What is “fiscal deficit” and why does it matter?

1. Fiscal Deficit: The fiscal deficit represents the difference between the total expenditure of the government and the revenue receipts plus loan recoveries that it generates. This in simple terms shows how much of the expenses are actually generated by the revenue that the government is able to raise through different sources like taxes and even non tax efforts. A sharp rise in expenditure or a slowdown in tax collections or even both these events can lead to a rise in the fiscal deficit for the country. In the year 2010-11 the fiscal deficit was Rs 3,73,000 crore which is expected to go up to Rs 5,10,000 crore in the financial year 2012-13, according to Budget estimates.

2. Higher borrowings

Since the fiscal deficit by itself represents the difference between the cash flows of the government the deficit has to be bridged through borrowings. So it is a simple explanation that when there is a rise in the fiscal deficit, there will be a corresponding rise in the borrowings of the government. Thus, in 2010-11 the fiscal deficit gave rise to a total borrowing of Rs 3,73,000 crore which went up to Rs 5,10,000 crore in 2012-13. More borrowing by the government means more money being printed to bridge the deficit.

3. Higher interest rate

When the government has to borrow so much, there is pressure on its finances. Lenders will ask for more interest on loans to the government. The large amount of borrowings also makes the situation such that there is competition among different borrowers. These borrowers issue offer debt securities to the limited number of buyers. The only way they could attract lenders would be by offering a higher rate of interest.

4. Inflation

When the government and companies issue such securities to lenders, there is more money floating in the economy. RBI has to print more money and increase the overall supply of money. This adds to inflation. The higher amount of inflation also leads to a situation where interest rates remain high. For faster growth, there is a need to have low interest rates. However, with inflation remaining high, RBI cannot make rapid or deep cuts in interest rates. This slows economic growth.