Chapter-1: Introduction

Narrow and Broad Money

RBI publishes figures for four alternative measures of money supply, viz. M1, M2, M3 and M4. They are defined as follows

M1 = CU + DD

M2 = M1 + Savings deposits with Post Office savings banks

M3 = M1 + Net time deposits of commercial banks

M4 = M3 + Total deposits with Post Office savings organisations (excluding National Savings Certificates)

• Where, CU is currency (notes plus coins) held by the public and DD is net demand deposits held by commercial banks.
• M1 and M2 are known as narrow money. M3 and M4 are known as broad money.
• These measures are in decreasing order of liquidity.
• M1 is most liquid and easiest for transactions whereas M4 is least liquid of all.
• M3 is the most commonly used measure of money supply. It is also known as aggregate monetary resources.

Demonetisation

• Demonetisation was a new initiative taken by the Government of India in November 2016 to tackle the problem of corruption, black money, terrorism and circulation of fake currency in the economy.
• Old currency notes of Rs 500, and Rs 1000 were no longer legal tender.
• New currency notes in the denomination of Rs 500 and Rs 2000 were launched.

Positive impact

• Improved tax compliance
• Banks have more resources at their disposal which can be used to provide more loans at lower interest rates.
• Help tax administration in another way, by shifting transactions out of the cash economy into the formal payment system.
• Households and firms have begun to shift from cash to electronic payment technologies.

Chapter- 4: Determination of Income and Employment

Investment

Investment is defined as addition to the stock of physical capital (such as machines, buildings, roads etc., i.e. anything that adds to the future productive capacity of the economy) and changes in the inventory (or the stock of finished goods) of a producer.

Paradox of Thrift

• If all the people of the economy increase the proportion of income they save (i.e. if the mps of the economy increases) the total value of savings in the economy will not increase – it will either decline or remain unchanged.
• This result is known as the Paradox of Thrift – which states that as people become more thrifty they end up saving less or same as before.
• This result, though sounds apparently impossible, is actually a simple application of the model we have learnt.

Chapter- 5: Government Budget and the Economy

Balanced, Surplus, and Deficit Budget

Measures of Government Deficit

Revenue Deficit

• The revenue deficit refers to the excess of government’s revenue expenditure over revenue receipts
• Revenue deficit = Revenue expenditure – Revenue receipts

Fiscal Deficit

• Fiscal deficit is the difference between the government’s total expenditure and its total receipts excluding borrowing
• Gross fiscal deficit = Total expenditure – (Revenue receipts + Non-debt creating capital receipts)

or

• Gross fiscal deficit = Net borrowing at home + Borrowing from RBI + Borrowing from abroad
• Fiscal Deficit = Revenue Deficit + Capital Expenditure - non-debt creating capital receipts
• Gross primary deficit = Gross fiscal deficit – Net interest liabilities

Debt

• Budgetary deficits must be financed by taxation, borrowing or printing money.
• Governments have mostly relied on borrowing, giving rise to what is called government debt.
• The concepts of deficits and debt are closely related.
• Deficits can be thought of as a flow which adds to the stock of debt.
• If the government continues to borrow year after year, it leads to the accumulation of debt and the government has to pay more and more

Fiscal Responsibility and Budget Management Act, 2003 (FRBMA)

• The enactment of the FRBMA, in August 2003, marked a turning point in fiscal reforms, binding the government through an institutional framework to pursue a prudent fiscal policy.
• The central government must ensure intergenerational equity and long-term macro-economic stability by achieving sufficient revenue surplus, removing fiscal obstacles to monetary policy and effective debt management by limiting deficits and borrowing.

The rules under the Act were notified with effect from July, 2004.

Main Features

1. The Act mandates the central government to take appropriate measures to reduce fiscal deficit to not more than 3 percent of GDP and to eliminate the revenue deficit by March 31, 20098 and thereafter build up adequate revenue surplus.
2. It requires the reduction in fiscal deficit by 0.3 per cent of GDP each year and the revenue deficit by 0.5 per cent. If this is not achieved through tax revenues, the necessary adjustment has to come from a reduction in expenditure.
3. The actual deficits may exceed the targets specified only on grounds of national security or natural calamity or such other exceptional grounds as the central government may specify.
4. The central government shall not borrow from the Reserve Bank of India except by way of advances to meet temporary excess of cash disbursements over cash receipts.
5. The Reserve Bank of India must not subscribe to the primary issues of central government securities from the year 2006-07.
6. Measures to be taken to ensure greater transparency in fiscal operations.
7. The central government to lay before both Houses of Parliament three statements – Medium-term Fiscal Policy Statement, The Fiscal Policy Strategy Statement, The Macroeconomic Framework Statement along with the Annual Financial Statement.
8. Quarterly review of the trends in receipts and expenditure in relation to the budget be placed before both Houses of Parliament.

GST: One Nation, One Tax, One Market

• Single comprehensive indirect tax, operational from 1 July 2017, on supply of goods and services, right from the manufacturer/ service provider to the consumer.
• It is a destination based consumption tax with facility of Input Tax Credit in the supply chain.
• It has amalgamated a large number of Central and State taxes and cesses.
• As there have been a number of intermediate goods/services, which were manufactured/provided in the economy, the pre GST tax regime imposed taxes not on the value added at each stage but on the total value of the commodity/service with minimal facility of utilisation of Input Tax Credit (ITC).
• The total value included taxes paid on intermediate goods/services.
• This amounted to cascading of tax. Under GST, the tax is discharged at every stage of supply and the credit of tax paid at the previous stage is available for set off at the next stage of supply of goods and/or services.
• In view of our large and fast growing economy, it addresses to establish parity in taxation across the country, and extend principles of ‘value- added taxation’ to all goods and services.
• It has replaced various types of taxes/cesses, levied by the Central and State/UT Governments.
• Some of the major taxes that were levied by Centre were Central Excise Duty, Service Tax, Central Sales Tax, Cesses like KKC and SBC.
• The major State taxes were VAT/Sales Tax, Entry Tax, Luxury Tax, Octroi, Entertainment Tax, Taxes on Advertisements, Taxes on Lottery /Betting/ Gambling, State Cesses on goods etc. These have been subsumed in GST.
• Five petroleum products have been kept out of GST for the time being but with passage of time, they will get subsumed in GST.
• State Governments will continue to levy VAT on alcoholic liquor for human consumption.
• Tobacco and tobacco products will attract both GST and Central Excise Duty.
• Under GST, there are 6 (six) standard rates applied i.e. 0%, 3%,5%, 12%,18% and 28% on supply of all goods and/or services across the country.
• GST is the biggest tax reform in the country since independence and was rolled out on the mid-night of 30 June/1 July, 2017 during a special midnight session of the Parliament.
• The 101th Constitution Amendment Act received assent of the President of India on 8 September, 2016. The amendment introduced Article 246A in the Constitution cross empowering Parliament and Legislatures of States to make laws with reference to Goods and Service Tax imposed by the Union and the States.
• Thereafter CGST Act, UTGST Act and SGST Acts were enacted for GST.
• It will also result into higher economic growth as GDP is expected to rise by about 2%.

Advantages

• Expanded the tax base
• Introduced higher transparency in the taxation system,
• Reduced human interface between Taxpayer and Government

Chapter- 6: Open Economy Macroeconomics

Foreign Exchange Rate

Foreign Exchange Rate (also called Forex Rate) is the price of one currency in terms of another.

Demand for Foreign Exchange

• People demand foreign exchange because: they want to purchase goods and services from other countries; they want to send gifts abroad; and, they want to purchase financial assets of a certain country.
• A rise in price of foreign exchange will increase the cost (in terms of rupees) of purchasing a foreign good.
• This reduces demand for imports and hence demand for foreign exchange also decreases, other things remaining constant.

Supply of Foreign Exchange

• Foreign currency flows into the home country due to the following reasons: exports by a country lead to the purchase of its domestic goods and services by the foreigners; foreigners send gifts or make transfers; and, the assets of a home country are bought by the foreigners.
• A rise in price of foreign exchange will reduce the foreigner’s cost (in terms of USD) while purchasing products from India, other things remaining constant.

Depreciation

• Increase in exchange rate implies that the price of foreign currency (dollar) in terms of domestic currency (rupees) has increased.
• This is called Depreciation of domestic currency (rupees) in terms of foreign currency (dollars).

Appreciation

• When the price of domestic currency (rupees) in terms of foreign currency (dollars) increases, it is called Appreciation of the domestic currency (rupees) in terms of foreign currency (dollars).

Income and the Exchange Rate

• When income increases, consumer spending increases.
• Spending on imported goods is also likely to increase.
• When imports increase, the demand curve for foreign exchange shifts to the right.
• There is a depreciation of the domestic currency.
• On balance, the domestic currency may or may not depreciate.

Devaluation-

• In a fixed exchange rate system, when some government action increases the exchange rate (thereby, making domestic currency cheaper) is called Devaluation.

Revaluation-

• When the Government decreases the exchange rate (thereby, making domestic currency costlier) in a fixed exchange rate system.

The Bretton Woods System

• The Bretton Woods Conference held in 1944 set up the International Monetary Fund (IMF) and the World Bank and re-established a system of fixed exchange rates.
• A two-tier system of convertibility was established at the centre of which was the dollar.
• 1967- IMF- gold was displaced by creating the Special Drawing Rights (SDRs), also known as ‘paper gold’

International Monetary Fund (IMF)

• It was established at the conference of 44 nations held at Bretton Woods, New Hampshire, USA, in July 1944.
• IMF was officially created in 1945 with 29 member countries.
• It was established to prevent unstable exchange rates and competitive devaluation among economies.
• Headquarters of IMF - Washington DC

Aims of IMF

• IMF promotes international monetary cooperation
• It helps in expansion and balanced growth of international trade 
• It promotes exchange stability
• It helps to remove deficiency in Balance of Payments

Functions of IMF

• IMF set standards for global economy and monitors financial communications between countries.
• It helps its member countries by lending money to make their economies and financial structure stable.
• It assists the member countries to develop sustainable financial policies.
• It provides economic advice to countries to maximise their financial effectiveness.
• It helps developing countries to stabilise and sustain themselves in global economy

World Bank

• World Bank was formed on July 1944 at the Bretton Woods Conference. 
• Headquarter of World Bank is located at Washington D.C. (U.S.A.)
• The main purpose of the World Bank is ''Reduction of Poverty''.
• World Bank is comprises of two institutions - International Bank for Reconstruction and Development (IBRD) and the International Development Association (IDA).
• World Bank is member of the United Nations Development Group as well as World Bank Group.
• World Bank Group includes - International Bank for Reconstruction and Development (IBRD), International Development Association, International Finance Corporation, Multilateral Investment Guarantee Agency, International Center for Settlement of Investment Disputes.
• The president of the World Bank comes from the largest shareholder. Members are represented by a Board of Governors.