Categories: Economy

The Effects of Fiscal Deficit on Economy

Fiscal Deficit on Economy -Fiscal Deficit comprises of 2 words one is fiscal and other one deficit. Fiscal means yearly and deficit means a shortage of anything.

In economics, a fiscal deficit means the difference between the expenditure incurred and revenue generated by the country in a particular year. When the expenditure incurred is more than the revenue generated excluding the borrowings it is known as fiscal deficit.

In equation we can represent it as follows

Fiscal Deficit= Total Expenditure(Revenue+Capital) – Total Receipts excluding Borrowings

Causes of Fiscal Deficit

There are various reasons due to which fiscal deficit occurs in an economy. Few of them are-

Poor performance of state government-

If the state government is relatively less efficient in supplying public services, then the value for money will be lower, and more will have to be spent in total to provide the services that people need which increase the expenditure of the government.

Interest Payments

If a country faces a continued fiscal deficit, its debt can pile up. As it piles up, the amount it has to pay in interest invariably increases. In turn, this alone can cause a fiscal deficit.

Excessive government borrowings

One of the major reasons for fiscal Deficit is excessive government borrowings. The more the government borrowings more is the fiscal deficit of the Economy.

If the government has enough funds there will be no need for it to borrow money from various sources.

Tax Evasion

When more and more people avoid paying taxes, practice tax evasion so the government gets fewer funds and this in turn again leads fiscal Deficit because the income government gets will be less than the expenditure. So people should be aware of this and should not avoid paying taxes to the government.

Increase in Subsidies

Subsidies are the expenditure for the government. An increase in subsidies causes more amount of expenditure to be incurred by the government. An increase in expenditure implies an increase in the rate of Fiscal Deficit.

How is this deficit-financed?

The fiscal deficit of the economy is financed through borrowing. Thus it indicates the total borrowing of the government from all sources. The government borrows money from home that means from citizens of that country using debt instruments, money market instruments like treasury bills, etc, from RBI and borrowings from abroad and the way deficit is financed is known as deficit financing.

Effects of Fiscal Deficit On Economy

Fiscal Deficit is a huge indicator for knowing about the economy of the country. The more the fiscal deficit, the more that country is borrowing funds. Like every coin has 2 sides, the same is with the fiscal deficit. It has both positive and negative effects on the Economy of the country.

Positive Effects

Balance during situation of recession

During the recession when there are high unemployment and low income at a macro level fiscal deficit is very effective in ending it. In order to revive the Economy back, the government spends more than its revenue so that income and employment levels in the economy will improve.

Negative Effects

Debt Trap

When any Economy is facing fiscal deficit it will have to borrow money from various sources which will lead to a debt trap. There will be an obligation to pay off that debt along with the interest which will put additional burden on the government.

High Interest Rates

Too much of borrowings are also not possible because there is limited money in the market and needs to be made available to other borrowers as well and excessive borrowings will increase the interest rate which will increase the expenditure of government when the economy is already in a situation where expenditure is more which may again lead to fiscal Deficit in future years.

High tax rates in future years

In order to generate more revenue in future years, the government will have to increase tax rates in the next year’s which can give hardship to middle-income group people.

No increase in expenditure on health and education

When there is a fiscal deficit in the economy it will have a huge effect on expenditure to be incurred in future years also. The government will not be able to increase its expenditure on health and education facilities which will be a problem for the whole country.

Decrease in subsidies

Fiscal deficit will also lead to a decrease in the expenditure incurred by the government on providing various subsidies. This is the reason why slowly the government is reducing the number of subsidies to be given on LPG cylinders also and increasing the rate of cylinders.


When the government borrows more it increases the supply of money in the economy which will increase the prices of the goods and as the prices go up it will lead to inflation.

India’s fiscal deficit accounted at 3.8 percent in 2019-20 and will be targeted at 3.5 percent in 2020-21, Finance Minister Nirmala Sitharaman said in her Union Budget speech.

For 2019-20, the fiscal deficit was estimated at 3.3 percent at the time of the budget presentation in July.

However, due to the current situation of COVID-19, every economy has gone through a lot of loss. Every nation’s economy has gone down due to the pandemic of coronavirus. So it seems difficult that the estimated fiscal deficit target of 2020-21 will be achieved by the economy because due to these crisis government has spent a lot of expenses and people are also not getting their proper incomes. When people face an income crisis, they will not pay taxes which will increase the burden of government. A lot of hard work will have to be done once India makes a comeback from this crisis.

Faiz & Mohtasham

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