Paradigm Shift on fiscal deficit



The high point of the Budget for 2016-17 is its adherence to the road map for fiscal consolidation by fixing the fiscal deficit at 3.5 per cent of the gross domestic product (GDP). This is an extremely welcome step and sends out a clear message that the goal of the government is to accelerate growth under conditions of macroeconomic stability. However, in this context, two different questions arise. One is about the credibility of this commitment and the other, a more fundamental one, is whether it is necessary at all to adhere to a fixed road map.

What is ‘Fiscal Deficit’?:-

The difference between total revenue and total expenditure of the government is termed as fiscal deficit. It is an indication of the total borrowings needed by the government.

How is it set up currently?

Currently, the Fiscal Responsibility and Budget Management (FRBM) Act insists on a blanket 3% arithmetical limit on fiscal deficit.

FRBM Act:-

Fiscal Responsibility and Budget Management (FRBM) Act was enacted by Parliament in 2003 to progressively cut fiscal deficit to 3% levels by 2008.

  • FRBM Act put limits on the fiscal and revenue deficit of the country by setting targets for both.
  • These targets were to be monitored through the year by setting mid-year targets.
  • The government was to provide  a medium-term fiscal policy statement, fiscal policy strategy statement and macro-economic framework statement to Parliament.
  • The Act, however, provides exception to government in case of natural calamity and national security.

The limbs of Growth:-

Currently, the Fiscal Responsibility and Budget Management (FRBM) Act insists on a blanket 3 per cent arithmetical limit on fiscal deficit.The logic of correlation between credit expansion and fiscal deficit has five sequential limbs.

One, money is the blood of economic growth.
Two, most money that fuels the economy is created by banks, not by government.
Three, banks and financial institutions fund business and others, and it is that credit money which drives the economy.
Four, if, for whatever reason including lack of business confidence, the bank credit to the economy does not adequately grow, like it did not in the last few years, economic growth will suffer for want of adequate money.
Five, that is when the Budget needs to step in, to pump money into the economy by incurring deficit (spending more than the income), and, for the purpose, borrow the money lying with banks or even by printing more money, if that is needed.

The fifth limb ensures that growth does not decelerate for want of enough money circulating in the economy. Otherwise, it will. The FRBM law has ignored the fourth and fifth limbs of the logic and fixed the 3 per cent fiscal deficit as inviolable. The time has come to uncover how far its intents match with the reality and how rational its fixation with the 3 per cent limit is. The working of the FRBM law, particularly in the last few years, needs a reality check.

Emergence of targeted Fiscal Deficit:-

To preface the reality check on the FRBM law, it is necessary to know how the 3 per cent fiscal deficit limit emerged. The story is amusing, even bizarre. The magic number made its debut in the famous Maastricht Treaty to form the European Union (EU) in 1992. The treaty prescribed four criteria which EU members had to comply to be eligible to adopt the Euro as the common currency. One criterion was the 3 per cent fiscal deficit limit — the others being limits on inflation, long-term interest rates and public debt.

Why did the EU treaty mandate the 3 per cent limit? EU members like Greece and Italy were operating on high fiscal deficits while Germany and France had much lower numbers. In the tussle between prudent and profligate EU members, the limit emerged as a negotiated rate after give and take. There was “no objective economic basis” for it . That the 3 per cent limit was not aligned to the economic realities of EU was soon established by its own experience. Ten of the 12 EU members breached the 3 per cent limit over 12 years, from 1999 to 2011 — Greece, every year; Portugal, 10 years; Italy, eight; France, seven; and the strongest one, Germany, five.

The Indian context:-

Now, come to how the 3 per cent limit got its celebrated status in Indian fiscal economics. It was an open secret that the FRBM Act enacted in 2003and implemented from 2004, had adopted the ready-made EU limit of 3 per cent. But some fake reports had first hinted that an expert committee, which never existed, had recommended the limit. Faced with criticism that the EU rate of 3 per cent was carbon copied into the FRBM Act, some convoluted arithmetic was devised retroactively to explain the logic of the magic figure of 3 per cent.

The explanation went thus: the time-series household financial savings of India plus external savings was 13 per cent; out of that, 5 per cent would “go” to private sector corporates; of the balance 8 per cent, 2 per cent would “go” to public sector undertakings, “leaving” 6 per cent for Central and State governments to be shared between them (50:50), that is 3 per cent each, to fund their deficits.

The expert view rested on two basic assumptions: one, the financial savings would ever remain at 13 per cent, neither rise nor fall; two, obeying the experts, 5 per cent of it would “go” to private corporates. What if the private sector refused to take part of it? That is, if the credit offtake goes down, as it has in the last few years in India? And what if the financial saving rises? Or falls? The experts appear to have no answers. The fake explanation for 3 per cent was intended to hide the copycat fiscal economics written into the FRBM limits.

The guild of economists the world over — which rarely agrees on most issues — unanimously agrees that as money is critical for economic growth, without adequate money, GDP growth will suffer. The economic debate on the money-growth link dates back to the Great Depression of the 1930s.

While the celebrated Nobel laureate, Milton Friedman, talked about inadequate money supply as the cause of the Great Depression, James Tobin pointed to inadequate demand for money (credit) as the cause. That is even if there is money, a lack of business confidence or high interest may reduce the demand for money. There is no doubt that both — lack of money supply as well as lack of demand for credit — weaken growth.

From 2012-13 to now, i.e. 2015-16, the Indian economy seems to have been experiencing both the Milton and Tobin effects shrinking money expansion and credit demand shrinking even faster.


Aligning the monetary and fiscal economies means this. If bank credit growth falls, fiscal deficit may need to go up. If bank credit growth rises, fiscal deficit should reduce. This is particularly true for a growing economy like India. Had the fiscal deficit not been above the FRBM ideal limit of 3 per cent in the last four years, the growth would have suffered even more. It does not need a seer to say that the FRBM law as its stand harms the economy. The Finance Minister has rightly decided to get it reviewed.

100 Percent FDI In Multi Brand Marketing Of Food:-

The decision to allow 100 percent FDI in multi brand marketing to food grown and processed in India will act as a catalyst for the food processing sector in India

Mahila e-Haat:-

Mahila e-Haat is a unique online platform where participants can display their products. It is an initiative for women across the country as a part of ‘Digital India’ and ‘Stand Up India’ initiatives of Prime Minister.

This initiative can prove to be a game changer since it will provide access to  markets  to thousands of women who make products and are spread all over the country but have little access to markets. The initiative is unique since this is the first time that the government will help women to sell products online.

Mahila E-Haat is an initiative for meeting aspirations and need of women entrepreneurs which will leverage technology for showcasing products made/manufactured/sold by women entrepreneurs. They can even showcase those services being provided by them which reflect creative potential e.g. tailoring.

This unique e-platform will strengthen the socio-economic empowerment of women as it will mobilize and provide better avenues to them. More than 10000 Self Help Groups (SHGs) and 1.25 Lakh women beneficiaries would be benefited from the day of launch of the site itself. Participation in e-Haat is open to all Indian women citizens more than 18 years of age and women SHGs desiring for marketing their legal products/services after indemnifying RMK from any or all acts of transaction.

The e-Haat is expected to result in paradigm shift enabling women to exercise control over their finances. The entire business of e-Haat can be handled through mobile phone. The product, along with photograph description, cost and mobile no./address of the participants will be displayed on the e-Haat enabling direct contact between sellers/service providers and buyers.

To check black money flow, RBI to share FDI-related info with IB, RAW:-

The Reserve Bank of India (RBI) will share FDI-related information with the Intelligence Bureau (IB) and Research and Analysis Wing (RAW) — to check black money from entering the country.

The FDI comes either through automatic route (which gets recorded by RBI) or through Foreign Investment Promotion Board (FIPB), which is responsible for processing of FDI proposals and making recommendations for government approval.

Even after FIPB has approved a FDI proposal, concerned government agencies will not know whether the investment has actually come into India. The only organisation, which will know when the investment actually comes into the country, is RBI.

Hence, it was felt that they should form a database on it and share details with both IB and RAW


  1. Chapchar Kut, the most important traditional festival of the Mizos is being celebrated across Mizoram and also in the Mizo-inhabited areas in the neighbouring states. It is celebrated after completion of their most arduous task of Jhum operation i.e., jungle-clearing (clearing of the remnants of burning). It is a spring festival celebrated with great fervour and gaiety.
  2. At a survey of fauna in the Shendurney Wildlife Sanctuary, Kerala ,a butterfly species, Tufted White Royal, was recorded for the first time in the State.

  3. Four species of Impatiens (Kasi Thumba) plants believed to have gone extinct were rediscovered from the Western Ghats recently.According to the researchers, these plants, usually found 2,000 ft above sea level, are short-lived and will be seen only one quarter of a year.

  4. New snake species discovered in Gujarat . The new snake genus, Wallaceophis is named after Alfred Russel Wallace for his pioneering work on biogeography, and for co-discovering the theory of natural selection. The species has been named gujaratensis.The find is one of the rarest of moments in the recent reptile history of India.


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