Capital Budget

Revenue budget includes revenue receipts and revenue expenditure of the government. Capital budget includes capital receipts and capital expenditure of the government. Revenue receipts and revenue expenditure of the government are shown in the revenue account while capital receipts and capital expenditure are shown in the capital account.

Various budgeted receipts and budgeted expenditure to be shown in government budgets are explained below:

1. Meaning of Budget Receipts: Budget receipts refer to the estimated receipts by the government under different heads in a year. It is classified into the following two parts:

a) Capital Receipts: Capital Receipts refer to those receipts of the government which i) tend to create a liability or ii) Causes reduction in its assets. All the Capital receipts are broadly classified into three categories.

• Recovery of loans: These are Capital receipts because they reduce financial assets of the government
• Borrowings: Funds raised by the government form the borrowing are treated as capital receipts such receipts creates liability.
• Other Receipts: – Funds raised through disinvestment are included in this category. By this government assets are reduced.

b) Revenue Receipts: Any receipts which do not either create a liability or lead to reduction in assets is called revenue receipts. Revenue receipts consist of 1) Tax Revenue and 2) Non-Tax Revenue.

• Tax Revenue: A tax is a legal compulsory payment imposed by the government on the people. All taxes are broadly classified into i) Direct Tax and ii) Indirect Tax. When the liability to pay a tax and the burden of that tax falls on the same person, the tax is called direct tax. e.g. Income tax, corporation tax, Gift tax etc. When the liability to pay a tax falls on one person and burden of that tax falls on some other person, the tax is called an Indirect tax. e.g. Sales tax, Custom duties, Service tax etc.
• Non-Tax Revenue: Non tax revenue consists of all revenue receipts other than taxes. For e. g.: fees, fines, dividend, gifts, External grants-in-aid, commercial revenue etc.

2. Meaning of Budget Expenditure: Budget expenditure refers to the estimated expenditure to be incurred by the government under different heads in a year. It is divided into two parts:

a) Revenue Expenditure: An expenditure which do not creates assets or reduces liability is called Revenue Expenditure. Examples are – Salaries of government employees, interest payment on loan taken by the government, pension, subsidies, grants etc.

b) Capital Expenditure: It refers to the expenditure which leads to creation of assets and reduction in liabilities e.g. Expenditure incurred on construction of building, roads, bridges etc.

Above expenditure are further classified into the following categories:

• Planned expenditure: Plan expenditure refers to that expenditure of the government which represents current development and investment that arises due to plan proposals. This includes both consumption as well as investment expenditure by the government such as expenditure on agriculture, power, industry, health and education etc.
• Non-planned expenditure: Non-Plan expenditure refers to that government expenditure which is incurred on regular function of the government. This includes expenditure of the government other than plan expenditure such as expenditure on police, judiciary, military, expenditure on normal running of government department, relief expenses on earthquake and flood victims.
• Developmental expenditure: Developmental Expenditure refers to expenditure on activities which are directly related to economic and social development of the country. This includes expenditure on education, health, agricultural and industrial development, rural development.
• Non-developmental expenditure: Non- Developmental Expenditure refers to expenditure on essential general services of the government. Such expenditure includes expenditure of administrative nature such as expenditure on policies, judiciary, defence, subsidies on food etc.

3. What are various types of government expenditure? Distinguish between revenue and capital expenditure.

Ans: Government expenditure are mainly divided into two categories:

1. Revenue Expenditure: An expenditure which do not creates assets or reduces liability is called Revenue Expenditure. Examples are – Salaries of government employees, interest payment on loan taken by the government, pension, subsidies, grants etc.
2. Capital Expenditure: It refers to the expenditure which leads to creation of assets and reduction in liabilities e.g. Expenditure incurred on construction of building, roads, bridges etc.

Following are the differences between revenue expenditure and capital expenditure.

• Revenue expenditure is the expenditure on items which do not lead to creation of any asset. For example, it is incurred on payment of salaries, maintenance of public property etc. On the other hand capital expenditure is the expenditure on creation of assets. For example, construction of building, roads, bridges etc.
• Revenue expenditure is financed out of revenue receipts. On the other hand capital expenditure is financed out of borrowings from the public and foreign govt. bodies.
• Revenue expenditure is a short period expenditure whereas capital expenditure is generally a long period expenditure.
• Revenue expenditure is incurred regularly by the government and hence recurring in nature whereas Capital expenditure is non-recurring in nature.

4. What are various types of government receipts? Distinguish between capital and revenue receipts. 2017

Ans:

A. Capital Receipts:

Capital Receipts refer to those receipts of the government which i) tend to create a liability or ii) Causes reduction in its assets. All the Capital receipts are broadly classified into three categories.

1. Recovery of loans: These are Capital receipts because they reduce financial assets of the government
2. Borrowings: Funds raised by the government form the borrowings are treated as capital receipts. Such receipts creates liability.
3. Other Receipts: – Funds raised through disinvestment are included in this category. By this government assets are reduced.

B. Revenue Receipts:

Any receipts which do not either create a liability or lead to reduction in assets is called revenue receipts. Revenue receipts consist of 1) Tax Revenue and 2) Non-Tax Revenue.

Revenue receipts may be distinguished from Capital receipts as follows:

1. In case of revenue receipts, government is under no obligation to return the amount in future, while in case of capital receipts government is under obligation to return the amount along with interest.
2. Revenue receipts neither create liabilities nor cause any reduction in assets, whereas capital receipts either create liabilities or reduce assets.

5. What are the sources of Govt. revenue? Explain. 2012, 2016

Ans: Sources of revenue of Government are divided into two parts: Tax revenue and non-tax revenue.

• Tax Revenue: A tax is a legal compulsory payment imposed by the government on the people. All taxes are broadly classified into i) Direct Tax and ii) Indirect Tax. When the liability to pay a tax and the burden of that tax falls on the same person, the tax is called direct tax. e.g. Income tax, corporation tax, Gift tax etc. When the liability to pay a tax falls on one person and burden of that tax falls on some other person, the tax is called an Indirect tax. e.g. Goods and Services tax, Value added tax etc.
• Non-Tax Revenue: Non tax revenue consists of all revenue receipts other than taxes. For e. g.: fees, fines, dividend, gifts, External grants-in-aid, commercial revenue etc.

Some of them are explained below:

1. Commercial revenue: The commercial revenues are received in the form of prices paid for govt. produced commodities and services. For example, electricity distributed by the Govt. railway service.
2. Administrative revenues: The receipts placed in the category of administrative revenues include fees, licenses, fines etc.
3. Gifts and grants: Gifts are voluntary contributions from private individuals or non-government donors to the govt. fund for specific purposes such as relief fund or defence fund during a war or an emergency.

6. Distinguish between tax revenue and non-tax revenue.

Ans: The differences between Tax Revenue and Non-tax Revenue are discussed below:

Tax Revenue	Non-tax Revenue
Tax revenues are those revenues which are collected by taxation.	Non-tax revenue consists of all revenue receipts other than taxes.
It is a legally compulsory payment.	On the other hand non-tax revenue is not a compulsory payment.
Tax payer cannot expect any service or benefit from the government in return.	If the person does not pay the non-tax revenue, he will deprive of the services of the govt.
It is a major part of government income revenue.	Its share in government revenue is very small.
Income tax and Goods and Services Tax are its main sources.	It includes income from sources like fees, fines, dividend, gifts, grants etc.

7. What is Direct Tax? Write two advantages and two disadvantages of direct tax.

Ans: A direct tax is that tax whose burden is borne by the person on whom it is levied. He cannot transfer the burden of the tax to some other person.

Advantages of Direct Tax:

1. The direct taxes are just and equitable.
2. Collections of direct taxes are economic.

Disadvantages of Direct Tax:

1. Possibility of tax evasion.
2. High rate of direct taxes may create a injurious effect on the incentive for saving and investment.

8. What are indirect taxes? Write two advantages and two disadvantages of indirect taxes. 2017

Ans: An indirect tax is that tax which is paid by one individual but the burden of which is borne by another individual.

Advantages of indirect tax:

1. Indirect taxes are broad-based as these taxes are collected from the all the different classes of people.
2. As indirect taxes are included with the prices of these commodities thus buyers cannot evade payment of such taxes.

Disadvantages of indirect tax:

1. These taxes are uncertain. The amount calculated through this tax cannot be calculated beforehand.
2. Indirect taxes are regressive in nature. Every consumer, whether rich or poor pays the amount of tax at the same rate. So, the poor people’s bear more burden than the rich one.

9. Distinguish between direct tax and indirect tax. 2019

Ans. following are the differences between direct tax and indirect tax:

Direct Taxes	Indirect Taxes
These taxes are imposed on income and wealth of people.	These taxes are imposed on goods and services.
These taxes cannot be shifted on to other persons.	These taxes can be shifted on to other persons.
These taxes are progressive in nature. The rate of tax increases as the tax base increases.	These taxes are often non-progressive.
In the case of a direct tax both the impact and incidence of tax fall on the same person. For income tax is a direct tax as its burden falls on the person who pays it to the Govt.	On the other hand, an indirect tax is that tax which is initially paid one individual but the burden of which is ultimately borne by another individual.

10. What are various types of budget?

Ans: A budget may be in Surplus or in Deficit or Balanced.

• Surplus Budget: A surplus budget is one where the estimated revenues are greater than the estimated expenditure. It is useful at the time of inflation. 2014
• Deficit Budget: A deficit budget is one where the estimated revenue is less than the estimated expenditure. This means that the tax is less than the expenditure. It is useful during the period of depression.
• Balanced Budget: A balanced budget is one where the estimated revenue equals the estimated expenditure. It shows that government is not doing wasteful expenditure. It shows financial stability in the country.

11. What is Balanced Budget? Write its Merits and Demerits. (Implications)

Ans: A balanced budget is one where the estimated revenue equals the estimated expenditure. It shows that government is not doing wasteful expenditure. It shows financial stability in the country.

Merits:

• It keeps price rise under control.
• It restricts wasteful public expenditure.

Demerits:

• It does not promote economic growth.
• It does not provide any solution to the problem of unemployment.

12. What is Deficit Budget? Write its Merits and Demerits. (Implications)

Ans: A deficit budget is one where the estimated revenue is less than the estimated expenditure. This means that the tax is less than the expenditure.

Merits:

1. It is most desirable when the level of aggregate demand is low in the economy.
2. It accelerates growth.
3. It would be needed for the monetization of the economy.

Demerits:

1. It is not desired during the period of inflation as it adds to the supply of money.
2. It would lead to wasteful and unnecessary expenditure on the part of the government.

13. Distinguish between surplus budget and deficit budget.

Ans: Following are the differences between surplus budget and deficit budget:

1. If the estimated receipts are higher than estimated expenditure then it is called surplus budget. On the other hand, if the estimated expenditure is higher than estimated receipts then it is called deficit budget.
2. In surplus budget, total receipts minus total expenditure a positive. Symbolically, for surplus budget TR > TE. On the other hand, in case of deficit budget, total receipts minus total expenditure are negative. Symbolically, TR < TE.
3. Surplus budget helps economy suffering from inflation, on the other hand deficit budget will be a help to the economy suffering from deflation.
4. Surplus budget is used to repay old debt. On the other hand, deficit budget is financed through creation of new debt.

14. Distinguish between Revenue Budget and Capital Budget.

Ans: The differences between Revenue Budget and Capital Budget are as follows:

Revenue Budget	Capital Budget
It shows revenue receipts and revenue expenditure of the government.	It shows capital receipts and capital expenditure of the government.
It includes such transactions which do not create any assets or liability for the government.	It includes those transactions which create assets or liabilities for the government.

15. What is deficit in government budgets? What are various types of deficit in government budget? 2019

Ans: When a government spends more than it collects by way of revenue, in incurs a budget deficit. Types of deficit in a government budget are given below:

• Revenue Deficit.
• Fiscal Deficit and
• Primary Deficit.

16. What is meant by revenue deficit? What are the implications of this deficit? 2015, 2016, 2018

Ans. Revenue deficit refers to the excess of total revenue expenditure of the government over its total revenue receipts.

Implications:

1. Revenue deficit affects the economic growth of the economy as Govt. expenditure is reduced to the extent of deficit on the revenue account.
2. Revenue deficit lowers the rate of economic growth of an economy as govt. has to borrow from the market which reduces the resources available for private investment.
3. Revenue deficit is a reflection of the government’s fiscal policy.

17. Define fiscal deficit. State two implications of fiscal deficit.

Ans: Fiscal deficit is defined as excess of total expenditure over total receipts excluding borrowings during a fiscal year.

Implications:

• High fiscal deficit generally leads to wasteful and unnecessary expenditure by the government.
• Payment of interest increases expenditure leading to higher revenue deficit which, in turn lead to more borrowing. Thus, the government may be forced to borrow more to finance even interest payment creating ‘vicious circle’ and ‘debt-trap’.

18. Show the relationship between revenue deficit and fiscal deficit.

Ans: Following are the relationship between revenue deficit and fiscal deficit:

1. Revenue deficit is the excess of revenue expenditure over revenue receipts. This is, revenue deficit = RE > RR.
2. Fiscal deficit is the excess of total expenditure (both on revenue and capital accounts) over revenue receipts. This is, Fiscal deficit = Total budget expenditure – Total budget receipts net of borrowings.

19. What is primary deficit? Explain its significance.

Ans. Primary deficit is defined as fiscal deficit minus interest payment on previous borrowings. Primary deficit = Fiscal deficit – Interest payments.

Significance: Primary deficit shows the borrowing requirements of the government for meeting expenditure exclusive of interest payments. If primary deficit is zero, then fiscal deficit is equal to interest payment.

20. Distinguish between Revenue, Fiscal and Primary deficit.

Revenue deficit	Fiscal deficit	Primary deficit
Revenue deficit refers to the excess of total revenue expenditure of the government over its total revenue receipts.	Fiscal deficit is defined as excess of total expenditure over total receipts excluding borrowings during a fiscal year.	Primary deficit is defined as fiscal deficit minus interest payment on previous borrowings.
It signifies that government is living beyond its means even to conduct its day to day operations.	It implies total borrowing requirements of the government.	It shows borrowing requirements of the government exclusive of interest payments.
Revenue deficit = Total Revenue expenditure – Total revenue receipts.	Fiscal deficit = Total budget expenditure – Total budget receipts excluding borrowings.	Primary deficit = Fiscal deficit – Interest payments.

21. State the sources of financing deficit in the budget. Or what are various measures to control deficit in govt. budgets?

Ans: There are three sources by which the government can finance the deficit in the budget. These are:

1. Borrowings from public and foreign government: The government likes to borrow from the public and foreign governments to finance its expenditure.
2. Withdrawing from its cash balance with RBI: The government likes to withdraw its cash balances with RBI to finance its expenditure.
3. Borrowing from RBI: The government likes to borrow from the RBI to finance its deficit in the budget.
4. Disinvestment: Selling of shares in public sector undertakings by the government is called disinvestment. Disinvestment is an effective tool to finance deficit.
5. Private sector participation: The Government can encourage the private sector to undertake capital projects to reduce its expenditure.

22. Does public debt impose a burden? Explain. 2013

Ans: Yes, mostly public debt proves to be a burden on the economy because:

1. Public debt results in drain of national wealth.
2. It leads to unplanned spending.
3. High public expenditure increases government budget deficit.
4. It hampers economic development of a country.
5. If loans are taken for war and weapons, then it create a burden on common people.

23. What do you mean by downsizing Government Role?

Ans: It means the withdrawal of the government role from various spheres of economic activities.

Reasons for government downsizing role:

• Inefficiency of Public Sector Undertakings.
• Deficit in Balance of Payment.
• Excessive controls in private sector.
• Fiscal deficit.

Following are the implications of downsizing government role:

1. Government withdraws from most spheres of direct participation in productive activities such as manufacture of steel, cement etc.
2. It abolishes direct controls such as licensing of industries.
3. It regulates the private sector through fiscal and monetary policy of Government.
4. The role of RBI was reduced from regulation to facilitator of financial sector.
5. Liberalisation of economy by promoting private investments and FDI.

24. Why public goods must be provided by the government?

Ans: Certain goods and services are by nature such as they cannot be exchanged in the market. But they are urgently need for our day-to-day living. So it is the duty of the government, being the representative of the public, to provide public goods. For example, parks, roads, water, bridges, national defence etc. which can only be produced by Government.

25. The fiscal deficit gives the borrowing requirement of the Govt. Explain.

Ans: Fiscal deficit shows the borrowing requirements of the government during the budget year:

1. Fiscal deficit = Total expenditure – Revenue receipts – Non debt creating capital receipts.
2. From financing side, fiscal deficit is defined and given by –
3. Fiscal deficit = Net borrowing at home – Borrowing from RBI + Borrowing from abroad.
4. It indicates the total borrowing requirements of the government from all sources.
5. As the government borrowing increases, its liability in future to repay loans with interest also increases. This creates a correspondingly large burden of interest payments in future.

26. Show the relationship between revenue deficit and fiscal deficit.

Ans: Following are the relationship between revenue deficit and fiscal deficit:

• Revenue deficit is the excess of revenue expenditure over revenue receipts. This is, revenue deficit = RE > RR.
• Fiscal deficit is the excess of total expenditure (both on revenue and capital accounts) over revenue receipts. This is, Fiscal deficit = Total budget expenditure – Total budget receipts net of borrowings.

27. What is fiscal policy? Write the main objectives of fiscal policy in India.

Ans: Fiscal policy means a policy under which government uses taxation, public expenditure and the management of public debt in order to achieve certain specific objectives.

The main objectives of fiscal policy in India:

1. To attain full employment.
2. To achieve stability and rapid economic development through economic planning.
3. Establishment of a welfare state and
4. Establishment of a socialistic pattern of society.

28. What is Deficit Financing? What are the causes and effects of deficient financing in India? 2013

Ans: Deficit financing is the budgetary situation where expenditure is higher than the revenue. It is a practice adopted for financing the excess expenditure with outside resources. The expenditure revenue gap is financed by either printing of currency or through borrowing.

There are many causes continuing deficit in the Govt. budget since the beginning of the First Five Year Plan.

1. The non-developmental expenditure of the government has been increasing at a faster rate.
2. The main purpose of deficit financing in India has been to enable the government to obtain the necessary resources for the development plans.

The important evil effects of deficit financing are as follows:

1. It creates rise in prices in the economy.
2. It creates adverse effects on savings. Because, deficit financing creates a fast rising trend due to increasing prices which results adverse effects on savings.

AHSEC CLASS 12 CHAPTER-WISE NOTES

Part A: Introductory Macro Economics

1. INTRODUCTION TO MICRO ECONOMICS
2. NATIONAL INCOME AND RELATED AGGREGATES
3. MONEY AND BANKING
4. GOVERNMENT BUDGET AND THE ECONOMY
5. BALANCE OF PAYMENTS

Part B: Indian Economic Development

1. Development Experience (1947 – 1990)
2. Economic Reforms since 1991
3. Current challenges facing Indian Economy
4. Development Experience of India: A Comparison with Neighbours