Lecture by S. Maitra on IAS Indian Economy at Civil Services Study Centre

Subir MaitraAssociate Professor and ex-

WBCS(Executive)

Important Concepts of Economics

Civ i l Serv ices Study Centre (CSSC)A d m i n i s t r a t i v e T r a i n i n g I n s t i t u t e

G o v e r n m e n t o f W e s t B e n g a lS a l t l a k e , K o l k a t a - 7 0 0 1 0 6

Macroeconomics

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Aggregate demand shock: Shocks such as change in government expenditure or change in money supply that cause a change in aggregate demand in an economy.

Aggregate supply shock: Shocks such as increase in petroleum price, a drought etc. that lead to a change in aggregate supply in an economy.

Depreciation: The reduction in value of asset through wear and tear. Also, fall in the value of a currency in terms of another currency.

Rational expectations: Expectations about the future making best use of available information.

Efficiency wage: Modern-sector urban employers sometimes pay a higher wage than the equilibrium wage rate in order to attract a higher-quality work-force or to obtain higher productivity on the job.

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Macroeconomics


Keynesian model: Model developed by Lord John Maynard Keynes in the early 1930s to explain the cause of economic depression and hence the unemployment of that period. The model states that unemployment is caused by insufficient aggregate demand and can be eliminated by increasing government expenditure. Increase in aggregate demand would lead to increase in production and hence create further employment.

Laissez-faire: Free-enterprise market economy without any government intervention.

Macroeconomic instability: When an economy is passing through a phase with high inflation accompanied by rising budget and trade deficits and a rapidly expanding money supply.

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Macroeconomics


Macroeconomic stabilization: Policies designed to eliminate macroeconomic instability.

Pro-cyclical fiscal policy: Changes in government spending and taxes that increase the cyclical fluctuations in the economy instead of reducing them.

Natural rate of unemployment The average rate of unemployment around which the economy fluctuates. The natural rate is the rate of unemployment toward which the economy gravitates in the long run, given all the labor-market imperfections that impede workers from instantly finding jobs.

Recession: A recession is a decline in a country's gross domestic product growth for two or more consecutive quarters of a year.

Sacrifice Ratio: The sacrifice ratio, is the percentage of a year’s real GDP that must be forgone to reduce inflation by 1 percentage point. A typical estimate is about 5: for every percentage point that inflation is to fall, 5 percent of one year’s GDP must be sacrificed.

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Macroeconomics


• Gross domestic product (GDP): The sum of values of all final goods and services produced

within the geographical limit of a country.

• Gross National Product (GNP): The sum of values of all final goods and services produced by the citizens of a country within the country

and the rest of the world.

Gross National Product (GNP) = Gross Domestic Product (GDP) + Net Factor Income from

Abroad (NFIA)

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Macroeconomics


• Gross domestic product at market price (GDPMP): While deriving GDP of a country we estimate value added at the market prices. The estimate of GDP obtained this way is known as GDP at market price.

• Gross national product at factor cost (GNPFC): Market prices normally include indirect taxes net of subsidies. Gross national product at factor cost {GNPFC) is simply, Gross national product at market price (GNPMP) minus net indirect taxes (Net IT), i.e.

GNPFC = GNPMP – Net IT

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Macroeconomics


• Net National Product (NNP): Net National Product (NNP) is simply obtained as gross national product (GNP) minus depreciation (D) i.e.

Net National Product (NNP) = Gross National Product (NDP) -- Total Depreciation (D).

• Fixed capitals have their own life-time and depreciates in value every period of time after their participation in the productive process. Depreciation of fixed capital takes place because of their normal ‘wear and tear’.

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Macroeconomics


• Gross national product at factor cost (GNPFC) : Gross national product at factor cost {GNPFC) is simply, Gross national product at market price (GNPMP) minus net indirect taxes (Net IT), i.e.

GNPFC = GNPMP – Net IT

• National income (NI): Net national product at factor cost is equivalent to the notion of national income {NI), which the accrual of income to all normal residents in a country due to their participation in production anywhere in the world. Therefore,

National Income(NI) = NNPFC 09/02/201411

Macroeconomics


• Gross domestic product at factor cost at current prices: Gross domestic product at factor cost (GDPFC) when measured at the current period prices is known as Gross Domestic Product at factor cost at current price.

• Gross domestic product at factor cost at constant prices: Gross domestic product at factor cost (GNPFC) when measured at any previous period prices is known as Gross Domestic Product at factor cost at constant price. Gross domestic product at factor cost at constant prices is also known as Real GDP.

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Macroeconomics


• GDP Deflator: The GDP deflator, also called the implicit price deflator for GDP, is defined as the ratio of nominal GDP to real GDP:

GDP Deflator = (Nominal GDP/ Real GDP)

• Nominal GDP measures the value of the output of the economy at current prices. Real GDP measures output valued at constant prices. The GDP deflator measures the price of output relative to its price in the base year.

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Accounting Classification of Union Budget


Accounting classification of government expenditure:

(i) Revenue and Capital (ii) Developmental and Non-Developmental and (iii) Plan and Non-Plan.

REVENUE AND CAPITAL EXPENDITUREExpenditures that result in the creation of new assets and

those which do not. Revenue expenditure is for the normal running of

government departments and various services, interest charges etc.

The main purpose of the capital account is to show the gross and net capital formation in the public sector during the accounting period. Capital expenditure results in creation of assets in the economy.

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Government budget comprises Revenue Budget and Capital Budget.

Revenue budget consists of revenue receipts of government (tax revenues and other revenues) and the expenditure met from these revenues.

Tax revenues comprise proceeds of taxes and other duties levied by the Union.

Revenue expenditure is for the normal running of government departments and various services.

Broadly speaking, expenditure which does not result in creation of assets is treated as 'Revenue expenditure'.

All financial administration grants given to state governments and other parties are also treated as revenue expenditure.



Capital budget consists of capital receipts and payments. The main items of capital receipts are

a) loans raised by government from public which are called market loans,

b) borrowings from Reserve Bank of India and other parties through sale of Treasury Bills,

c) loans received from foreign governments and

d) loans granted by Central government to state and union territory governments and other parties.

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A capital expenditure may be defined as any expenditure the benefits of which extend over a period of time exceeding one year.

Capital expenditure is the expenditure which is intended for creating concrete assets of a material character in the economy.

Examples of capital expenditure are the acquisition of assets like land, buildings machinery, equipment and also investment in shares and loans and advances granted by Central government to state and union territory governments, government companies etc.






Developmental and non-developmental expenditure:

Developmental expenditure comprises expenditure incurred on education. medical care, public health and family planning, labour and employment, agriculture, cooperation, irrigation, transport and communication and other miscellaneous services. Expenditure incurred on these items both on Revenue and Capital accounts is also treated as development expenditure.

Non-Developmental expenditure, on the other hand, comprises expenditure incurred on items like defence, collection of taxes and duties, administrative services, interest on debt and other services, stationery and printing and other expenditure on general services.

Developmental expenditure leads to economic growth and development whereas Non-Developmental expenditure does not, at least directly.

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Plan and Non-Plan Expenditure:Plan expenditure refers to the expenditure

incurred by the Central Government on programmes / projects, which are recommended by the Planning Commission.

Non-Plan expenditure, on the contrary, is a generic term used to cover all expenditure of government, not included in the plan.

The distinction between 'plan expenditure' and non-plan expenditure' is purely an administrative classification.

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Non-Plan expenditure consists of many items of expenditure, which are obligatory in nature.

Items of expenditure, such as interest payments, pensionary charges, statutory transfer to states come under the obligatory nature.

Defence, internal security are essential obligations of a state. Besides, there are special responsibilities of the Central

Government like external affairs, currency and mint, cooperation with other countries and the expenditure incurred in this connection are treated as "non-plan" expenditure.

Of all the major items of Non-plan expenditure of the Central Government, interest payments, defence, subsidies take the lion's share of expenditure.



Revenue Deficit, Fiscal Deficit and Primary Deficit of Central Government


Revenue Deficit = Revenue expenditure –

Revenue receiptsFiscal Deficit = Total expenditure—Revenue receipt— Recovery of loans —Other receipt

Primary Deficit = Fiscal Deficit – Interest payment

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Unemployment


Frictional Unemployment: A temporary phenomenon which arises when workers are temporarily out of work while changing jobs or are suspended due to strikes or lockouts.

Casual Unemployment: In industries /services such as construction, catering etc., also in agriculture, where workers are employment on a day to day basis, there are chances of casual unemployment occurring due to short-term contracts which are terminable anytime.

Seasonal Unemployment: Industries or occupations such as agriculture, catering, holiday resorts, where production activities are seasonal in nature offer employment only for a certain period of time in a year. People engaged in such type of work may remain unemployed during the off-season, which is known as seasonal unemployment.

Structural Unemployment: Unemployment which arises due to change in the pattern of demand leading to changes in the structure of production in the economy is termed as the structural unemployment.

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Unemployment


Technological Unemployment: Due to introduction of new machinery, improvements in methods of production, labour-saving devices etc. some workers tend to be replaced by machines. This unemployment is known as technological unemployment. For example, use of synthetic rubber is bound to reduce demand for natural rubber leading to unemployment in rubber plantation.

Cyclical Unemployment: Associated with cyclical fluctuations of economic activity due to trade cycle; Mostly found in the capitalist countries like USA etc.

Chronic Unemployment: When unemployment tends to a long time feature of a country, it is called chronic unemployment. Underdeveloped countries suffer from chronic unemployment on account of the vicious cycle of poverty, resource scarcity, high population growth, low capital formation etc.

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Unemployment


Disguised Unemployment: Refers to a situation where people may be working and apparently employed, yet their contribution to output may be zero or negative. Found mainly in agriculture, public sector enterprises etc.

Labour force participation rate (LFPR): LFPR is defined as the number of persons/ person-days in the labour force per 1000 persons /person-days.

Worker Population Ratio (WPR): WPR defined as the number of persons/person days employed per 1000 persons/person-days.

Proportion Unemployed (PU): It is defined as the number of persons/person-days unemployed per 1000 persons/person-days.

Unemployment Rate (UR): UR is defined as the number of persons/person-days unemployed per 1000 persons/person-days in the labour force (which includes both the employed and unemployed).

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Price and Inflation


Inflation: A persistent and appreciable rise in the general level of prices of goods and services in an economy over a period of time.

Demand-pull Inflation: It is a situation when “too many money chasing after too few goods”. An excess of aggregate demand over aggregate supply generates inflationary rise in prices. When money supply increases it creates more demand for goods but if supply of goods cannot be increased due to full employment or other reasons, demand-pull inflation is caused.

Cost-push inflation: Cost-push inflation is caused by wage increase enforced by labour unions, profit increase by the entrepreneurs and input price rise due to structural or external reasons

Inflation Tax: Printing of money to raise government revenue is like imposing a tax as it causes inflation and inflation eats up a part of the value of money. This is called inflation tax

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Price and Inflation


Wholesale Price Index (WPI): WPI is a weighted average of price (whole sale) relatives of commodities, classified into three categories namely, primary, manufacturing and fuel and power.

Consumer Price Index (CPI): CPI is a weighted average of price relatives of a basket of goods and services consumed by the people.

Headline inflation: While ‘headline inflation’ covers the entire set of goods and services included in the general index, ‘core inflation’ otherwise known as ‘underlying inflation’ ignores the volatile items in the general index.

Inflation targeting: Inflation targeting refers to the practice of the central bank to set an inflation target and then adjust its monetary policy accordingly.

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Price and Inflation


Inflationary Gap: The inflationary gap is the amount by which aggregate expenditure would exceed aggregate output at the full employment level of income.

Producer Price Index (PPI): The Producer Price Index is a family of indices that measures the average change over time in the selling prices received by domestic producers of goods and services. PPIs measure price change from the perspective of the seller.

Headline inflation: Headline inflation covers the entire set of goods and services included in the general index.

Core inflation: Core inflation, otherwise known as ‘underlying inflation’, ignores the volatile items in the general index.

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Banking and Insurance


Monetary Policy: The term monetary policy refers to actions taken by central banks to affect monetary magnitudes or other financial conditions.

Bank Rate: Bank rate is the rate at which the central bank of a country provides loan to the commercial banks.

Open Market Operations: Open market operation consists of purchase and sale of securities by the central bank of the country.

Cash Reserve Ratio: Cash Reserve Ratio is a certain percentage of bank deposits which banks are required to keep with RBI in the form of reserves or balances.

Selective Credit Control: Selective Credit Controls are aimed at regulating the distribution of credit amongst sectors or purposes.

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Repo Rate: Repo (Repurchase) rate is the rate at which the RBI lends shot-term money to the banks against securities.

Reverse Repo Rate: Reverse Repo rate is the rate at which banks park their short-term excess liquidity with the RBI.

Financial inclusion: Financial inclusion is the process of ensuring access to appropriate financial products and services needed by vulnerable groups such as weaker sections and low-income groups at an affordable cost in a fair and transparent manner by mainstream institutional players.

Non-Performing Asset: An asset, including a leased asset, becomes non performing when it ceases to generate income for the bank. A non performing asset (NPA) is a loan or an advance where interest and/ or instalment of principal remain overdue for a period of more than 90 days in respect of a term loan.

Call money market: The call money market is an important segment of the money market where uncollateralized borrowing and lending of funds take place on overnight basis.

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Liquidity Adjustment Facility: RBI stands ready, on daily basis, to lend or borrow money from the banking system, as per the latter’s requirement, at fixed interest rates. The primary aim of such an operation is to assist banks to adjust to their day-to-day mismatches in liquidity, via repo and reverse repo operations.

Lead Bank Scheme: Lead Bank Scheme emphasizes making specific banks in each district the key instruments of local development by entrusting them with the responsibility of locating growth centres, assessing deposit potential, identifying credit gaps and evolving a co-ordinated approach to credit deployment in each district, in concert with other banks and credit agencies.

Development banks: Specialized public and private financial intermediaries providing medium and long-term credit for development projects.

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Five Year Plans


Economic planning: Economic planning is a sort of conceiving, initiating, regulating and controlling economic activity by the State according to set priorities with a view to achieving well defined objectives within a given time span.

Differentiate between plan and non-plan expenditure: The expenditure in developing ‘planned’ projects is plan expenditure while that on maintenance and running of the existing projects is known as non-plan expenditure.

Democratic planning: Planning is ‘democratic’ if people are associated at both formulation and implementation stages and it is finalized through debate among people’s representatives.

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Five Year Plans


Regional planning: Regional planning is a sort of spatial planning at various territorial levels (such as block/district/state) for achieving sustainable development for the region.

Indicative planning: Indicative planning is peculiar to the mixed economy. In a mixed economy, the public and private sectors work together. In indicative planning the private sector is neither rigidly controlled nor directed to fulfill the targets and priorities of the plan. The state provides all types of facilities to the private sector but does not direct it, rather indicates the areas in which it can help in implementing the plan.

Imperative planning: Under imperative planning all economic activities and resources of the economy operate under the direction of the state. There is complete control over the factors of production by the state. There is no consumers sovereignty in such planning.

Comprehensive plan: An economic plan that sets targets to cover all the major sectors of the national economy.

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Poverty: According to the World Bank (2000), “poverty is pronounced deprivation in wellbeing.”

Headcount Index: By far, the most widely used measure is the headcount index, which simply measures the proportion of the population that is counted as poor, often denoted by P0.

Poverty Gap Index: A moderately popular measure of poverty is the poverty gap index (PGI), which adds up the extent to which individuals on average fall below the poverty line, and expresses it as a percentage of the poverty line.

Definition of Poverty Line: A poverty line which distinguishes the poor from the non-poor is derived by estimating the value of the minimum required consumption levels of food, clothing, shelter, fuel and health care, etc.

Poverty

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Poverty


Absolute poverty: The people are said to be in absolute poverty if the minimum amounts of food, clothing and shelter necessary for survival absorb all of their income.

Poverty trap: A bad equilibrium for a family, community, or nation, involving a vicious cycle in which poverty and underdevelopment breed more poverty and underdevelopment, often from one generation to the next.

Basic needs: A term used by the International Labor Organization to describe the basic goods and services (food, shelter, clothing, sanitation, education, etc.) necessary for a minimum standard of living.

Poverty line: A poverty line which distinguishes the poor from the non-poor is derived by estimating the value of the minimum required consumption levels of food, clothing, shelter, fuel and health care, etc.

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Demography and Census


Demography: Demography is the statistical study of human population. It encompasses the study of the size, structure, and distribution of these populations.

Crude Birth Rate (CBR): CBR measures the number of live births per 1000 population in a given year.

Age-Specific Fertility Rate (ASFR): ASFR measures the annual number of births to women of a specified age or age group per 1,000 women in that age group.

General Fertility Rate (GFR): GFR is the number of live births per 1000 women ages 15-49 in a given year.

Total Fertility Rate (TFR): TFR is the sum of the Age-Specific Fertility Rates (5-year age groups between 15 and 49) for female residents during a year multiplied by 5, whole divided by 1000.

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Demography and Census


Crude Death Rate (CDR): CDR is the total number of deaths to residents in a given year divided by the total population of that year per thousand.

Infant Mortality Rate (IMR): IMR is the number of newborns dying under one year of age divided by the number of live births per thousand.

Neonatal mortality rate (NMR): NMR the ratio of the number of deaths of children less than 29 days of age in one year to the number of live births in that year per thousand.

Post neonatal mortality rate (PNMR): PNMR the ratio of the number of deaths in one year of children more than 29 days upto one year of age to the number of live births in that year per thousand.

Demographic Dividend: An increase in the working age ratio can raise the rate of economic growth. This is known as “demographic dividend.”

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Economy & Finance

Lecture by S. Maitra on IAS Indian Economy at Civil Services Study Centre