Finance

What is deficit finance

What is deficit finance

Deficit occurs when the total expenditure is more than total revenue. What is Deficit finance, the best answer for it that it is the debt instrument adopted to finance the excess government expenditure with other sources outside the government revenue. This expenditure revenue is usually financed by either printing or issuing bonds to investors that is borrowing from other source.

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The deficit finance is mostly practices by developing and developed that are having budget deficit. Deficit finance is mostly or usually indicated by fiscal deficit. Budget deficit can be indicated by subtracting total expenditure from the total revenue of the government while fiscal deficit is indicated by subtracting the total expenditure from the total revenue except the bond issued.

Causes of deficit finance

What is deficit finance is already cleared in above lines but it occurs due to some reasons in the economy and some of the reasons are stated below

what is deficit finance

  • Undeveloped capital market often put the government in debt to foreign investors.
  • It is also caused by careless spending of the government and their inefficiency.
  • It can be caused by tax evasion which is reflecting in the government revenue
  • It can also be caused by intentional act of the government to reduce tax rate in other to stimulate the economy.
  • It might also be as a result of war. The war cost always make the government expenditure to be higher than its revenue thereby causing the government to finance the deficit
  • Deficit finance may occur for the purpose of aiming at higher economic growth and also for development purpose
  • Government that do not use tax as operation to generate revenue tends and certainly would have to use deficit finance to sustain the country.
  • Higher investment of the country which should be a source of generating revenue for the country is reduced due to the low savings and the cost of living of the people. When there is lower investment and lower income generation for the country, the country runs into deficit finance to get the country affairs running.

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Essentially of deficit finance

What is Deficit finance and it is essential in some cases and has helped the country to survive. Some of the essentially are stated here;

  • For the purpose of getting the country out of depression for the purpose of getting investment higher and increases income
  • To finance war. During, deficit finance helps the government to finance the defence expenditure
  • Savings made through deficit finance can be used to raise capital formation
  • To raise funds and capital to finance the government plan expenditure. The government
  • Deficit financing aim at diverting the resources used in running the unproductive sector of the government to the productive one

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The effect on the economy

  • Deficit finance causes inflation in the country. This is due to the reason of the government trying to cover the gap between the government expenditure and revenue by minting money and consequently, there is high influx of money in circulation which causes inflation. Underdeveloped countries which are usually inflation sensitive gets into danger of inflation when there is deficit financing in the financing of the government revenue. Inflation as a result of deficit finance causes the low income earners to continue suffering while the producers and other corporations continue to flourish as they keep on producing for the masses to buy at higher cost making the low income earners spend more on the products produced.
  • What is Deficit finance and it increase the gap of income inequality by creating high purchasing power in the country.
  • It causes low employment creation making it difficult for the people to get employment opportunity
  • As much as deficit finance increases investment in the country, it disrupts the investment pattern in a way that the investors will invest higher since there is high inflow of money because they know that there would be high profit yielding rate.
  • It can pit the government in debt. Since deficit finance can either be through minting of money or borrowing money to help use to take care of the government excess expenditure, if at the end of the government borrowing money from outside sources or from foreign investors which in this case can be referred to as creditor but could not get the money borrowed paid back or if the investment the money borrowed to finance did not yield any interest, it put the government in a state of been indebted and this might make the country to sell it shares which is very rare to the investors to cover up the bond been issued in this case the bond is called convertible coupon.
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Harish Yadav

Finance and market analyst and chief writer on howtofinance. Passionate to read books and articles on marketing and accounting. Also edits other articles and publish them here.

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