Government Budget and

Balance of Payments
MEP
2015 Finance A

Shamim S. Mondal

Govt. Budget

Shamim S. Mondal

Govt. Budget
Annual statement of revenue and
expenses
Receipts from
Taxes
Direct
Corporate taxes
Income Taxes
Wealth Taxes

Indirect Taxes
Sales/excise Taxes
Service Taxes
Customs duties
Shamim S. Mondal

Revenue from other sources

Interest receipts
Dividends and Profits
Capital Receipts from debt recoveries
Loans (borrowings)

Shamim S. Mondal

Expenses
Planned expenditure (comes from money
spent through Planning Commission of India)
Revenue Account
Capital Account (expenditure on infrastructure
building etc.)

Unplanned expenditure
Revenue Account (Interest payment, subsidies,
pensions, health/social services)
Capital Account (Defence, loans to public
enterprises)
Shamim S. Mondal

Budget Deficit
Fiscal Deficit = Revenues earned (net
of borrowings) expenses
Primary Deficit = Fiscal deficit
Interest earnings
Current deficit = Fiscal Deficit Govt.
Investment

Shamim S. Mondal

Tax Policy Reduce or increase

Taxes?
Laffer Curve: Arthur Laffer, an economist is
credited with the idea
If taxes are decreased, does it lead to increase in
tax revenue?
If output remains constant, then no.
If output increases, then depends on by how
much does output increase in response to tax
reduction. It then has a positive effect on tax
collection
Laffer posited that the output effect dominates,
and reduction of taxes increases tax collection
Shamim S. Mondal

Balance of Payments

Shamim S. Mondal

Indian EXPORT TRANSACTION

Exchange Rate: Assume Rs50 = $1
Rs. 3,000,000 in Indian garments purchased by
an American buyer for $60,000
$60,000 check drawn on American bank to pay for
garments
$60,000 check is exchanged for Rs.3,000,000 at a
New Delhi bank
New Delhi bank sends $60,000 check to American
bank for future sale to buyers who need dollars
Shamim S. Mondal

Indian IMPORT TRANSACTION

$60,000 in American car purchased by an
Indian buyer for Rs.3,000,000
$60,000 check purchased from Indian
bank to pay for car for Rs.3,000,000
$60,000 check is exchanged for car
purchase from supplier
Car manufacturing firm deposits $60,000
check to American bank
Shamim S. Mondal

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Exports and Imports Impact on

Foreign Currency
Indian exports create a foreign demand for
rupees which creates a supply of foreign
currencies which are available to Indian
buyers.
Financing an Indian export reduces the
supply of foreign currencies available and
increases the domestic money supply.

Shamim S. Mondal

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Balance of payments

Current Account
Balance on Goods &
Services
Balance on Current Account
Trade Deficits & Surpluses

Shamim S. Mondal

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Capital Account

Capital Account
Balance on Capital Account
Official Reserves
Balance of Payment
Deficits & Surpluses

Shamim S. Mondal

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Market for Foreign Exchange

Rupee price of one dollar

75
Rupee
depreciates
50
Rupee
appreciates
25

Quantity
Dollars
Shamim S.of
Mondal

Q
14

Exchange rate Regimes

Fixed Exchange Rate
Here, the Govt. intervenes in the market
to maintain a fixed exchange rate
relative to the foreign currency (usually,
USD)
Was prevalent earlier
Comes on the way of independent
conduct of monetary policy

Shamim S. Mondal

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Flexible Exchange Rate

Flexible Exchange Rate
Here, the Govt. does not intervenes in
the forex market
The exchange rate that occurs is the
interplay of supply and demand for
currencies
This is what India follows today, but not
completely
Called a managed, or dirty float
Shamim S. Mondal

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Purchasing Power Parity

Real Exchange Rate: The ratio of
foreign to domestic prices measured
in the same currency
R = ePf/P
E = exchange rate
Pf - Foreign prices
P Domestic Prices
Shamim S. Mondal

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