Budget Explained: What is fiscal deficit? Why is it important to control it?
As India awaits the Union Budget for 2025-26, it's an apt time to explore key terms associated with this highly anticipated event. This article breaks down the concept of fiscal deficit and its significance for governments.
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What is a fiscal deficit? Why do governments often discuss it? Why is it targeted at a certain percentage of the gross domestic product (GDP)? Is there a fiscal surplus too?
A country is said to be in a fiscal deficit when its revenue collections fall short of its expenditure. In simple terms, a fiscal deficit occurs when a country spends more than it collects.
As India awaits the Union Budget for 2025-26, it's an apt time to explore key terms associated with this highly anticipated event. This article breaks down the concept of fiscal deficit and its significance for governments.
Now that you are familiar with the definition, let's delve deeper into the subject.
What makes fiscal consolidation an important part of the Budget?
In the Union Budget, the Finance Minister provides a detailed breakdown of the fiscal deficit and related numbers. Key figures include the government's fiscal deficit target for the upcoming financial year, which typically spans from April 1 to March 31 of the following year.
Additionally, the Finance Minister gives estimates of the expenditure and revenue for the financial year, along with the exact amount that the government needs to finance the fiscal deficit.
Now, fiscal consolidation refers to the process of tracking and reducing the fiscal deficit through measures like controlling expenditure and boosting revenue. You may have come across the term ‘fiscal consolidation path’, which essentially outlines the government's roadmap to gradually narrow the deficit.
In India, is there a fiscal surplus too?
A fiscal surplus is exactly the opposite of fiscal deficit.
It is a situation where a government’s revenue is larger than its expenditure. In simple terms, a fiscal surplus occurs when a government collects more money than it spends.
Norway, for instance, has generally maintained a fiscal surplus.
However, in India, a fiscal surplus is rare.
In 2024, India briefly entered a fiscal surplus thanks to the RBI's record dividend payout to the exchequer.
The surplus reached Rs 1.6 lakh crore following the RBI’s mega dividend of Rs 2.11 lakh crore for 2023-24.
Where does the fiscal deficit stand now?
In July 2024, the government targeted to close FY25 with the fiscal deficit at 4.9 per cent of the country’s GDP, slightly lower than the 5.1 per cent goal set in Interim Budget.
It aims to contain the deficit at 4.5 per cent by FY26.
How does a low fiscal deficit help?
A low fiscal deficit generally indicates a healthy economic situation. It tells that:
- The government is spending within its means
- The government has a low debt
- The government is disciplined fiscally
All in all, a low or no deficit suggests stability in a country's financial position.
What does a high fiscal deficit mean?
A high fiscal deficit can mean wasteful spending by the government, fuelling inflationary pressure on the economy. A high fiscal deficit forces the government to borrow more from the market, which boosts the demand for credit and can potentially lead to higher interest rates.
Higher interest rates, in turn, raise businesses' costs of borrowing, hindering their investments and slowing overall economic growth.
Moreover, higher debt can restrict a government’s Budget in the long run.
This is why it's essential for governments to be watchful and vigilant about their fiscal deficit.
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