What is fiscal deficit and why should you care?

What is fiscal deficit?

If you are an economics freak or someone who happens to follow the Budget speech by the finance minister every year, you would have come across the term ‘fiscal deficit.’

See, the central government spends massive amounts of money on infrastructure, defence, pensions, public welfare and social schemes, etc. and, almost every time these expenditures exceed the government’s incomes from sources like taxes, dividends, etc.

So, the shortfall a government incurs when it spends more than it has earned is called fiscal deficit.

Why is fiscal deficit important?

Okay, first of all, the government has broadly 2 choices to cover the fiscal deficit — either borrow money or print more currency.

Printing currency sounds like a good option, I mean why take debt in the first place. But we have seen enough cases in history (Zimbabwe, Weimar Germany, Venezuela) where printing money recklessly led to hyperinflation.

So most governments resort to borrowing money from the capital markets by issuing bonds or from the central bank.

Therefore, fiscal deficit is a key indicator of a government’s financial health.

Consistently high fiscal deficit over prolonged periods implies increased borrowing and can lead to economic challenges.

However, high fiscal deficits are not always bad and may indicate that the government is spending money on infrastructure development.

How is fiscal deficit calculated?

Fiscal deficit is calculated by subtracting the total income from the total expenditure of the government in a particular financial year.

It is either expressed in absolute terms or as a percentage of the GDP.

For example, if the GDP of a country is ₹100 lakh crores, and the difference between total income and expenditure is ₹10 lakh crores, the fiscal deficit will be 10%.

Fiscal deficit of the Indian economy

The honourable finance minister Nirmala Sitharaman during her Interim Budget 2024 speech, revised the fiscal deficit for 2023-24 (FY24) to 5.8% of GDP from the previous estimate of 5.9%.

The FM also announced the fiscal deficit target for 2024-25 (FY25) at 5.1% of the GDP (gross domestic product) and said that the government is on path to reduce the fiscal deficit to below 4.5% of the GDP by 2025-26 (FY26).