The document examines India's fiscal policy and the impact of various economic factors on the country's fiscal deficit as a percentage of GDP. It analyzes secondary data on factors like money supply, debt, tax revenue, government expenditures, foreign exchange reserves, and government borrowings. A multiple regression model is used to test the hypothesis that these factors influence India's fiscal deficit. The results show that rising revenue expenditures, lower tax revenues, and higher money supply are positively correlated with higher fiscal deficits as a percentage of GDP. The study aims to further understand India's fiscal dynamics and the linkages between its deficit, debt, tax rates, and economic growth.
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Economics liberalization and fiscal performance
1. ECONOMIC LIBERALIZATION, FISCAL
PERFORMANCE, GOVERNMENT DEBT AND
TAX REFORMS: INDIAN EXPERIENCE
Prof. Prashant Kulkarni
Asst. Professor, International Business and Economics,
Indian Business Academy, Bangalore.
Prof. Anantha Murthy N.K.
Asst. Professor, Quantitative Methods and Operations
Research,
Indian Business Academy, Bangalore.
2. OBJECTIVES
Examining the determinants of fiscal policy
Understanding the implications of Tax/GDP
ratio on the country’s growth
Explore how size of public debt can have an
impact on tax structure
Move in direction of understanding the
degree to which various determinants
influence fiscal deficit.
3. REVIEW OF LITERATURE
Dr. C Rangarajan former Governor, RBI and Dr.
Srivatsava (2003), shows that four fifths of the
effects of public indebtedness was negated on
account GDP growth being faster than real
interest rates.
Surajit Das (2004) tested the empirical
relationship between higher interest rates and
deficits. He concluded that the theoretical
arguments favoring the co-relation between the
deficits and the interest rates rest on the
assumption of full employment.
4. Ricardo Hausmann of Harvard and Catriona
Purfield (2002) contend that inflation benefits
the economy by ensuring the solvency of public
debt.
Subir Gokarn (2004) feels that the fragile fiscal
situation was hindering the growth of the
economy. While FRMB requires the government
to reduce the fiscal deficit by 0.3% per year, it
feasibility hinged on the sustaining high growth
rates apart from the extent of success in
broadening of the tax base.
5. Swaminathan Aiyar (2004) feels that it is the
trade invisibles that have cushioned the
impact of fiscal deficit in India. Net invisibles
that were under $2 billion in the early 1980s,
shot up to nearly $20 billion by the end of
2003. The figure for 2003 represented nearly
4% of the GDP and this offset the impact of
the deficit.
6. Easterly and Schmitt-Hebbel (1994) estimate
the relation between fiscal deficit and
inflation. They conclude that seignorage is
not an important as a steady state
phenomenon but can be important in short
run period.
7. METHODOLOGY
The study uses secondary data from various
sources like Budget documents, RBI reports,
reports from CRISIL, data published by Central
Statistical Organization etc. We analyzed
various determinants of fiscal deficit. The study
makes use of the data for Indian fiscal
parameters using the Multiple Regression
model. We subject the data with tests for auto-
correlation and multicollinearity.
8. HYPOTHESIS FOR TESTING
H0: There is no impact of government
borrowings, revenue expenditure and foreign
exchange reserves on Fiscal deficit of India as
measured by fiscal deficit as percentage of GDP
H1: There is an impact of government
borrowings, revenue expenditure and foreign
exchange reserves on Fiscal deficit of India as
measured by fiscal deficit as percentage of GDP
9. MULTIPLE REGRESSION MODEL
Y=a+ b1X1+b2X2+b3X3+b4X4+b5X5+b6X6+b7X7+b8X8+ξ
Where Y=Fiscal deficit
X1=Money supply (M3)
X2=Debt GDP
X3=Tax GDP
X4=Revenue Expenditures
X5=Foreign Exchange Reserves
X6=Capital expenditure
X7=Revenue deficit
X8=Government borrowings.
ξ= Error term
10. MULTIPLE REGRESSION MODEL RESULTS
Multiple correlation
coefficient
Co-efficient of
determination
Estimate of error
0.9355 0.8752 0.5339
ANOVA
Source d o f SS MS F p-value
Explained 8 33.9964 4.2495 14.9067 0.0000**
Unexplain
ed
17 4.8463 0.2851
12. CORRELATION BETWEEN INDEPENDENT
VARIABLES
money
supply
Debt GDP Tax GDP Rev exp Forex Cap exp Rev Deficit Govt
borrowing
money
supply
1.000 0.772 0.056 -0.448 0.965 -0.762 0.584 0.926
Debt GDP 1.000 0.411 0.079 0.730 -0.533 0.681 0.720
Tax GDP 1.000 0.513 0.172 0.254 -0.220 -0.172
Rev exp 1.000 -0.397 0.729 -0.111 -0.405
Forex 1.000 -0.621 0.389 0.823
Cap exp 1.000 -0.694 -0.771
Rev Deficit 1.000 0.751
Govt
borrowing
1.000
coefficient of determination is 0.8752 and VIF =8.01 which is less than 10. This show even
though few independent variables are strongly correlated multicollinearity will not be problem
for the model.
13. DURBIN WATSON TEST
Positive autocorrelation
Rejecting Ho
Inconclusive No autocorrelation
Accept Ho
dl =0.8156 du=2.1172
14. GRAPH OF FISCAL DEFICIT AS PERCENTAGE OF GDP AND FITTED
VALUES
0
2
4
6
8
10
12
Fiscaldeficit
Fitted Values
Financial years
Fiscal deficit as a
percent of GDP
15. INFERENCES
Rising revenue expenditure is a cause for concern.
With government spending on interests and increased salaries unlinked with
productivity, revenue expenditure shows a rising trend without fetching any
returns.
This in turn is having an impact on the fiscal deficit.
Tax GDP ratio is also having an impact on the fiscal deficit. Any fall in tax
collections will erode the government revenues forcing it go in for deficit
financing. Since deficit financing is advocated by many economists, we tested
impact of capital expenditure on fiscal deficit. We find no evidence of it having an
impact on fiscal deficit as % of GDP.
We also find evidence of impact of money supply on fiscal deficit. It has been
established that increased deficit causes a rise in money supply leading to
inflationary trends (RBI economic report 2009).
Some studies (Swaminathan Aiyar, 2004) believed that increased foreign
exchange reserves were cause of cushioning the impact of fiscal deficit. While
we do not find any impact of foreign exchange reserves on the deficit, we have
to go deeper to understand the linkages between the two.
16. The study was an attempt to understand the
dynamics of Indian fiscal policy and the impact of
various factors on fiscal deficit as percentage of
GDP. Our results seem consistent with the existing
literature on the subject.
17. REFERENCES
“State of the Economy”, CII Report, October 2002.
Macro Economic Aggregates Published by Dept. of Economic Affairs, Ministry of Finance, 2003
Historical Economic Data 1951-2003, Published by Ministry of Statistics, 2003
“India’s External Debt: Status Position”, Publication by Dept. of Economic Affairs, Ministry of
Finance, Government of India, June 2003
Indira Rajaraman, “Fiscal Restructuring in the Context of Trade Reform”, National Institute of Public
Finance and Policy, 2003
Tax Collection figures, 2003, released by Ministry of Finance
Indian Public Finance Statistics 2003-04, Dept. of Economic Affairs, Ministry of Finance, Government of
India 2004
Subir Gokarn “CRISIL Report on Economic Impact” 2004
M Govinda Rao, “Tax Systems Reform in India: The Center State Dimension”, A Presentation by
National Institute of Public Finance and Policy
Medium term Fiscal Indicators, released by Ministry of Finance, 2004
“Implementation of Fiscal Responsibility and Budget Management Act 2003”, Report of Task Force, July
2004
Andy Mukherjee, “India’s Ballooning Public Debt Gets a Breather”, Bloomberg News, October, 2005
Jayanthi Ghosh, “The Economic Case for Employment Guarantee”, Business Line, October 27,2004
Gross Domestic Product by Economic Activity Figures released by Dept. of Economic
Affairs, Government of India, 2005
Economic and Financial Data, National Summary Data Page, Ministry of Statistics, 2005
“Finding India’s Nemo:a Low Tax-GDP Ratio”, Financial Express, February 8,2005
