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Fiscal Deficits and Balance of Payments

Fiscal Deficits and Balance of Payments

  •  The balance of payments, (BOP), of a domestic territory of a country is the record of all economic transactions between the domestic territory of the country and the rest of the world (ROW) over a particular period (over a quarter of a year).
  • These financial transactions are made by individuals, firms, and government of the country.
  • Thus the balance of payments includes all the external transactions of a country.
  •  These transactions include payments done for the country's exports and imports of products/ goods, services, and other financial transactions.
  • A country's balance of payments is said to be in surplus or we can say a  positive if sources of funds (such as exports or goods sold and bonds sold) exceed uses of funds (such as paying for imports and paying for foreign bonds purchased) by that amount.
  • There is said to be a deficit in the  balance of payments or we can say negative if payment of funds (such as paying for imports and paying for foreign bonds purchased) exceed sources of funds (such as exports or goods sold and bonds sold).

Fiscal Deficit

  • Fiscal deficit presents a view of budgetary imbalances in the financial accounts of the domestic territory of a country.
  • Fiscal Deficit is the difference between total revenue and total expenditure of the government.
We exclude borrowings from the above category of expenditure.
Fiscal Deficit = ‘Total Expenditure’ - ‘Total Receipts excluding the borrowings.’

The conclusion of fiscal deficit are listed below:

Debt Trap:
  • Fiscal deficit tells us about the total borrowing requirements of the government in an accounting year. Borrowings involve repayment of the  principal amount as well as payment of interest.
Inflation:
  • Government mainly borrows from the central bank to meet the problem of its fiscal deficit.
  • The central bank issues new currency in the market in order to meet the deficit requirements.
  • It not only increases the money supply in the country but also creates an inflationary pressure.
 Foreign Dependence:
  • The government of the country facing the problem of fiscal deficit also borrows from rest of the world, which automatically raises the country being dependent on other countries when it comes to solving the problem of fiscal deficit.
 Hinders growth and relations:
  • Borrowings tend to increase the burden on future generations as they have to pay for the principal amount as well as interest in the future. It does affect the future growth and development prospects of the country as well as financial relations.

Sources of Financing Fiscal Deficit:

When a country faces the problem of a fiscal deficit, the government has the following options. The main two sources are:
Borrowings:
  • The problem of the  Fiscal deficit can be solved by borrowings from the internal sources of funds (public banks and commercial banks etc.) or the external sources of funds (foreign governments and organisations across international boundaries etc.).
Deficit Financing:
  • the Government may borrow from the central bank against its securities to meet the fiscal deficit that the country is facing.
  • The Central Bank can or may issue a new currency in order to solve the problem.