UPSC STATIC QUIZ – Economy : 14 March 2024

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We will post 5 questions daily on static topics mentioned in the UPSC civil services preliminary examination syllabus. Each week will focus on a specific topic from the syllabus, such as History of India and Indian National Movement, Indian and World Geography, and more.

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• Question 1 of 5 1. Question Consider the following statements regarding Fiscal prudence. Fiscal prudence implies spending excess to create demand in the economy. Fiscal Responsibility and Budget Management (FRBM) Act, 2003 institutionalised the concept of fiscal prudence. Which of the above statements is/are incorrect? a) 1 only b) 2 only c) Both 1 and 2 d) Neither 1 nor 2 Correct Solution: a) Fiscal prudence In simple words, fiscal prudence is Spending within budget. For any economy to mature, fiscal prudence is critical. If the government continues to spend way more than its revenues, it will either have to print more currency or borrow from the market to meet the shortfall. Printing currency will fuel inflation and, at times, hyper-inflation. In a bid to avoid these scenarios and mandate fiscal prudence, the Government of India passed the Fiscal Responsibility and Budget Management (FRBM) Act in 2003. Its objective was to institutionalize fiscal prudence and reduce the country’s fiscal deficit in such a manner that it gradually moves towards balancing the Budget. Incorrect Solution: a) Fiscal prudence In simple words, fiscal prudence is Spending within budget. For any economy to mature, fiscal prudence is critical. If the government continues to spend way more than its revenues, it will either have to print more currency or borrow from the market to meet the shortfall. Printing currency will fuel inflation and, at times, hyper-inflation. In a bid to avoid these scenarios and mandate fiscal prudence, the Government of India passed the Fiscal Responsibility and Budget Management (FRBM) Act in 2003. Its objective was to institutionalize fiscal prudence and reduce the country’s fiscal deficit in such a manner that it gradually moves towards balancing the Budget.

#### 1. Question

Consider the following statements regarding Fiscal prudence.

• Fiscal prudence implies spending excess to create demand in the economy.

• Fiscal Responsibility and Budget Management (FRBM) Act, 2003 institutionalised the concept of fiscal prudence.

Which of the above statements is/are incorrect?

• c) Both 1 and 2

• d) Neither 1 nor 2

Solution: a)

Fiscal prudence

• In simple words, fiscal prudence is Spending within budget.

• For any economy to mature, fiscal prudence is critical. If the government continues to spend way more than its revenues, it will either have to print more currency or borrow from the market to meet the shortfall. Printing currency will fuel inflation and, at times, hyper-inflation.

• In a bid to avoid these scenarios and mandate fiscal prudence, the Government of India passed the Fiscal Responsibility and Budget Management (FRBM) Act in 2003. Its objective was to institutionalize fiscal prudence and reduce the country’s fiscal deficit in such a manner that it gradually moves towards balancing the Budget.

Solution: a)

Fiscal prudence

• In simple words, fiscal prudence is Spending within budget.

• Question 2 of 5 2. Question Who among the following first mooted the idea of deficit financing? a) Adam Smith b) Milton Friedman c) John Maynard Keynes d) Alfred Marshall Correct Solution: c) Within the budgetary process, deficit spending is the amount by which spending exceeds revenue over a particular period of time, also called simply deficit, or budget deficit; the opposite of budget surplus. The term may be applied to the budget of a government, private company, or individual. Government deficit spending was first identified as a necessary economic tool by John Maynard Keynes in the wake of the Great Depression. Incorrect Solution: c) Within the budgetary process, deficit spending is the amount by which spending exceeds revenue over a particular period of time, also called simply deficit, or budget deficit; the opposite of budget surplus. The term may be applied to the budget of a government, private company, or individual. Government deficit spending was first identified as a necessary economic tool by John Maynard Keynes in the wake of the Great Depression.

#### 2. Question

Who among the following first mooted the idea of deficit financing?

• a) Adam Smith

• b) Milton Friedman

• c) John Maynard Keynes

• d) Alfred Marshall

Solution: c)

Within the budgetary process, deficit spending is the amount by which spending exceeds revenue over a particular period of time, also called simply deficit, or budget deficit; the opposite of budget surplus. The term may be applied to the budget of a government, private company, or individual. Government deficit spending was first identified as a necessary economic tool by John Maynard Keynes in the wake of the Great Depression.

Solution: c)

• Question 3 of 5 3. Question Which of the following action/actions can be taken by the Government to reduce the deficit budget? Reducing revenue expenditure Introducing new welfare schemes Rationalizing subsidies Reducing import duty How many of the above statements is/are correct? a) Only one b) Only two c) Only three d) All four Correct Solution: b) Statement 1 and 3 is correct. Statement 1: Unnecessary revenue expenditure bloats the fiscal deficit, and since it forms the majority of government spending, its reduction has a very large effect on the fiscal deficit. Statement 2: It will further increase the fiscal deficit. Statement 3: Subsidies are a major component of government spending, and its reduction will cut down fiscal deficit. Statement 4: It reduces tax revenue and thus increases fiscal deficit. Incorrect Solution: b) Statement 1 and 3 is correct. Statement 1: Unnecessary revenue expenditure bloats the fiscal deficit, and since it forms the majority of government spending, its reduction has a very large effect on the fiscal deficit. Statement 2: It will further increase the fiscal deficit. Statement 3: Subsidies are a major component of government spending, and its reduction will cut down fiscal deficit. Statement 4: It reduces tax revenue and thus increases fiscal deficit.

#### 3. Question

Which of the following action/actions can be taken by the Government to reduce the deficit budget?

• Reducing revenue expenditure

• Introducing new welfare schemes

• Rationalizing subsidies

• Reducing import duty

How many of the above statements is/are correct?

• a) Only one

• b) Only two

• c) Only three

• d) All four

Solution: b)

Statement 1 and 3 is correct.

Statement 1: Unnecessary revenue expenditure bloats the fiscal deficit, and since it forms the majority of

government spending, its reduction has a very large effect on the fiscal deficit.

Statement 2: It will further increase the fiscal deficit.

Statement 3: Subsidies are a major component of government spending, and its reduction will cut down

fiscal deficit.

Statement 4: It reduces tax revenue and thus increases fiscal deficit.

Solution: b)

Statement 1 and 3 is correct.

Statement 1: Unnecessary revenue expenditure bloats the fiscal deficit, and since it forms the majority of

government spending, its reduction has a very large effect on the fiscal deficit.

Statement 2: It will further increase the fiscal deficit.

Statement 3: Subsidies are a major component of government spending, and its reduction will cut down

fiscal deficit.

Statement 4: It reduces tax revenue and thus increases fiscal deficit.

• Question 4 of 5 4. Question Constant budget deficit will most likely lead to an expansion in the aggregate demand in the economy an immediate increase in the overall money supply in the economy Which of the above statements is/are correct? a) 1 only b) 2 only c) Both 1 and 2 d) Neither 1 nor 2 Correct Solution: a) S1: Government spending is an important part of aggregate demand or output (Y= C+ I + G), where investment and consumption are other components. For e.g. AD was revived in India in the wake of the 2008 recession by a fiscal stimulus. S2: Money supply consists of cash at hand + bank deposits + post office deposits. If the government is able to continuously borrow from the market and then spend all this money (which it would, given that it is running a deficit), money supply will not rise. There is a condition here that it does not borrow extra money from RBI. S2 is wrong regardless since there is no immediate increase in the money supply. This is because the money supply is regulated by the monetary authorities or the RBI. Money supply does not increase or decrease automatically by fiscal policy actions. Incorrect Solution: a) S1: Government spending is an important part of aggregate demand or output (Y= C+ I + G), where investment and consumption are other components. For e.g. AD was revived in India in the wake of the 2008 recession by a fiscal stimulus. S2: Money supply consists of cash at hand + bank deposits + post office deposits. If the government is able to continuously borrow from the market and then spend all this money (which it would, given that it is running a deficit), money supply will not rise. There is a condition here that it does not borrow extra money from RBI. S2 is wrong regardless since there is no immediate increase in the money supply. This is because the money supply is regulated by the monetary authorities or the RBI. Money supply does not increase or decrease automatically by fiscal policy actions.

#### 4. Question

Constant budget deficit will most likely lead to

• an expansion in the aggregate demand in the economy

• an immediate increase in the overall money supply in the economy

Which of the above statements is/are correct?

• c) Both 1 and 2

• d) Neither 1 nor 2

Solution: a)

S1: Government spending is an important part of aggregate demand or output (Y= C+ I + G), where investment and consumption are other components. For e.g. AD was revived in India in the wake of the 2008 recession by a fiscal stimulus.

S2: Money supply consists of cash at hand + bank deposits + post office deposits. If the government is able to continuously borrow from the market and then spend all this money (which it would, given that it is running a deficit), money supply will not rise. There is a condition here that it does not borrow extra money from RBI.

S2 is wrong regardless since there is no immediate increase in the money supply. This is because the money supply is regulated by the monetary authorities or the RBI. Money supply does not increase or decrease automatically by fiscal policy actions.

Solution: a)

• Question 5 of 5 5. Question Annual Financial Statement (AFS) of a Government in a financial year includes Estimates of revenue and capital receipts Estimates of expenditure Introduction of new schemes/projects Ways and means to raise the revenue How many of the above options is/are correct? (a) Only one (b) Only two c) Only three d) All four Correct Solution: d) Annual Financial Statement (AFS) is a statement of the estimated receipts and expenditure of the Government in a financial year. In addition to it, the Budget contains: Estimates of revenue and capital receipts, Ways and means to raise the revenue, Estimates of expenditure, The economic and financial policy of the coming year, i.e., taxation proposals, prospects of revenue, spending programme and introduction of new schemes/projects. Incorrect Solution: d) Annual Financial Statement (AFS) is a statement of the estimated receipts and expenditure of the Government in a financial year. In addition to it, the Budget contains: Estimates of revenue and capital receipts, Ways and means to raise the revenue, Estimates of expenditure, The economic and financial policy of the coming year, i.e., taxation proposals, prospects of revenue, spending programme and introduction of new schemes/projects.

#### 5. Question

Annual Financial Statement (AFS) of a Government in a financial year includes

• Estimates of revenue and capital receipts

• Estimates of expenditure

• Introduction of new schemes/projects

• Ways and means to raise the revenue

How many of the above options is/are correct?

• (a) Only one

• (b) Only two

• c) Only three

• d) All four

Solution: d)

Annual Financial Statement (AFS) is a statement of the estimated receipts and expenditure of the Government in a financial year. In addition to it, the Budget contains:

• Estimates of revenue and capital receipts,

• Ways and means to raise the revenue,

• Estimates of expenditure,

• The economic and financial policy of the coming year, i.e., taxation proposals, prospects of revenue, spending programme and introduction of new schemes/projects.

Solution: d)

Annual Financial Statement (AFS) is a statement of the estimated receipts and expenditure of the Government in a financial year. In addition to it, the Budget contains:

• Estimates of revenue and capital receipts,

• Ways and means to raise the revenue,

• Estimates of expenditure,

• The economic and financial policy of the coming year, i.e., taxation proposals, prospects of revenue, spending programme and introduction of new schemes/projects.

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