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Profit Explains: What Is Fiscal Deficit?

A government is said to run a fiscal deficit when its expenditure exceeds the revenue it generates.

<div class="paragraphs"><p>The headquarters of the Reserve Bank of India in Mumbai. (Source: NDTV Profit)</p></div>
The headquarters of the Reserve Bank of India in Mumbai. (Source: NDTV Profit)

A government is said to run a fiscal deficit when its expenditures exceed the revenue it generates. In most cases, the government makes up for this gap through external borrowing.

A fiscal deficit is not always bad. In certain circumstances, economists recommend running a larger fiscal deficit to spur economic spending when the economy is facing a slowdown or a recession. That, in turn, boosts demand and can help lift economic momentum.

However, there are downsides to maintaining a large fiscal deficit too. If the government borrows large sums from the market, the cost of borrowing surges for both the common man and the government.

Secondly, it leads to inflationary pressures. If government spending generates additional demand for the same amount of goods and services, they tend to get more expensive. Furthermore, if a country's central bank resorts to monetising the deficit by purchasing government bonds, the money supply in the economy increases, resulting in inflation.

As for India, a developing economy, maintaining a fiscal deficit is justified because the government needs to spend more on infrastructure development. But according to the revised Fiscal Responsibility and Budget Management Act, the government was required to bring its fiscal deficit down to 3% by 2017–18.

Since the target has already been pushed back at least three years, India’s credibility is at stake.

Opinion
India's Fiscal Deficit Widens To 58.9% In First Eight Months

ICRA, in a research report, pointed out that the FY2024 Union Budget needs to balance supporting growth in economic activity and fiscal consolidation against the backdrop of a global growth slowdown and geopolitical tensions.

"We foresee the Government of India’s fiscal deficit at 5.8% of the gross domestic product in the FY24 budget, lower than the 6.4% of GDP expected in FY23," it said.