Public finance-II

Public finance-IIokWhen, about forty years ago, I was a student in the university, we used to be taught that any expenditure of the State in excess of current revenue was to be shown in the budget as a deficit and that budget deficits were injurious to the health of the economy and must be shunned as far as possible. According to this philosophy, tax revenue should be the only source of State expenditure barring that part of it which is covered by fees for specific services whose beneficiaries can be identified and prices of products of State undertakings, such as public utilities.

Now, in so far as State economy is treated as an independent entity, divorced from the general economy of the society, this would appear to be a sound philosophy. Living beyond means is surely bad economy, and when the practice is pursued by a body like the State which is privileged, thanks to its own laws regulating note issue, to get on with it with impunity, it may turn out to be dangerous economy. No wonder, therefore, that economists used to look with disfavour upon any tendency on the part of the State to continue with budget deficits for any length of time. Over a short period of depression there might be a fall of revenue and a deficit might occur, but such deficit must be covered, they would argue, by a surplus realized during the boom which would follow it. Long-term balancing of the budget used to be a generally accepted tenet of public financing. So public finance is important.

There were, however, two exceptions. First, sale of securities would be permitted in those cases where the expenditure was of a ‘productive’ character and where the net product of the capital employed would at least cover the interest on the corresponding loan. This again was a sound business proposition applied to State financing. Secondly and this sounds surprising even today when our thoughts have deviated so much from old orthodoxies a distinction would be drawn between ‘ordinary’ expenditure and ‘extraordinary’ expenditure (I almost hear my old professor’s accent on ‘ordinary’ and ‘extraordinary’!), and resort to loans would generally be conceded in the case of the latter. War expenditure, which of course is extraordinary, would thus be permitted to be covered by loans, usually with the reservation that new taxation should be imposed simultaneously to an extent which was at least sufficient to provide the interest on these loans. So public finance is important.

Now, the concept of public finance has shifted in recent years, following an enlargement of the concept of the responsibilities of the State. We have learnt to recognize State finance as an integral part of the general economy of the society. We now know that, where an economy suffers from chronic under-utilization of re sources, budget deficits are to be not merely tolerated but justified as means of filling in the utilization gap, whether or not the particular enterprise which the State takes up is by itself productive enough to pay for the interest on loans. In the context of economic development, too, similar deficits are generally sanctioned, in so far as the expansion of money resulting from them is not out of proportion with the growth of national output during a given period.

In our own country, for example, we have gone to the length of shedding the old concept of budget deficit altogether and reckoning only that part of our public expenditure as constituting deficit which is financed by the sale of treasury bills to the Reserve Bank. This extreme procedure may or may not be valid on strictly scientific grounds. But it does indicate the distance which we have traveled away from the old rules of public finance, not only in practice but also in theory. So public finance is important.
Yet even today, in spite of the liberalization of our ideas on deficit-financing, one would find it difficult to see how there could be any sanction, on economic grounds, for financing war (or, shall we say, defence) expenditure .by loans.

One must not miss the vital difference between public expenditure for economic development or for maintaining full employment, and public expenditure for building up army and defence equipment. One is productive; the other is not. One carries with it a process of expansion of output; the other does not have any such implication. And in so far as loans through sale of government securities tend, directly or indirectly, towards an expansion of money, they have little justification, on strictly economic grounds, in the context of war expenditure which does not add to the nation’s output in any tangible way. So public finance is important.

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