...Does a Fiscal Deficit Necessarily Lead to Inflation? No. Two arguments are generally given in order to link a high fiscal deficit to inflation. First argument: is based on the fact that the part of the fiscal deficit which is financed by borrowing from the RBI leads to an increase in the money stock. Some people hold the unsubstantiated belief that a higher money stock automatically leads to inflation since "more money chases the same goods". There are, however, two flaws. Firstly, it is not the "same goods" which the new money stock chases since output of goods may increase because of the increased fiscal deficit. In an economy with unutilized resources, output is held in check by the lack of demand and a high fiscal deficit may be accompanied by greater demand and greater output. Secondly, the speed with which money "chases" goods is not constant and varies as a result of changes in other economic variables. Hence even if a part of the fiscal deficit translates into a larger money stock, it need not lead to inflation. Second argument: is that in an economy in which the output of some essential commodities cannot be increased, the increase in demand caused by a larger fiscal deficit will raise prices. There are several problems with this argument as well. Firstly, this argument is evidently irrelevant for the Indian economy in 2002 which is in the midst of an industrial recession and which has abundant supplies of foodgrains and foreign exchange. Secondly, even...
Words: 316 - Pages: 2
...Fiscal Deficit Of The 11th 5 year Plan The Arab street and the political will to rein in borrowing for consumption may decide the fate of finance minister Pranab Mukherjee’s desire to peg the fiscal deficit in 2011-12 at 4.6% of the gross domestic product (GDP). The fiscal deficit target of 4.6%, 0.2 percentage points lower than Mukherjee’s target set last year, rests on two crucial assumptions: international prices of oil and fertilizers will remain in line with the current fiscal’s prices and Mukherjee can resist political pressure to enhance spending on consumption during the course of the year. Add to these two assumptions the forecast of 9% economic growth next fiscal and 18% increase in tax collections, and the government expects to keep borrowings under check and ease the pressure on the Reserve Bank of India to push up interest rates to combat inflation. The fiscal deficit, which represents the borrowing to cover the excess of expenditure over revenue, has been at the heart of the budget exercise. Mr. Pranab Mukherjee’s speech identified private investment as a key driver of economic growth and indicated the government has tried to curtail its borrowing to give private sector more space to raise money. The budget documents were far more explicit on the government’s approach to Monday’s budget. “The net borrowings from the open market in 2011-12 have been estimated after factoring private sector requirements,” the budget’s fiscal policy statement said. Subsequently...
Words: 1551 - Pages: 7
...Guidelines for Fiscal Adjustment Fiscal Affairs Department International Monetary FundContentsPrefaceIntroductionWhy May Fiscal Adjustment Be Needed? The Impact of Fiscal Policy on Macroeconomic Policy Objectives Inflation External Current Account Growth Fiscal Adjustment to Ensure Sustainability Links to Other Policy InstrumentsHow Should the Fiscal Stance Be Assessed? Fiscal Impact of Alternative Methods of Deficit Financing Other Measures Used to Assess the Fiscal Stance The Sensitivity of a Fiscal Assessment to the Time Frame of Analysis Definition of Government Accounts for Macroeconomic Analysis Coverage of Government Operations Timing of the Impact of Fiscal Transactions Defining the "Overall Fiscal Balance"How Much Fiscal Adjustment Is Required? A Framework for Fiscal Adjustment Determining the Amount of Fiscal Adjustment Reducing the Fiscal Deficit Quality of AdjustmentHow Should Fiscal Adjustment Be Effected? Measures to Improve the Tax System and Increase Revenue Characteristics of a Desirable Tax System Design of Major Taxes Rationalization of Expenditure Policies Expenditure Reduction in the Short Run Structural Public Expenditure ReformReferencesBoxes1. Adverse Consequences of Excessive Fiscal Expansion for Growth2. The Exchange Rate Effects of Fiscal Policy3. Quasi-Fiscal Activities of Public...
Words: 15497 - Pages: 62
...THE EFFECT OF FISCAL DEFICIT ON WHOLE SALE PRICE INDEX IN INDIA Submitted by, Group 7 – Sec A Ankit Rout (U111007) Chinmaya Swain (U111017) Kavindra Sharma (U111027) Nikhil Lukose (U111037) Samik Bhattacharjee (U111047) Swarup Kumar Mishra (U111057) ------------------------------------------------- ACKNOWLEDGEMENT We would like to express our whole-hearted gratitude to all those who have helped with the report or have been associated with the report in any way and made it a worth-while experience. We are greatly indebted to our batch mates and our seniors for having shared their invaluable thoughts and opinions that went a long way in helping us gather information and analyse issues for the report. And, a special mention of Professor Latha Ravindran, whom we cannot thank enough for having given us the opportunity and her total support for working on this project and completing our report. Thank you. INtroduction For the last several years the GDP of India has been growing rapidly. The real GDP growth of India averaged 8.5% in the five years ending March 2010. But at the same time food price inflation and consumer price inflation too have been on the increasing curve. The relationship between fiscal deficit and inflation which is measured by WPI in India is an important issue in macroeconomics study. The main purpose of the study is to analyze the relationship between budget deficit and Whole Sale Price Index. The fiscal deficit influences demand...
Words: 3686 - Pages: 15
...Economic Context of Management Name: Pradeep Essay: “The Australian government has been running with too large a fiscal deficit during the past 4 years particularly in light of their projections for the Australian economy which were made when the first stimulus package was announced in 2008". Discuss this assertion and the consequences of this fiscal deficit on economic activity during the past 4 years. What are the implications of your analysis for Australia's fiscal policy during the next 3 years? EXECUTIVE SUMMARY Global Financial Crisis (GFC) evolved from its origin in subprime mortgage crisis of United States and affected almost every country in the world. Australia entered into GFC with a strong position, as compared to the other OECD countries. Australian government implemented stimulus packages in order to deal with the situation. This reports looks at the consequences of the fiscal deficit on economic activity and its implications for Australia’s fiscal policy. Its direct impact on Australia was small – mostly increases in bank borrowing costs The case for fiscal stimulus was based on Keynesian model, which proposes a short term government spending to stimulate the economy during the recessionary period. However, Basic Keynesian model assumes that the exchange rate is fixed. The analysis shows that significant contributor for GDP (expenditure) was net exports over that period, not the consumption. This increase in demand was due to the depreciated...
Words: 4684 - Pages: 19
...Twin Deficit For the past 2 years, India has been fighting slow growth, high inflation and the twin deficits – fiscal deficit and current account deficit. The current account deficit reached the peak of 5.3% of GDP in Q1 FY13 which is much beyond the comfort zone of 3%. The fiscal deficit has also proved difficult to control, leading to a large part of borrowing going into servicing the debt rather than towards capital intensive activities. Off late the threat of being relegated to the status of junk bonds has made the government to swing into action and try and take steps to curb the deficits. It is the result of these measures that the fiscal deficit is not expected to go much beyond the government target of 5.3% of GDP. As a part of its efforts, government has also come up with the target of reducing the fiscal deficit to 3% of GDP by 2016-17. In order to rein in on the fiscal deficit, under the direction of Finance Minister, government managed to cut expenditures to the tune of Rs.80000 crores. Besides this, unlike previous years government has managed to keep its stake selling program on track, which is expected to result in the revenue receipts of about Rs.30000 crores. However, the government has also been cutting corners and using financial jugglery to cuts the deficit. Transferring the subsidy payment bills onto the next year and one time receipts from stake sale in PSUs are not effective and long term solution. Apart from this, losses like those of State Electricity...
Words: 529 - Pages: 3
...Assignment DEFICIT FINANCING: TEORY AND PRACTICE IN BANGLADESH Submitted By Zahirul Islam [pic] DEFICIT FINANCING: TEORY AND PRACTICE IN BANGLADESH INTRODUCTION In the past as today, the deficit budget policy is famous instrument of fiscal policy used to increase the rate of economic growth of the country. That way of financing was establish after the two world wars, oil crises and current financial and economic crises. The objective in seeking deficit financing is to finance the shortfall between government expenditures and tax receipts. Tax increases are not politically palatable. Governments often resort to deficit financing when other components of GDP such as private consumption decline during recessionary periods. Such deficits, if undertaken for a short period with an action plan to create equivalent surplus in near future, could reverse decline in real GDP and stimulate growth in real GDP for the benefit of citizens of the nation. Structural deficits are indicative of inability to reduce entrenched government expenses. The sustainable level of accumulated deficits can also be determined with reference to both the deficit servicing requirements and deficit servicing sources. This analysis will entail identification of cause and effect relationships that determine the factors influencing each of these two areas. As shown by other researchers, the explanatory variables leading to deficits include domestic budgetary receipts;...
Words: 5493 - Pages: 22
...Fiscal Policy for Stabilization and Growth Sessions 11 & 12 Reading: Chapter 5 What is Demand Management? • Demand-constrained economy: – Increase aggregate demand to tackle recession/depression • Supply-constrained economy: – Manage demand to control demand-pull inflation 2 Policy focus: Demand-constrained Economy Aggregate demand K Potential output 3 Policy focus: Supply-constrained Economy Aggregate demand K Potential output Also: Long term – increase K to expand potential output 4 Recession/Depression • Recession: – Rule of thumb: two consecutive quarters of falling GDP • Depression: – “Severe” recession – no widely accepted definition: • Decline in real GDP that exceeds 10%, or one that lasts more than three years • Other alternative indicators: bursting of asset, credit bubble, fall in general price level 5 Examples of Depression (Using 10% GDP fall rule) 6 Economic Policy • Two main policy instruments to influence aggregate demand (C + I + G + X - M): – Fiscal Policy: • Through Government expenditure and revenue – Monetary policy: • Through Money supply and interest rates 7 Basic Logic of Demand Management (to ↑ demand) • Fiscal Policy: –↑G – ↓ income taxes to ↑ C – (Also: • ↑ tariff duties to reduce M • Provide incentives to ↑ X) • Monetary Policy: – ↓ rate of interest to ↑ C; ↑ I 8 Fiscal Policy and Demand Management in India 9 (see: http://indiabudget.nic.in) • • •...
Words: 2555 - Pages: 11
...Fiscal Policy Laura Wall, Melinda King, ECO/372 April 27, 2015 Sam Pirnazar Fiscal Policy There are many different policies that the government must oversee. One of those types policies is referred to as fiscal policy. Fiscal policy is a set of conscious decisions to make intentional alterations to taxes and government spending (Colander,2013). The purpose of these tactics is to either stimulate or slow down the government (Colander,2013). These policies directly impact tax payers and future social security and Medicare users because they create a deficit, surplus, and debt. The purpose of this paper is to discuss how this deficit, surplus, and national debt affect all have impacts on these citizens. To understand how a deficit, surplus, and national debt affect the economy, it is important to understand what each term means. First there is a deficit which is a lack of funding to cover a cost. A surplus is just the opposite of a deficit. An extra fund left over after the cost of something is paid for in full is called a surplus. Any long term running deficits, in actual currency terms, is considered debt. The United States (U.S.) has accumulated a large amount of debt, increasing its deficit more every year. Surprisingly, national debt has plagued us since George Washington’s presidency, a whopping $75,463,476.52 in 1791 (Steinbring, J., 2011). The U.S. deficit leaves very little in terms of money flow for the government. When deficits are...
Words: 417 - Pages: 2
...debt crisis which can influence the whole global financial system becomes to difficult to be found. Chart 1: How country debts and budget deficits compare [pic] Source: Eurostat Newsrelease Euroindicators 2010 According to the Chart 1 above, the debt of Italy is 115.8% of GDP and Greece (115.1% of GDP) is closely followed, while Ireland has the highest budget deficit of 14.3% of GDP and next is Greece (13.6% of GDP). However, the European Union member states were required to have 3% for the ratio of the actual government deficit to GDP as market prices and 60% for the ratio of government debt to GDP at market prices (Treaty on European Union, 1992). It is clear that all member states shown above broke the standard of Treaty on European Union and have excessive deficit and debt relate to the GDP. Government debt is defined as the government borrowing in order to satisfy the short-term liquidity needs or the longer-term budget capital expenditures (Edirisuriya, 2010). The government debt usually can be caused as an accumulated governmental deficit over several years or several decades. A large scale of debt, especially the sovereign debt, can cause rapid inflation which implied that a high price level of goods and a high level of unemployment, when an economy is running near or at its potential level of output. Therefore, the fiscal policy and monetary policy can be applied to counteract inflation. Monetary policy In order...
Words: 2023 - Pages: 9
...Non-linear Effects of Fiscal Deficits on Growth in Developing Countries Christopher S. Adam and David L. Bevan(*) Department of Economics, University of Oxford August 2001 Revised December 2001 Abstract This paper examines the relation between fiscal deficits and growth for a panel of 45 developing countries. It finds evidence of a threshold effect at a level of the deficit around 1.5% of GDP. While there appears to be a growth payoff to reducing deficits to this level, this effect disappears or reverses itself for further fiscal contraction. There is also evidence of interaction effects between deficits and debt stocks, with high debt stocks exacerbating the adverse consequences of high deficits. Keywords: Fiscal deficits, growth, threshold effects, developing countries. JEL Codes: H3 , H6 , O4 The original version of this paper was prepared for the Cornell/ISPE Conference Public Finance and Development held at Cornell University, September 7-9, 2001. We thank our discussant, Mick Keen, conference participants, and also Jon Temple for helpful comments on the paper. Corresponding author: David Bevan (david.bevan@economics.ox.ac.uk) Department of Economics, Manor Road, Oxford OX1 3UL Tel: +44 (0) 1865 271075 Non-linear Effects of Fiscal Deficits on Growth in Developing Countries 1. Introduction A great deal of attention has been devoted in both theoretical and empirical literatures to the possible impact of various fiscal magnitudes on growth. In general, the theoretical...
Words: 10618 - Pages: 43
...budget deficits today will reduce the growth rate of the economy of the future. The difference between what a government spends and what it collects in taxes in a given period is known as a budget deficit. There are many reasons why this might happen. One might be that if our government keeps spending money that does not exist obviously the more debt will accumulate. The government cannot keep this up without creating more debt. It the same as budgeting you personal accounts. If you get a new credit card or loan to consolidate old debt and then re-use your old cards, it rather defeats the purpose of getting out of debt. Another reason might be that due to the enormous loss of jobs there are less taxes being paid to pay our nations bills or to re-invest back into the economy. There is no point to list these reason in number order there are so many. If the deficit is growing it affects the nation savings, in turn, reduces national income. This may become possible if interest rates go up or domestic investments fall. Economists agree these a few things on when it comes to a high deficit. Deficits over a short period do not really have much affect, because the United States can borrow to cover these gaps due to the dollar’s value as the leading currency. If the deficit is sustained over a long period then is does have more an affect on the national debt. This will drive the interest rate payments up and takes away from the resources. When collective deficits reach 90%...
Words: 1940 - Pages: 8
...economic growth. However, since 2009 Greece has been experiencing a recession. The recession was caused from debt accumulating from government borrowing and spending, and not enough tax revenues. Since Greece is part of the Eurozone, it must abide by the European Union’s requirements such as, the government budget deficit cannot exceed 3% and the debt to GDP ratio cannot exceed 60%.Greece has had an inflation rate above 4% and budget deficit of 6-10% of GDP, with the highest being 15/7% in 2010. The debt to GDP of Greece exceed 60% in 2012, it was 70.3 higher. As a result, Greece has implement contractionary fiscal policies to help control its inflation and budget deficits. As the Greek economy undergoes an extended period of economic and political turmoil, bold and committed policy actions were critically needed to restore fiscal sustainability, enhance labor market flexibility, and tackle systemic corruption. As shown in the Greek debt comparison to Eurozone average graph, Greece’s debt is higher than the average in the Eurozone. Greece agreed for a €11.5 billion in spending cuts and a revenue increase of €2 billion from increased taxes. The use of contractionary fiscal policies, raising tax rates and cutting spending, has led to a budget surplus in the first seven months of 2013. The austerity measures aimed for Greece to qualify for its next €31.5 billion tranche, for a total of €130 billion bailout. Objective was to reduce the debt level...
Words: 1728 - Pages: 7
...Budget Deficit For many decades, there has been a concern for the deficit within the United States. Many politicians, authors, newscasters, and citizens have expressed their distress in order to resolve or control the issue. Keynesian economic theory states that running a budget deficit is okay, as long as the deficit is not exorbitantly large and is not carried for a long period of time. Even though many experts agree with this notion, having a deficit at all is important to the present and future economic stability of a country. For the most part, the uncontrolled increases in spending and reckless tax cuts in the past have damaged the federal budget, which the White House and Congress have allowed to occur. President Bush has put a fair amount of influence towards the federal deficit in his campaigns, State of the Union Addresses, and policies as President. According to the article titled U.S. Budget Deficit Shrinks, at the end of the fiscal year for 2006, Bush stated that he had officially cut the budget deficit in half to $247.7 billion, as promised, from the projected deficit of $521 billion. The President credited his tax cuts and business tax incentives for the better-than-expected showing in revenues, which drove the deficit to the lowest level in four years. Obviously, there are many that argue against this rationale to the fact that there was more at hand than the President’s policies. The Democrats belittled the sharp reduction in the deficit for the...
Words: 1176 - Pages: 5
...Budget Deficits, National Saving, and Interest Rates William G. Gale and Peter R. Orszag September 2004 Brookings Institution and Tax Policy Center. This paper was prepared for the Brookings Panel on Economic Activity, September 9-10, 2004. We thank Emil Apostolov, Matt Hall, Brennan Kelly, and Melody Keung for outstanding research assistance; Alan Auerbach, William Brainard, Robert Cumby, Bill Dickens, Doug Elmendorf, Eric Engen, Laurence Kotlikoff, Thomas Laubach, Maria Perozek, George Perry, Frank Russek, Matthew Shapiro, and David Wilcox for helpful discussions; and Eric Engen, Jane Gravelle, and Thomas Laubach for sharing data. ABSTRACT This paper provides new evidence that sustained budget deficits reduce national saving and raise interest rates by economically and statistically significant quantities. Using a series of econometric specifications that nest Ricardian and non-Ricardian models, we obtain evidence of strong non-Ricardian behavior in aggregate consumption. Consistent with several recent studies, we find that projected future deficits affect longterm interest rates, but current deficits do not. Our estimates suggest that each percent-ofGDP in current deficits reduces national saving by 0.5 to 0.8 percent of GDP. Each percent-of-GDP in projected future unified deficits raises forward long-term interest rates by 25 to 35 basis points, and each percent-of-GDP in projected future primary deficits raises interest rates by 40 to 70 basis points...
Words: 31953 - Pages: 128
