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Fiscal Policy in India: Objectives, tools, importance and more

Learn all about fiscal policy in India, from objectives to tools to trends. Further, we discuss the critical differences between monetary and fiscal policy

Published: Jan 23, 2024 06:01:27 PM IST
Updated: Jan 23, 2024 06:02:37 PM IST

Fiscal Policy in India: Objectives, tools, importance and more

Fiscal policy in India refers to the government's use of taxation and public spending to influence the overall economy. It is a tool for economic management and involves government revenue and expenditure decisions to achieve specific economic objectives.

Fiscal policy is employed alongside monetary policy (controlled by central banks) to achieve macroeconomic stability and promote economic growth.

Objectives of fiscal policy in India

The primary objectives of fiscal policy in India include:

  1. Economic growth: Fiscal policy aims to stimulate and sustain economic growth by deploying measures encouraging investment, consumption, and overall economic activity. This includes targeted government spending on infrastructure, education, and healthcare.
  2. Price stability: Controlling inflation and maintaining price stability are crucial objectives of fiscal policy in India.
  3. Full employment: Fiscal policy seeks to generate employment opportunities by fostering economic growth. The government does so by initiating projects and programs that create jobs and reduce unemployment rates.
  4. Equitable income distribution: Fiscal measures, such as progressive taxation and social welfare programs, are implemented to promote an equitable allocation of resources and opportunities.
  5. External stability: Fiscal policy aims to balance the country's external trade and payments. Measures include adjustments in tariffs, subsidies, and other policies to ensure a sustainable balance of payments and exchange rate stability.
  6. Resource mobilisation: The government aims to strike a balance between revenue generation through taxes and non-tax sources while ensuring that the fiscal deficit remains within manageable limits.
  7. Infrastructure development: The government utilises fiscal policy to invest in critical infrastructure projects, such as transportation, energy, and telecommunications, to facilitate long-term economic development.
  8. Social welfare: Fiscal policy in India includes provisions for social welfare programs and poverty alleviation initiatives. These measures aim to uplift marginalised sections of society through targeted spending on education, healthcare, and social security.
  9. Environmental sustainability: In recent years, there has been a growing emphasis on incorporating ecological considerations into fiscal policy. Measures are taken to promote sustainable development and address environmental challenges, aligning economic growth with ecological sustainability.
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Tools of fiscal policy in India

Fiscal policy tools are implemented through the annual budget, which outlines the government's revenue and expenditure plans. India employs various tools of fiscal policy to achieve its economic objectives. These include:

Government receipts

Government receipts are the funds received by the government from various sources, such as taxes, interest, investment gains, and payments for services. These receipts are essential for the government to finance its activities and invest in different sectors. Government receipts can be classified into capital receipts and revenue receipts.

  1. Capital receipts: The government raises these funds through borrowings or by selling its assets. Capital receipts involve market borrowings and external borrowings. Additionally, capital receipts include proceeds from the sale of government-owned assets, recoveries of loans and advances, and repayments from foreign governments. Capital receipts are essential for financing the development and capital expenditure of the government.
  2. Revenue receipts: The government generates these funds through non-debt sources, consisting of taxes and other earnings that do not create liabilities. These receipts are essential for meeting the government's day-to-day operational expenses. Revenue receipts are of two main types: tax revenue and non-tax revenue. Tax revenue is derived from direct and indirect taxes imposed on individuals and businesses. Non-tax revenue includes earnings from sources such as interest on loans, dividends from investments, and fees for services provided by the government. 

Revenue expenditures

These cover operating expenses and routine maintenance of the government. They are necessary to sustain the government's day-to-day operations.

Capital expenditures

This involves investments made by the government to expand operations and generate more revenue. Capital expenditures often include purchasing long-term assets, such as machinery or infrastructure, with a lifespan of at least a year.

Public Account of India

The Public Account of India includes transactions where the government acts as a banker. Established by Article 266 of the Indian Constitution, this account covers flows related to small savings, provident funds, and other instances where the government holds funds on behalf of individuals. The government is obligated to return these funds to their owners periodically, and expenditures from the public account do not require parliamentary approval.

Fiscal management: FRBM Act

The Fiscal Responsibility and Budget Management (FRBM) Act was enacted to promote fiscal discipline and fiscal management in India.

Enacted in 2003, the FRBM Act aims to bring transparency, accountability, and prudence in managing government finances.

The key provisions include setting targets for reducing fiscal deficits, controlling the revenue deficit, and managing the overall public debt.

The Act establishes a framework for the government to adhere to fiscal management principles to ensure macroeconomic stability and long-term fiscal sustainability. Periodic reviews and reports on fiscal performance are mandated, providing a mechanism for monitoring and adjusting fiscal policies as needed.

Importance of fiscal policy in India

The importance of fiscal policy in India lies in its pivotal role as a tool for economic management and development.

  • Fiscal policy serves as a means to stimulate economic growth by strategically increasing public expenditure and investments in key sectors.
  • Moreover, fiscal policy is instrumental in maintaining price stability by regulating demand and controlling inflation.
  • It addresses social and developmental goals through education, healthcare, and infrastructure allocations, fostering inclusive growth.
  • It curbs fiscal deficits and ensures long-term sustainability.

India’s fiscal policy trends and trajectory

In recent years, India's fiscal policy has been characterised by a strategic focus on infrastructure development, with increased budgetary allocations to sectors like transportation, energy, and urban development.

The government has embarked on tax reforms, notably the Goods and Services Tax (GST) introduction in 2017, aimed at simplifying and unifying the country's indirect tax system.

There has been a concerted effort to rationalise subsidies, ensuring more targeted resource distribution, particularly in areas such as fuel and food subsidies.

Public debt management remains a consistent concern, with efforts to balance necessary borrowing for expenditures and maintaining fiscal discipline.

Countercyclical fiscal policies have been deployed to address economic downturns, involving increased government spending and stimulus measures to boost growth. Fiscal deficit targets are part of fiscal consolidation efforts, reflecting the ongoing challenge of balancing economic stimulation with fiscal prudence.

India's fiscal policy trends reflect a dynamic approach, responding to evolving economic conditions and government priorities.

Monetary and fiscal policy in India

Monetary and fiscal policy are two distinct approaches governments and central banks employ to regulate and stabilise economies.

  • Fiscal policy in India under the government's purview involves adjustments to taxation and government spending. It is executed through legislative processes and can be targeted to specific sectors or groups. In contrast, monetary policy is the domain of central banks, such as the Federal Reserve, which controls the money supply, interest rates, and credit conditions.
  • While fiscal policy tends to have a longer time lag, as it involves legislative processes, monetary policy can be implemented relatively swiftly, adjusting interest rates and influencing economic activity promptly.
  • Fiscal policy primarily focuses on managing aggregate demand and addressing issues like unemployment and inflation, while monetary policy has a broader impact on the overall economy.
  • Furthermore, fiscal policy decisions are subject to political processes, whereas central banks responsible for monetary policy often operate independently to make decisions based on economic considerations.