Why the actual budget deficit is not a good indicator of the fiscal Essay

Why the actual budget deficit is not a good indicator of the fiscal stance and suggest any other better alternatives - Essay Example The budget deficit must therefore be subjected to an intense analysis and scrutiny. Unless it is cautiously interpreted, the budget as is conventionally defined deficit can give rise to misleading conclusions regarding fiscal policy stance. Such conclusions may result in erroneous policy prescriptions that cause more harm than good to the economy (Abedian and Biggs 1998). For many years policy makers placed a lot of emphasis on limiting government’s role in the economy and lowering the budget deficit (Easterly and Schmidt-Hebbel 2004). The two were regarded as policy goals necessary to achieve equity, growth and redistribution of resources. The big question as to whether the conventional budget balance is the correct indicator of the fiscal stance however remains. It should be noted that there are several other fiscal indicators were proposed as alternatives to the conventional budget balance. These indicators are already in use successfully by international organizations such as the OECD and the IMF (Abedian and Biggs 1998). This study will aim to explore the possibility of using alternative fiscal indicators in monitoring and evaluating the sustainability of fiscal policies. A critical analysis of the actual budget balance indicates that it is not the ideal measurement instrument with regard to ascertaining the fiscal stance of a country. The term budget deficit also referred to as budget balance appears regularly in news articles, policy documents by the government that usually warn of it being very undesirable (Eisner 1999). ... The term budget deficit also referred to as budget balance appears regularly in news articles, policy documents by the government that usually warn of it being very undesirable (Eisner 1999). The budget deficit is usually blamed for several economic ills, such as high levels of inflation and discouragement of private investment (Eisner 1999). There is rarely any concrete proof produced for all these guilty assumptions. To add on to this, concerned parties pay very little attention to the objective measurement and interpretation of the budget deficit. The method of measurement of the budget balances also raises several conceptual and practical issues, which are compounded by the absence of uniformity in usage among many countries. For instance, one way of measuring the conventional budget balance is by cash basis. Another person may use the accrual/ payment order basis (Agenor and Montiel 1999). In the first instance, the balance will be the difference between fiscal revenue and total cash flow expenditure. For the second case, the balance will reflect accrued income and spending flows, regardless of whether they involve cash payments or not. The accumulation of arrears on revenue or payments is reflected by a higher balance when measured using the accrual basis as compared to the cash-based approach (Agenor and Montiel 1999). Definitions By definition, actual budget deficit is the difference between government revenues and government expenditure. Structural budget deficit is an estimation of what the government’s budget would be at full level of employment in the economy (Abedian and Biggs 1998). The cyclical budget deficit is defined as the component of