Fiscal Deficit

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Blog Author :

WallStreetMojo Team

Edited by :

Ashish Kumar Srivastav

Reviewed by :

Dheeraj Vaidya, CFA, FRM

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Fiscal Deficit Meaning

A fiscal deficit is the shortage of monetary or financial resources that a government suffers from when its expenditure exceeds the revenue it generates in a fiscal year. It is calculated as the difference between the total expenditure and total income and is denoted as a percentage of the gross domestic product (GDP).

Table of contents
What is Fiscal Deficit?

When the government spends more than what it earns, it has to borrow money from different sources to cover the shortage of funds. As a result, the administration is compelled to burden the citizens to recover the extra expenditure, making them pay more for everything, causing inflation.

  • A fiscal deficit refers to the economic situation when a nation’s government spends more than what it generates as revenue.
  • A fiscal shortage is a type of budget deficit. The latter signifies the inability of the government to handle even the usual expenditures.
  • The fiscal shortage might have a completely negative appeal, but the phenomenon does positively impact nations suffering from economic recession.
  • Capital expenditure is one of the most vital causes of financial obligation for a government or economy.

Fiscal Deficit Explained

A fiscal deficit is a phenomenon that arises when a government spends more than its income, excluding the debts. The shortage of resources due to this negative difference compels it to borrow money from other nations, increasing the national debt. 

The term fiscal shortage or deficit is different from the concept of fiscal debt, which is calculated as the total debt accumulated for the continuous coverage of the deficits. The fiscal shortfall exists in two forms – gross fiscal deficit (GFD) and net fiscal deficit. 

The GFD refers to the total expenditure exceeding the total income, including loans net of recovery above revenue receipts and non-debt capital receipts. On the contrary, the net fiscal shortage is the amount left when the net lending is subtracted from the GFD.

Many economists and financial experts consider this deficit as a negative situation, increasing the tax burden of the citizens while raising the inflation rates. Thus, they advocate and vouch for nations having a balanced budget policy. However, a few Keynesian economics influencers identify the phenomenon as positive, given the purpose that governments serve by borrowing money. 

According to economist John Maynard Keynes when a country suffering from fund shortage asks for an amount from another country, it helps both the entities. While the former receives money and clears the national debt, the latter gets a chance to get out of an economic crisis, if any.

Cause

One of the major causes of the fiscal shortfall is the expenditure made on capital. The government that focuses on the national infrastructure is likely to witness a shortage of financial resources. The capital expenditure includes the government’s spending on buildings, bridges, factories, and other infrastructural development.

Examples

Example 1

One of the best examples of such a situation is the fiscal deficit 2020-21 caused due to the Covid-19 pandemic. The shortage reached $3.1 trillion under the leadership of President Donald Trump in 2020. This deficit was caused by the tax cuts and the reformed spending policies implemented to tackle the global health crisis caused during the pandemic. The situation dragged the GDP contraction level even lower than the financial crisis of 2008.

Example 2

Let us consider the following expenditure and receipts for the years 2010-11 of the US government:

Firstly, let us calculate the total expenditure:

Fiscal Deficit Example 1

Next, let us calculate the total income:

Fiscal Deficit Example 1-1

Using the fiscal deficit formula, the shortage can be calculated as below:

Fiscal Deficit = (Total Expenditure - Total Income)

= $(697-548 billion) 

= $149 billion

Hence, the fiscal deficit US for the period stands at 149 billion dollars.

Benefits

Fiscal shortage, though it sounds like a completely negative situation, does have some benefits:

Benefits
  • Borrowing money from another government gives that economy a chance to get rid of economic recession or any financial crisis.
  • When the government invests the borrowed money in infrastructural developments, it raises the employment rate, helping different sections of society earn a significant income. Hence, fiscal shortage fosters economic growth.
  • Such situations are alarming. Thus, the governments exercise self-control over the spending they plan and make. In short, they try to plan their budget accordingly.

Fiscal Deficit vs Budget Deficit

A budget deficit refers to a situation where the government does not have sufficient income to handle the expenditures. On the other hand, the fiscal shortage is the type of budget deficit where the government spends more than its income. While the former signifies the inability of the economy to raise funds to spend on different development projects, the latter involves borrowing the excess amount from other economies.

In a budget deficit situation, however, the governments have to borrow a lump sum to control their usual expenditure in exchange for which they have to pay a significant interest. 

Frequently Asked Questions (FAQs)

What is a fiscal deficit?

It refers to the economic phenomenon where the government’s total expenditure is more than its total revenue or income. It is a budget deficit that leads to an increase in the national debt, which compels the government to borrow funds from another nation to make up for the shortage. The shortage normally occurs because of the continuous capital expenditure on infrastructural developments.

Is fiscal deficit good?

Though the phenomenon leads to negative results by increasing the national debt, it also has some positive impacts. For example, when the economy spends on infrastructure, it allows for more employment and gives more financial power to different sections of the society. Plus, borrowing money helps the lending nation get out of economic recession or crisis.

Is fiscal deficit always inflationary?

No, this budget deficit type is not always inflationary. The increase in government expenditure leads to a rise in the aggregate demand, thereby making firms incapable of meeting the demand, which causes inflation, i.e., the rise in the prices of the products. On the other hand, the increasing demand calls for more workforce, which enhances the employment rate, strengthening the economy at the same time.