Governments, world over, are accepted and respected. Today we don’t spare time to think how Governments came into existence and who gave them the right to make rules and tax people. Infact today we accept the legitimacy of Government, so much so that we entrust it with lot of responsibilities and believe that it acts in the best interest of the people. After the 2008 economic depression, Governments have become stronger than ever. Governments now control finances and operations of many financial institutions. With the severe repercussion that people had to face in some of the liberalised economies, people are ready to willingly accept the domination and increased interference from Governments in exchange for stability.
While the knee jerk reaction of people who, suffered or are still suffer the fall out of the economic crisis is understandable, yet it is essential for all of us to understand that over sized Government, interfering in daily economic activities reduces our income level and leads to financial instability than the other way round. Lot of Keynesian economist would like to believe that the Government should spend their way out of any economic crisis, this sentiment also gets echoed in some of the Asian countries where there is a large reliance on Government for jobs and infrastructural development. However research conducted by economist in leading universities of the world and independent bodies don’t agree with this view point.
Let us examine. The sources of Government revenue are one of the following:
· Direct and Indirect Taxes [Custom duty | Excise Duty | Sales Tax | Service Tax| Income Tax etc,]
· Profits from Public Sector Units [PSU]
· Influencing Central Banks [ex: Federal Reserve in US] to print money
· Borrowings from International markets against Government Bonds
If the Government has to increase spending it has to fund that spending through revenue from one or a mix of the above available sources. Let us see the repercussion of using any of these instruments:
Taxes: If the Government funds it’s spending through increasing taxes, everyone earns lesser and have lower disposable income to spend. Private Sector companies might be encouraged to increase prices to meet their earning targets thus affected sales. The people are encouraged to report their income falsely so they could pay lesser tax and this leads to creation of black money.
Profits from PSU: There are very few PSU in the world that are making profit, the one that are making profit are not at par with the private sector with respect to infrastructure or technology. Tremendous investment is required to bring them up to the level where they could continue to compete with private players and remain profitable for long time. This is not possible if the Government eats into their profits to fund some project that doesn’t have direct influence on the PSU’s own business.
Printing Money: It is well established now that printing excess money than what an economy can handle leads to inflation as there is suddenly more money chasing same amount of Products and Services. Inflation reduces value or the net worth of our savings and strongly effects consumer sentiments and Institutional investors alike
Borrowings against Government Bonds: Borrowings for a short durations seem to be a good option, though excess borrowing increases the fiscal deficit (public debt). Higher public debt is sign of an unstable economy and is unsustainable for a long run. Research shows that increase in public debt has a negative influence on the GDP.
Though as a practice a combination of the above sources has often been used by majority of the Governments across the world to fund their expenditure. It has had limited success and created more problems than it managed to solve. The European crisis (Euro zone Crisis) is one such example where excess spending by Governments of member countries of the EU that, had the same currency, has led to severe instability. So the larger a role we want Government to play, the larger their employee base and larger the need to fund their human resources and functions, larger would be their reliance on using or misusing one or multiple of the above sources available at their disposal.
I would like to argue that, lesser the Government more would be the benefit to the ordinary man. Having said that, I am still am in favor of a minimal Government as a vigilante that keeps an eye on economic activity and the economic institutions to ensure stability to prevent unhealthy and speculative investment decisions. It should play a constructive role in making it attractive for private local and international players to invest in countries infrastructure. Governments could continue to play role in ensuring Literacy, minimum education level, minimum nutrition levels and facilitate it as much as possible thus playing a constructive role in ensuring roadblocks to do business are removed. Create level playing field to ensure fair competition, be the implementor of law. People have to feel empowered and given empowerment to use their entrepreneurial spirit to start businesses and be nurtured by favorable conditions to expand.