Thursday, February 5, 2015

Revenue, Fiscal and Primary Deficits

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Revenue Deficit
For every financial year, government plans a budget. Government needs to predict how much it hopes to earn as revenue and how much to spend as expenditure.
Suppose, for a financial year, government predicts to earn revenue of Rs. 525 crore (just a figure to understand) and expects to spend Rs. 400 crore. Then the predicted Net Revenue will be predicted revenue minus predicted expenditure, i.e., Rs. (525 - 400) crore = Rs. 125 crore.

Note that this is just a prediction or expectation. After that financial year, the government calculates that it earned Rs. 500 crore as revenue and spent Rs. 420 crore (expenditure). Therefore, the actual Net Revenue is calculated as Rs. (500 - 420) crore = Rs. 80 crore.

You can see, that the government expected to earn a Net revenue of Rs. 125 crore, but actually it earned Rs. 80 crore. This mismatch is known as Revenue Deficit. The reverse case is Revenue Surplus (when predicted Net revenue is greater than the actual one)

You must notice that the government may not have an actual loss of revenue (in this case actual revenue is greater than actual expenditure, that means profit, not loss).

Same concept goes for business too.

Fiscal Deficit
In the Revenue Deficit/Surplus, deficit or surplus was calculated on the predicted and actual Net Revenue.
But, if the government actually makes the deficit, then we are talking about Fiscal Deficit. That means, if the government spends more than it earns in a financial year, then (obviously) the expenditure is greater than the revenue, leading to the Fiscal Deficit.

Note Fiscal Deficit means actual loss of revenue, while Revenue Deficit can mean actual loss, or actual profit, for the financial year.

Also note that, while calculating Fiscal Deficit, we need to exclude the borrowings of the government (because it certainly is not actual revenue, its a debt, that the government needs to pay back to the lender/investor)

Primary Deficit
After borrowing from the investors, government needs to pay interest on the borrowings. If these interests are deducted from the Fiscal Deficit, then we get the Primary Deficit

Fiscal Responsibility and Budget Management Act (FRBM), 2003
FRBM Act was legislated to institutionalize financial discipline and improve macroeconomic and public fund management, reduce fiscal deficit, by making a balanced budget. It was introduced by former finance minister Shri Yashwant Sinha.

The goal was to - 
  1. Eliminate Revenue Deficit of the country
  2. Build Revenue Surplus thereafter
  3. Then bring down the Fiscal Deficit to a manageable 3 % of GDP, by March 2008.
But it was suspended due to the international financial crisis (recession) of 2007.

Current scenario and targets
Finance Minister Shri Arun Jaitley promised in Union Budget 2014, to lower the fiscal deficit to 3.6 % of GDP by 2015-16, and 3 % by 2016-17 to meet the original target of 3 % of GDP set by FRBM Act.

For current fiscal year (2014-15), the government may be able to meet the fiscal deficit target of 4.1 % of GDP.

Hope this post will help you understand the concepts.
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Happy learning!

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