Madhya Pradesh Public Finance and fiscal Policy | Course for MPPSC Preparation - MPPSC (Madhya Pradesh) PDF Download

Basic Understanding of Public Finance

Public finance as a concept may be understood on two levels –

• as a practical activity of all components of public administration and
• As a theoretical area.

The term “public finance“ may be defined as the identification of specific financial relationships and functions running between public administration bodies and institutions (i.e. public sector entities – the state) as one party and in mutual interaction with other entities of the economic system as the other party (i.e. private entities – households and companies).

These relationships and functions may be considered special as they include:

• Procuring public goods (production and provision);
• arranging and funding various transfers (particularly in the social area);
• Directing entities existing in the economy towards socially desirable behaviours; for instance through taxes, penalties, subsidies and other stimuli and charges.
• In order to arrange the funding of the above-mentioned areas, there is a fiscal system (public budgeting system) whose aim is to collect the required amount of public revenue. Public revenue serves, at various levels of public budgets (governmental, regional and local), to fund public expenditures.
• Public expenditures, public revenue and particularly taxes may be considered to be the fundamental elements of public finance. Important terms derived from these three elements include deficit, public debt, budgetary policy and fiscal policy.
• The development of public finance is connected with economic mechanisms that should ideally lead to the effective and fair allocation of limited resources.

Public Finance – Causes of Development

• The reason for developing public funding is the state intention to soften the drawbacks resulting from economic decisions made by individual entities (households and companies). It uses fiscal tools (public revenue and expenditure) to accomplish this.
• Certain behaviour is classified as the “quasi-fiscal funding principle”, where publiclaw goods are funded from off-budgetary resources (e.g. the public-law television in the Czech Republic is funded from television licence fees).
• Another important term that relates to public finance, and that is also a strong argument for its development, is market failure.
• The market system follows supply and demand through the price mechanism. It is a system that has developed itself, and that has strong ties with the interactions between people and companies.
• All these entities strive to maximize their benefit (welfare). The greatest benefit is strongly interconnected with reaching the economic optimum condition.
• A system that reaches the optimum is considered, in the neoclassical economics concept, to be efficient, fair and stable.
• The ideal condition is called the Pareto optimum. This exists in an economy when none of the involved entities can improve its position without worsening another entity’s position. If any of the entities intends to improve its position, it is possible for it to do so only to the detriment of another entity. The existence of perfect competition is a necessary requirement for reaching the optimum.
• The three above-mentioned elements (efficiency, stability and fairness) are connected with microeconomics from the viewpoint of efficiency, connected with macroeconomics from the viewpoint of stability, and connected with sciences outside economics from the viewpoint of fairness. The perception of fairness is investigated by other social sciences, and is closely linked to ethics, etc.
• If no conditions exist for reaching a market-efficient solution, or the conditions are simply violated for any reason, market failure will ensue.
• It consists of the following:
  • The allocation of resources is not efficient,
  • The economy in the area of macroeconomics indicators oscillates around the desired values and
  • The distribution of wealth and income may diverge from the consensus on fairness.
• It is then up to the state to perform its fiscal function (the public finance function) in those three areas in order to preferably eliminate or at least reduce market failure. Specifically, those are microeconomic failures from the allocation function perspective, macroeconomic failures from the stabilization function perspective, and the redistribution function then falls into the area of market failure caused by outside economies.
• If the conditions for perfect competition are not met, a malfunction in the price mechanism will arise, which disturbs the allocation mechanism. Some failures can be eliminated without public finance intervention through auto-regulation (the internalization of externalities). However, others are part of the government’s allocation function and its fiscal tools (taxes and governmental purchases or transfers).
• Macroeconomic failure is indicated by instability in the economic system that usually suffers from cyclical inflation, a high rate of unemployment, low or even negative growth of production or problems in the foreign trade balance, etc.
• The above-mentioned macroeconomic cases of instability are why governments perform the state stabilization functions (stabilization fiscal functions).
• The state uses several tools to perform the stabilization function. The basic classification is a division into monetary and fiscal tools. The monetary tools include open market operations, the setting of basic interest rates, determining the level of mandatory minimum reserves, etc. Fiscal tools may include public expenditure, public revenue and ways of funding deficits.
• The causes of market failure outside the economy relate to reaching fairness in society through the distribution of wealth and income. With the distribution of wealth, the market does not practically perceive fairness. In this case, the state performs a redistributive role with 5h3 principles of solidarity, social conscience, charity, etc. based on the social consensus.
• The state performs the redistribution function through two basic categories of tools. The first includes revenue (tax) and the other expenditures (transfers, grants and subsidies).
  • First, a tax transfer mechanism may be implemented through a combination of progressive taxation of high incomes and transfers (subsidies) in favour of low income households.
  • Secondly, this can occur through the taxation of luxury goods combined with subsidies on goods for the low-income population.

Fiscal Policy Meaning

• Arthur Smithies defines fiscal policy as “a policy under which the government uses its expenditure and revenue programmes to produce desirable effects and avoid undesirable effects on the national income, production and employment.”
• Though the ultimate aim of fiscal policy in the long-run stabilisation of the economy, yet it can be achieved by moderating short-run economic fluctuations.
• In this context, Otto Eckstein defines fiscal policy as “changes in taxes and expenditures which aim at short-run goals of full employment and price-level stability.

Objective of Foscal Policy

• To maintain and achieve full employment.
• To stabilise the price level.
• To stabilise the growth rate of the economy
• To maintain equilibrium in the balance of payments.
• To promote the economic development of underdeveloped countries

Some Fact about MP

• The Gross State Domestic Product (GSDP) of the State in 2015-16 at current prices was ` 5,65,053 crore, which increased by 16.62 per cent over the previous year.
• The Compound Annual Growth Rate (CAGR) of per capita GSDP of Madhya Pradesh (14.52 per cent) was higher than that of the General Category States (14.27 per cent) during 2006-07 to 2015-16.

Resources of the State as per Annual Finance Accounts

• Revenue and Capital are the two streams of receipts that constitute the resources of the State Government.
• Revenue Receipts consist of tax revenues, non-tax revenues, State’s share of Union Taxes and Duties and Grants-in-aid from the Government of India (GoI).
• Capital receipts comprise miscellaneous capital receipts such as proceeds from disinvestments, recoveries of loans and advances, debt receipts from internal sources (market loans, borrowings from financial institutions/commercial banks) and Loans and Advances from GoI as well as net accruals from Public Account.
• The Revenue, Capital and Public Account receipts (net) constituted 81 per cent, 16 per cent and three per cent respectively of the total receipts during 2015-16.
• The total receipts (including net Public Account receipts) of the State increased by 60 per cent during the period 2011-16. Revenue Receipts, Capital Receipts and net Public Account Receipts increased by 69 per cent, 27 per cent and 46 per cent respectively during the same period.
• Growth rate of the total receipts was 16 per cent in 2015-16 over the previous year.
• The relative share of Revenue Receipts in total receipts during the years 2011-12 to 2015-16 ranged between 77 per cent and 87 per cent while share of Capital Receipts in total receipts during the same period ranged between 11 per cent and 19 per cent.

Fiscal Responsibility and Budget Management (FRBM) ACT, 2005 of MP

• The State Government has enacted the Madhya Pradesh Rajkoshiya Uttardayitva Avam Budget Prabandhan Adhiniyam, 2005 (Fiscal Responsibility and Budget Management (FRBM) Act 2005) which came into force from 1 January 2006 to ensure prudence in fiscal management and fiscal stability by progressive elimination of revenue deficit, reduction in fiscal deficit, prudent debt management consistent with fiscal sustainability, greater transparency in fiscal operations of the Government and conduct of fiscal policy in a medium term framework and for matters connected therewith or incidental thereto.
• To give effect to the fiscal management objectives as laid down in the Act, and/or the rules framed (30 January 2006) thereunder the following fiscal targets were prescribed for the State Government:
• Reduce revenue deficit in each financial year so as to eliminate it by 31 March 2009 and generate revenue surplus thereafter;
• As per amendment to FRBM Act, 2005 in respect of fiscal deficit shall be, reduce fiscal deficit in each financial year so as to bring it down to not more than 3.50 per cent of GSDP by 31st March 2016 and maintain it thereafter, subject to the following conditions, namely;
  • Interest payment in the previous financial year is 10 per cent or less of the total revenue receipts; and
  • Total outstanding debt to GSDP ratio for the previous financial year is 25 per cent or less. if either of the conditions mentioned in sub-clause (i) or (ii) above is not met, reduce fiscal deficit in that financial year so as to bring it down to not more than 3.25 per cent of the GSDP for that year and if both the conditions mentioned in sub-clause (i) and (ii) above are not met, reduce the fiscal deficit so as to bring it down to not more than 3.00 per cent of the GSDP for that financial year.
• Limit the annual incremental guarantees so as to ensure that the guarantees do not exceed 80 per cent of the total revenue receipts in the year preceding the current year.

MP 2017-18 Budget Highlight Budget Highlights 

• The Gross State Domestic Product of Madhya Pradesh at current prices for 2017-18 is estimated to be Rs 7,35,246 crore. This is 13.9% higher than the revised estimate for 2016-17.
• Total expenditure for 2017-18 is estimated to be Rs 1,69,954 crore, an 8.5% increase over the revised estimate of 2016-17. The revised estimate for 2016-17 is Rs 2,083 crore lower than the budgeted target.
• Total receipts (excluding borrowings) for 2017-18 are estimated to be 11.4% higher, at Rs 1,45,111 crore. In 2016-17, they fell short of the budgeted target by Rs 4,111 crore.
• Revenue surplus for the next financial year is targeted at Rs 4,596 crore, or 0.63% of the Gross State Domestic Product (GSDP).
• Fiscal deficit is targeted at Rs 25,689 crore (3.49% of GSDP). The Fiscal Responsibility and Budget Management Act, 2005 mandates a fiscal deficit ceiling of 3.5% of GSDP.
• Primary deficit is targeted at Rs 14,148 crore (1.9% of GSDP).
• Rs 33,564 crore has been allocated for the Agriculture Budget in 2017-18. Rs 400 crore has been allocated to the Rashtriya Krishi Vikas Yojana, and Rs 305 crore has been allocated to the National Food Security Mission.
• Allocations to the departments of Urban Administration and Development, School Education and Rural Development increased by 22%, 10% and 7% respectively, over the revised estimates of 2016-17. However, allocation to the Department of Energy has decreased by 21%.