Finance Minister Arun Jaitley must be congratulated for keeping fiscal deficit under control. The amounts received by the government from sale of shares of public sector undertakings are receipts on capital account, while amounts received though collection of taxes are receipts on revenue account. The government borrows monies in addition to both these receipts to finance its increasing expenditures. This borrowing is called fiscal deficit. Fiscal deficit can be taken as a measure of government responsibility. More borrowing today means that more taxes will be imposed in future to repay these loans. That is not liked by investors. They feel that more taxes will be imposed in future, eating into their earnings and hence they stay away. On the other hand, a government that spends only as much as it earns, is perceived as responsible.
However, the measure of fiscal deficit allows the present government to overspend by liquidation assets bequeathed by past generations. Just as a family can sell property bequeathed by ancestors and go on a foreign jaunt or farmers squander compensation from land acquisition on liquor and other pleasures. No money has been borrowed for such extravagance, there is no increase in the family’s ‘fiscal deficit’. Yet, it is clear that such financial management is not good.
Every business has two accounts— capital and revenue accounts. Income from salary or from business and expenditures on food, petrol and staff salaries are reflected in the revenue account. A ‘healthy’ businessman brings in revenue and invests in a plot of land. On the other hand, a ‘weak’ businessman is unable to meet his expenses from his earnings and must sell a plot bequeathed by his forefathers and use the money to meet his daily expenditure. This same classification applies to government finances. The government earns monies from taxes and accrues expenditure on salaries, maintenance of roads, printing currency and other such items of day-to-day expenditures in the revenue account. If income is greater than expenditure, then there is a revenue surplus. This surplus can be used to make investments. If revenue is less, then the government must raise funds from another source to meet the expenditures.
There are two ways these funds can be raised. The government can liquidate assets bequeathed by earlier generations or it may borrow and transfer the liability to future generations. Presently, the government is trying hard to liquidate assets bequeathed by previous generations. Previous generations invested their hard-earned income in these PSUs. Now the government is on the fast track to sell shares of these PSUs to raise monies to meet its expenditures. This is considered a ‘good’ way to meet the revenue deficit in mainstream economic thinking. The other way to raise funds to meet day-to-day expenditures is to borrow and pass on the liability to future generations. This mode of raising money is considered ‘bad’ by mainstream economists. The anomaly in this thinking is that fiscal deficit ignores the eating up of past bequeathals and focusses on future loans. The only correct measure of good governance is revenue deficit. That is, unfortunately, hardly talked about by finance ministers.
The correct question is whether the money raised from past or future generations is used to create assets or used to meet current consumption. It is the quality of expenditure that matters, not the quantity. Large borrowings, and a large fiscal deficit to make investments in PSUs, highways and space research is good; while even small borrowing to pay salaries to government servants is bad.
There is a mad rush in most government departments to use up their budget allocations before the financial year ends on March 31. The measure of ‘efficiency’ is whether one can spend. This anomaly arises because the government does not undertake a performance audit of expenditures. The focus on fiscal deficit is misplaced. Fiscal deficit does not disclose whether monies have been raised from tax incomes or from liquidating assets bequeathed by previous generations. Large fiscal deficits are not necessarily bad. The correct measure of good governance is expenditure according to income and the quality of government expenditure. Alas, both are missing from the present dialogue on the budget. Yet, the finance minister must be congratulated for bringing down the fiscal deficit because it is a small, though inadequate step in the right direction.
The writer was formerly Professor of Economics at IIM Bengaluru
