Government Budgeting and Theories of Budgeting

Government Budgeting

Concept and History of Budgeting

Governments undertake different social, economic and political activities and policy measures, which involve finance. The mechanism to manage financial resources for this can be termed as budgeting. Government budget is the nerve center of the public economy. The word budget has been derived from the French word ‘bougette' which literally means a leather bag containing financial proposals of

Debt Management

Debt Management: Concept

Debt management is concerned with the determination of the structural characteristics of public debt. They are the size, types, proportions, terms, maturities, ownership patterns of public debt and the methods of its redemption. Debt management should help to achieve the economic objectives and should not have adverse effects on the economy.

Debt management even being a part of fiscal policy, should be well coordinated with the monetary

Burden of Public Debt

The burden of public debt refers to the sacrifice imposed on the taxpayers with the increase in taxation to serve the debt, and the adverse effects on the economy as a whole (like reduction in capacity to consume, reduction in production of high quality goods and services by private sector, increase in price level, increase in inequality of income, inter-generation transfer of burden, outflow of national assets in case of foreign debt, etc.)

The burden is interpreted as financial or direct and real or indirect. Increase in tax level transfers some income of people to government, and the loss in income of people is the financial or direct

Sources of Public Debt

Governments may raise public debt from both the internal and external sources. The effects of public debt are determined also by the sources and its size. The sources of public debt are as follows.

A. Internal Sources

  1. Individuals and Private Organizations - Individuals and private organizations provide loans to government with the purchase of securities like bonds and treasury bills. They provide loans reducing consumption, diverting savings accounts and corporate securities, and out of the funds that would remain idle. This source of debt normally does not exert inflationary pressure, except that from the idle funds, as there will be just a transfer of purchasing power from public to the government and no more money supply.

Public Debt

Public Debt: Concept

The practice of raising public debt by the state to finance government expenditure started only since 19th. Century. But the royalties used to borrow on their personal goodwill even since ancient times. These days government borrowing has been almost a normal method of financing government expenditure.

J.L.Hansen, “Public debt is the debt owned by a government to people and institutions within its own borders and/or to foreign creditors.”
Philip E. Taylor, "Government debt arises out of borrowing by the treasury from banks, business organizations and individuals. The debt is in the form of promises by the treasury to pay back the holders of these promises a principal sum and interest on the principal."
Public debt is raised internally by floating the securities like bonds and treasury bills, and overdrafts

Public Expenditure

Concept of Public Expenditure

“Public expenditure refers to the expenses of the public authorities – central, state and local governments – either for protecting the citizens and/or for promoting their economic and social welfare.” - Sundharam and Andley.
“Public expenditure refers to the expenses which the government incurs for its own maintenance as also for the society and the economy as a whole. These days governments are also incurring expenditure to help other countries.” - Bhatia.
There are two schools of thoughts or attitudes in relation to the scope of public expenditure. The first is led by Adam Smith and other by classical writers restricted state activities to mainly the primary functions. Adam Smith has pointed out ‘the sovereign has only three duties: protecting the society from violence and invasion from other independent societies; establishing the exact administration of justice; and erecting and maintaining certain public works and certain public institutions.'
J.B.Say said, “The very best of all plans of finance is to spend little.” 
H.Parnell says, “Every particle beyond which necessity absolutely requires for the preservation of social order and for protection against foreign attack is waste and unjust oppressive imposition on the public.”
The second school of attitude after 1880’s did not restrict public expenditure only to the primary functions. Writers like Pigou, Dalton advocated public expenditure on social welfare activities. Similarly, after 1930’s depression, writers like Keynes advocated for state role to control economic fluctuations for maintaining economic stability in the developed countries. Prof. Musgrave advocated public expenditure for the activities such as: reallocation of resources, redistribution of national income and wealth, stabilization of economy, and some necessary commercial activities. 

Characteristics of an Effective Tax System

The basic objectives of taxation is to generate maximum potential revenue with desirable effects on the economy. For this, the tax system should be based on sound objectives and policies along with overall effective tax system. Due and Friedlander are of the view that a sound tax system should have the following characteristics:
  1. Equality in the distribution of the tax burden
  2. Productivity of the tax-system generating adequate revenue along with encouraging production in the economy
  3. Appreciation of the rights and problems of the taxpayers and
  4. Adaptability of the tax structure to meet the changing needs of the economy.

Principles of Taxation

Taxes will have significant effects upon the economic behavior of individuals and functioning of the economy as a whole. This fact must be well considered in designing and execution of the tax structure and policies in a way so that there will be positive or desirable effects, and avoid undesirable or adverse behaviors in achieving the economic goals of the society. And also, the burden of taxes must be distributed among the people in a manner consistent with these goals. The goals accepted for optimum level of economic welfare in a liberal society are:
  1. Maximum freedom of choice consistent with the freedom of others
  2. Optimum level of living standard in terms of available resources and technology in consistent with the consumer and factor owner’s preferences and
  3. Distribution of income in conformity with the standards of equity currently accepted by the society.
Principles of taxation refer to the appropriate criterion for designing and executing the tax structure and policies. Adam Smith was the first writer to prescribe the principles of taxation in the form of canons of taxation. Later writers added some more canons. The canons of taxation are basically accepted as the general guiding principles of over-all tax system. The four canons of taxation advocated by Adam Smith were:

1. Equity: The burden of taxes should be distributed among the people in an equitable way. “The subjects of every state ought to contribute towards the support of the governments nearly as possible in proportion to their respective abilities, that is in proportion to the revenue they enjoy under the protection of the state”.
2. Certainty: The amount, time and mode (procedure) of tax payment should be certain.
3. Convenience: The time and mode of tax payment should be convenient to the taxpayers.
4. Economy: The cost of collection of taxes should be minimized as far as possible.

Later other writers like Bastable added other canons beside that of Adam Smith. They are:

5. Productivity: The tax system should be able to yield enough revenue so that government may not be forced to resort deficit financing, and also promote productivity of the economy.

6. Flexibility: The tax structure needs to be revised as per the need of the economy and the treasury.
7. Simplicity: All provisions and terms related with tax system must be clear and simple so that even a common man can understand, and not have ambiguities.
8. Diversity: It is necessary to have a wide range of taxes to avoid the chances of possible ill-effects some taxes as well as to generate maximum potential revenue.

Besides these canons, principle of taxation is mainly concerned with the distribution of the burden of tax on people (taxpayers) in an equitable way as accepted by the consensus of the society. Equity in the tax system refers to horizontal and vertical equity. The horizontal equity refers to equal treatment to the equals. The vertical equity refers to relative or discriminatory treatment to the unequals, There are two principles of taxation to maintain equity in taxation. They are the Benefit-received and Ability-to- pay principles.