Components of the Government Budget

The budget of the Government has two components namely A) Revenue Account and B) Capital Account.

A)   Revenue Account comprises I. Revenue receipts and II.  Revenue expenditure.

I.                    Revenue receipts refer to the revenue earned by the government from

1.   Tax and 2.  Non-tax sources.

In India, the sources of tax revenues comprises of

a)    Income tax,

b)    Corporation tax

c)     Customs duties

d)   Central excise duty

e)    Wealth tax

f)      Service tax etc.

  2.  The non-tax revenue comprises of

a)    Interest earned by the government on loans and advances to the local governments

b)    Dividend and profits of public sector

c)     Income from currency and mint

d)   Fees, fines and penalties.

e)    Grants-in-aid from foreign countries and international organizations.

II.                 Revenue Expenditure is incurred by the government out of its current revenue receipts.  It is classified into

1.      Plan revenue expenditure and

2.     Non-plan revenue expenditure.

1.      Plan expenditure refers to the expenditure incurred on

a) Implementation of economic plans.

b) The government provisions to assist the plans of local governments etc.

2.  Non-plan revenue expenditure relates to expenditure incurred on

a)  Defence services

b)  Law and order

c)  Interest payments

d) Subsidies, salaries, pensions

e)  Tax collection, administration etc.

B. Capital Account:  Capital account includes I) Capital receipts and II) capital expenditure of the Government.

I)  Capital receipts includes the following

a)  Raising loans from the market, central bank, foreign governments and international institutions.

b)  Loans from public by issuing bonds, unit certificates etc.

c)  Recoveries of loans granted to local governments,

d)  Small savings, Public provident fund

e)  Receipts obtained from disinvestment of public sector undertakings etc.

II)  Capital Expenditure:  Capital expenditure refers to the expenditure incurred on the acquisition of assets.  It includes

 1.   Plan capital expenditure.

 2.  Non-plan capital expenditure.

1.  Plan capital expenditure relates to expenditure incurred for creating permanent revenue yielding assets.  It includes

a)  Developmental expenditure on economic and social services such as Agriculture, Industries, transport, communication, power , science and technology etc.

b)  Investment on shares, loans and advances

c)  Education, Public health, Housing, welfare programmes etc.

2.)  Non –Plan capital expenditure relates to expenditure on

a)  Compensation, rehabilitation facilities during natural calamities.

c)  Repayment of loans.

Functions of Money

G. Crowther defines money as “Anything that is generally acceptable as a means of exchange and at the same time acts as measure and as a store of value”.

The functions of money have been summed up in the following couplet:

“Money is a matter of functions four;

A Medium, a measure, a standard and a store”

The various functions of money can be classified into four categories:

I.  Primary functions.  II. Secondary functions.  III. Contingent functions IV.  Other functions.

I.  The primary functions of money are:

1.  Medium of exchange:  Money is a medium of exchange, a medium through which goods and services are bought and sold.

2.  Measure of Value:  Money also measures and expresses the value of goods and services.  For ex: When a mobile phone is purchased for Rs 10000, the value of the mobile phone is Rs. 10000.

II. Secondary functions:  are those functions which are derived from the primary functions of Money.  They are:

1.  Standard of Deferred Payments: Money acts Standard of Deferred payments.  That is the payments that are to the made at a future date.  It facilitates expression of credit transactions and has contributed to the growth of banks and other financial institutions.

2.  Store of Value:  Since money measures the value of goods and services money also acts as a store of value.  People can save a part of their incomes for their future use.  For Ex: When a person has saved Rs 10,000 in a year, it means he can purchase Rs 10000 worth of goods and services.

3.  Transfer of value:  Money helps to transfer value from one place to other.  A person can dispose his property in Bangalore and with that money can purchase property in Mysore.  Thus money helps to transfer value from one place to another.

III. Contingent functions:  The following are the various contingent functions of money.

1. Reward for the four factors of production in the form of rent, wages, interest and profit are distributed in terms of money.

2.  The modern credit system is based on money.

3.  Money maximizes the satisfaction of consumers and producers.

4.  Liquidity is given by money to different forms of wealth.

IV. Other functions: include the following.

1. Since money acts as a store of value it helps consumers to meet their daily needs.

2.  Money gives generalized purchasing power to consumers.

3.  Money helps to determine solvency of a person.

Functions of Commercial Banks

Banks which finance trade and commerce are called Commercial banks.

Modern commercial banks perform mainly two types of functions.

I.        Primary functions

II.     Secondary functions.

I.                   Primary functions:

a)     Accepting deposits is the most important function of commercial banks.  They accept the following types of deposits from the public.

1.      Current account deposits:  These deposits are maintained by businessmen and deposits are payable on demand.  Money can be withdrawn any number of times by the depositors and no interest is paid on these deposits.

2.     Savings Account Deposits:  People with low income, salary earners etc, open these accounts. Certain restrictions are imposed regarding the number of withdrawals.  Rate of interest paid is low.

3.     Fixed Deposits:  refer to deposits made for a fixed period of time normally between 46days to 5years. The rate of interest is higher compared to savings bank deposits and the longer the period, the higher is the rate of interest.  These deposits are also called time deposits.

4.     Recurring Deposits:  refer to a specified sum of money deposited every month for a period of one year or more.  On maturity, the total amount accumulated is paid to the depositor along with interest, which is nearly the same as on fixed deposits.

b)     Advancing loans:  After keeping certain portions of cash reserves, banks lend remaining portion of deposits to the borrowers through the following ways.

1.      Overdraft:  It is a facility provided by a bank to its customers to overdraw their accounts up to a certain limit.  Interest is charged on the amount actually overdrawn by the customer.

2.     Cash Credit:  It is a type of loan given to the borrower against eligible securities.   The bank opens the account in the name of the borrower and allows him to withdraw the money from time to time up to a certain limit.  Interest is charged only on the amount actually withdrawn from the account.

3.     Loans:  It is a financial arrangement through which the bank provides credit to a borrower against collateral security.  The bank opens a separate account called loan account in the name of the borrower and the interest is charged on the entire amount sanctioned by the bank.

4.     Discounting of bills of exchange:  refers to encashing the bills of exchange from the banks by the customer before the date of maturity.  The bank deducts a certain amount (interest) from the face value of the bill and pays the balance to the person discounting the bill.

II.                Secondary functions:  The secondary functions of the commercial banks are classified into

a)    Agency services.

b)    General Utility Services.

a)   Agency services:  Commercial banks perform the following agency services for and on behalf of their customer.  They are

1.      Banks helps their customers in transferring funds from one place to another through drafts, cheques etc.

2.     Banks collect and pay various credit instruments like cheques, bills of exchange etc.

3.     Banks undertake buying and selling of various securities like shares, bonds etc

4.     They collect dividends on shares, interest on bonds on behalf of customers.

5.     They help their customers by making payments of their electricity bills etc.

6.     They preserve the Wills of their customers and execute them after their death.

7.     They provide advice on income tax matters to their customers.

b)   General Utility services:  Banks provide the following general utility services.

1.      They provide Locker facility to the customers to keep their valuables.

2.      They Issue travelers cheques to carry money safely while traveling within a country or abroad.

3.     They issue Letters of credit to their customers regarding their creditworthiness.

4.     They perform Underwriting of securities.

5.      They provide ATM, credit card and debit card facility.

Functions of RBI

The RBI was established on Ist April 1935 as a private share holders bank as per RBI act of 1934 and it was Nationalised on Ist January 1949.

     The RBI is managed and controlled by a central board of Directors with 20 members and the head office is located at Mumbai.

The functions of the RBI may be classified as follows:

A)  Traditional functions:

1.    Monopoly of Note Issue:  The RBI has the sole right to issue currency notes of denominations of Rs 10, 20, 50,100,500 and Rs 1000 under the minimum reserve system.

2.  Banker, agent and Advisor to the Government:  The RBI receives deposits and makes payment to the government and on behalf of the government.  It transfers government funds and manages public debt.

It represents the government in International institutions like IMF and World Bank and advices the government on important economic matters.

3.  Bankers Bank:  All the commercial Banks are regulated by the RBI with regard to Licensing, branch expansion, liquidity of assets etc.  Every commercial bank has to maintain certain portion of its total deposits in the form of cash reserves with the RBI.

4.     Lender of Last Resort:  When commercial banks are unable to get financial assistance from any other source, the RBI lends money by rediscounting the bills of exchange or against government securities.

5.  Clearing house:  As the RBI keeps the cash reserves of all commercial banks, it is easy for commercial banks to settle each other’s debts through the RBI without using cash.

6.     Leader of Money Market:  The RBI is the leader of money market in India and it controls the activities of commercial banks, financial institutions etc.

7.     Controller of Credit:  To control price level and to direct the flow of credit to essential activities, the RBI uses Bank rate policy, open market operation, variable reserve ratio and selective credit control methods.

8.     Custodian of Foreign exchange reserves:  The RBI maintains reserves in the form of Gold, silver and foreign exchange to back the issue of currency notes and to meet international payments.  It maintains the exchange rates and enforces exchange control and restrictions imposed by the government.

B. Developmental functions: The RBI performs the following     developmental functions.

1. Agricultural Finance:  The RBI has been providing advice and financial assistance to the co-operative credit institutions for the development of agriculture.

2.    Industrial Finance:  The RBI provides credit facilities to both small scale and large scale industries through SFC, IFCI, etc.

C. Other functions:

 1. Research Functions: The RBI collects and publishes information relating to agriculture, industries, finance etc to help the government formulate and implement its economic and monetary policies.  It also issues special bulletins, journals and research papers.

 2. Special functions:  The RBI conducts special debates and seminars, provides training facilities to bank staff, suggests remedies to solve poverty, inflation etc.

NATIONAL INCOME

National income refers to the sum total of all the final goods and services produced in a country and net income from abroad in a year.

National income may be expressed in the following ways.

1.      Gross Domestic Product:  GDP is the total money value of all final goods and services produced within the country by the nationals of the country and by the foreigners staying in the country during a year.

Thus GDP = C +I +G +net X

Where, C= the value of consumer goods produced.

             I= the value of producer goods produced.

            G= Total Government expenditure on goods and services.

        Net X =Net exports where the value of exports is higher than the value of     imports.

2.      Net Domestic Product:  In production process, after some time capital assets need repairs and replacement.  Hence a part of the capital is set aside in the form of depreciation cost.  Net Domestic Product is the total money value of all final goods and services produced within the country less depreciation. 

NDP= C+I+G+ net X- DC or

NDP=GDP- Depreciation Cost.

3.      Gross National Product(GNP):  Gross National Product is the total money value of all final goods and services produced in a nation during a year plus income earned by its non-residents minus income earned by foreigners staying in that country.

Thus GNP = C+I+G+(X-M) +(R-P)

(R-P) is the difference between income received from abroad(R) and income paid to foreigners (P).

4.      Net National Product (NNP):  Net national Product refers to the total value of the goods and services produced in a country during a year minus depreciation cost.

NNP= C+I+G+(X-M) +(R-P)-DC

 National Income at Factor Cost:  The above equation gives us NNP at market prices.  But Market prices include indirect taxes which are paid to the government and subsidies which are paid by the government.  So to know the NNP at factor cost, we have to deduct indirect taxes and add subsidies.

NNP at factor cost= NNP at market prices-(Indirect taxes +subsidies).

5.     Personal Income (PI):  The national income of a country is distributed among the people of a country in the form of factor income.  Therefore, personal income is that part of national income of a country which is received by people or households.

PI= National income at factor cost –Undistributed corporate profits- Corporate income taxes- social security contributions( like insurance , provident fund etc.)+ transfer payments (old age pension, widow pension etc).

6.     Personal Disposable Income (PDI):  The entire personal Income which can be spent after paying direct taxes to the government is called Personal Disposable Income.

PDI =PI-Personal Taxes.

Disposable Income can either spent entirely or a part of the income can be saved; So, DPI= Consumption expenditure + Savings.

7.     Per capita Income:  Per Capita income is the average income of the people of a country.  It is the average income per head of population of a country. 

Per capita Income = National Income of a Country

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                                  Total Population